What Is ESG?
Environmental, social, and governance make up the ESG acronym and pertain to how businesses are evaluated based on their impact on society, the way they are operated, and the way they approach environmental sustainability. It is by developing an understanding of how a business views and manages these factors that investors, stakeholders, consumers, employees, and governments can determine their own interaction with that business.
Defining each factor offers insight into the metrics that are used to evaluate organizations based on ESG principles.
E – Environmental
How a business interacts with the environment is an increasingly important element for concerned parties to consider – what impact do the organization’s processes and operations have on the environment? What actions are they taking to mitigate their impact, reduce consumption, and lessen their business carbon footprint? ESG reporting includes details on how an organization approaches environmental sustainability throughout its entire value chain, from carbon emissions and water consumption to waste and raw material usage.
S – Social
Every business engages in activities that have an effect on the general public, and how these effects are handled matters a great deal. From customers and employees to the surrounding local communities and beyond, businesses must have strong principles surrounding fair compensation, health and safety, inclusivity and equality, as well as less obvious principles regarding issues including corporate corruption, child labor, modern slavery, and more. Furthermore, a focus on skill-building, education programs, and other social initiatives provides organizations with the ability to make a positive social impact.
G – Governance
The way an organization is operated at each level speaks to its focus on developing a sustainable corporate structure. Policies, procedures, and decision-making processes shouldn’t be considered lightly, and the inclusion of governance as a key ESG factor promotes standardized protocols that can be adopted and emulated. This means including elements such as regulation and compliance, and expanding the practice of risk monitoring beyond traditional economic risk evaluation to protect both people and the planet.
What Does ESG Mean for Investors?
For investors, ESG refers to the standards outside of the usual financial considerations – specifically, environmental, social, and governance performance – which are used to evaluate a potential investment opportunity based on how an organization aligns with core ESG principles. This isn’t a new practice, but instead one that has grown in popularity since the 1960s. Organizations committed to social and environmental responsibility often display signs of strength and prosperity that attract investors who are focused on long-term returns – a concept that proved to be valid throughout the COVID-19 pandemic as more consumers placed ESG principles at the forefront of their decision-making process.
As such, ESG investing has evolved to establish three main goals, which are:
● To identify organizations that boast strong ESG performance in an effort to gain long-term returns that outperform the market.
● To make informed investment decisions based on which organizations are best equipped to perpetuate positive, stable growth, thereby offering an enhanced level of protection for investments.
● To promote ethical and responsible investing as well as encourage ethical and responsible business operation for those seeking to invest.
What Are the Common Investor Objectives?
There are three common objectives that investors pursue under the ESG investing umbrella:
Integration
Including ESG risks and opportunities to foster long-term returns. This objective can be achieved by utilizing common approaches such as bottom-up ESG integration, top-down ESG integration, best-in-class selection, thematic investing, and active ownership.
Values
Value-based investing means choosing investment opportunities that align with personal morals and beliefs. Best-in-class selection, exclusionary or negative screening, active ownership, socially responsible investing (SRI), and faith-based investing are all common approaches.
Impact
Impact investing pertains to investing in opportunities that produce or support social and/or environmental benefits in addition to financial gain. Mission-related investing, impact investing, thematic investing, and active ownership are common approaches under the impact objective.
What Does ESG Mean for Corporates?
For corporates, ESG provides an opportunity to distinguish themselves in either a positive or negative light. Organizations that strive to meet modern ESG standards can solidify their market position and attract investors, while ignoring ESG standards and best practices can have a significantly detrimental impact on an organization’s future. As such, the goals of ESG for corporates include:
● Attracting investors by creating sustainable value for existing stakeholders.
● Identifying and taking action against risks that could disrupt ESG standards in an effort to ensure a robust market position.
● Researching new and emerging ESG issues to get an early jump on potential problems.
● Increasing revenue by leveraging consumer, investor, and regulator trust to enhance organizational reputation and expand to new markets.
● Identifying and understanding practices that result in more efficient resource distribution.
● Keeping compliance risk and regulatory risk low.
What Does ESG Mean to the Public, and How Is Society Driving ESG?
While identified by alternative terminology, the purchase decisions of the general public are often driven by ESG principles. Consumers look to spread their values and concerns to larger audiences, make conscientious purchase decisions, and reduce their own impact on the environment by choosing vendors, retailers, and manufacturers who place importance on sustainability. They are interested in supporting organizations that are actively working to reduce inequality and injustice and build a better, more inclusive future for everyone.
Why Is ESG Important?
ESG acts as a framework, road map, and guideline for organizations of all types that are looking to increase their performance in terms of social responsibility, environmental sustainability, and governance. By actively engaging in positive change in these areas, citizens, businesses, and governments can align their shared values into a measurable spectrum that is constantly evaluated and kept in check by a third party.
The Growth of ESG
As the world surpasses new frontiers of technology amidst changing global environmental factors, a new generation of investors embed ESG principles throughout their portfolio. The importance of ESG performance is rapidly increasing, and corporations must keep up with the demands of both the planet and the people who can ensure their continued economic success.