ESG means different things to different people. Environmental, Social, and Governance (ESG) is a well-intended idea that started circulating in 2004, with lofty aspirations of making capitalism work better and dealing with threats of climate change. More recently ESG has been under fire for greenwashing hype and energy policy controversies. (ESG, Three Letters That Won’t Save the Planet, The Economist, July 23, 2022)
ESG has several problems. First it combines numerous objectives and no clear guide for understanding or making trade-offs between biodiversity, climate change, water quality, employee well-being, human rights, corporate governance, anti-corruption, risk management etc. A survey of six leading rating agencies found they used 700+ different metrics across 64 categories, and did not include basics such as GHG emissions. (ESG Investing Special Report: In need of a clean-up, The Economist, July 23, 2022, p 4)
Second, the incentives are murky with fees running higher for ESG funds vs. non-ESG funds. The link between virtuous corporate behavior and financial outperformance over the long term is also murky. ESG funds tend to be overweight growth and technology sectors, and underweight “old-economy” (value), fossil fuel, and weapons stocks. ESG funds performed well from 2010-2021, but underperformed 2022 YTD, due to rising interest rates and the war in Ukraine.
Third, ESG measurement is inconsistent more than half the time across rating systems and is easily gamed by selling “dirty” assets to a third party service provider. Also, ESG frameworks were developed to analyze non-GAAP reported risks to company financial performance. They are not designed to quantifiably measure harmful externalities such as emissions, a direct contributor to climate change.
Accurately reporting on what is causing the pollution warming the planet is a better way to help the public understand what really is moving the needle on climate change, for better or for worse.
Investors and regulators in the US, EU, Japan, Britain, and elsewhere (Brazil, Hong Kong, New Zealand, Singapore, and Switzerland) are pushing for more standardized and universal emissions/climate risk reporting.
With national governments gridlocked, there is an opportunity for businesses along with state and local governments (SL&G) to take the lead by focusing on measuring emissions and doing it better. California governor, Gavin Newsom, recently signed a budget authorizing $54B in new spending to help mitigate climate change effects. The California Air Resources Board, issued a new mandate requiring 50% of electricity produced by 2030 be drawn from renewable sources. All new cars sold in the state must be electric or zero -emission by 2035. Illinois, Nebraska, and New York have passed legally binding clean electricity standards and emissions-reductions targets. (US Climate Policy: Tick, tick boom, The Economist, July 23, 2022, p 22) SSV actively partners with local governments and agencies on adopting climate friendly building codes and infrastructure.
At SSV’s Sustain-a-Palooza! 2022, David Jaber, founder of Climate Positive Consulting and author of Climate Positive Business, explained how companies can report on what matters most to the climate: Green House Gases. Business’ control GHG emissions which impact global temperatures. Companies may choose from several tried and true frameworks: Science Based Targets, Net Zero, as well as several other reporting and certification programs focused on reducing GHG’s and reducing climate change risk.
Science Based Targets (SBTs) include science based GHG reduction goals that are aligned with the 2015 Paris Agreement goals to limit warming to 1.5 degrees Celsius (e.g. 50% reduction from 202 levels by 2030). The time frame is 5-10 years. Emission reductions are required, and no carbon offsets are allowed.
Net-Zero is another GHG reduction framework that looks further out into the future and does incorporate carbon offsets. While the Net-Zero framework is less specific than SBT’s, there are six ways to evaluate the meaningfulness of Net Zero commitments:
Other GHG reduction programs are shown in chart below.
Bright spot in Green Finance
Chile recently issued a Sustainability-Linked Bond Framework, laying the groundwork for issuing sustainability-linked sovereign bonds. Bond proceeds will be used to reduce GHG emissions and diversify the country’s energy portfolio. The bond coupons (interest payments) are linked to quantifiable and measurable climate goals. Failure to meet the targets on emissions reduction and renewable energy generation will result in Chile paying a set penalty to investors. (https://www.weforum.org/agenda/2022/07/still-reason-for-optimism-about-esg-investing)
Watch David’s presentation here: David Jaber: Accountability + Climate } ESG
David Jaber is the founder of Climate Positive Consulting. His firm has helped 150 companies with analyzing their carbon emissions footprints, craft strategies and action plans for reducing emissions, and drive GHG reduction. David is also the author of Climate Positive Business – How You and Your Company Hit Bold Climate Goals and Go Net Zero.
The Economist, July 23, 2022
World Economic Forum
The bright spots in a complicated ESG framework:
NYT Climate Forward London (July, 2022)
The Summer 2022 heatwave has eviscerated the idea that small changes can tackle extreme weather. George Monbiot in The Guardian: https://www.theguardian.com/commentisfree/2022/jul/18/heatwave-extreme-weather-uk-climate-crisis