ESG increasingly important in global shift towards sustainable economy

13 April 2017 6 min. read
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In the face of continued concern about the sustainability of economic activity, key agreements have been put in place to stave off long-term negative outcomes for environment and society. A new report finds that more focus on environmental, social and governance principles by investors can play a key role in speeding up the needed transition. 

The ratification of the Paris Agreement, and the development of the Sustainable Development Goals (SDG), which aim to address the effects of climate change and social development on the wider environment, has been heralded as a first step in a difficult journey for the global economy. The disconnect between economic activity and sustainable existence is starting to be closed as reality asserts itself and societies and business start to take accountability for their externalities more seriously.

The journey is a broad one, involving multiple stakeholders, from consumers and governments to businesses themselves – whose supply and value chains hold considerable sway in determining long-term sustainability and stewardship, or business as usual and its array of negative environmental and social consequences.

Investors echo strong support for greater CEO and board accountability

One group that has considerable influence in the future of humanity, are investors. This group has the capital to invest in sustainable growth and divest away from destructive practices. In recent years, environmental, social and governance (ESG) has become increasingly important to the investment community, particularly for large pension, sovereign wealth and the concerned ultra-rich, whose capital has considerable influence on reality.

In a bid to better understand the mindset of investors globally, EY recently surveyed, for its 'Is your nonfinancial performance revealing the true value of your business to investors?' report, part of the global investment community, which included 320 participants, of which one-third have more than $10 billion under management.

The survey found that calls for greater CEO and board accountability for the externalities of their companies and their respective supply chains, are echoed by investors. The survey noting that 92% of investors at least agree (42% strongly agree) that over the long-term, ESG issues such as climate change and executive diversity, have real and quantifiable impacts on businesses. The long-term outlook of companies in terms of returns, is increasingly seen as tied to environmental and social factors according to 89% of respondents.

Reasons for ESG reporting

In addition, the majority of respondents agree (82%) that environmental and social issues offer both risks and opportunities for companies, but for too long, they have not been considered core to their businesses. Finally, 92% of respondents agree that public company CEOs should lay out an explicit strategy each year for long-term value creation and directly affirm that the company’s board has reviewed it.

While the intent of various investor groups may range outside of business imperatives for profit at any cost, whether as social or environmental externalities, for issuers of ESG reports, image – not necessarily systematic action – remains pivotal the report finds. 74% of respondents say that building corporate reputation with customers remains the top motivation, followed by compliance with regulatory requirements, cited by 62% of respondents.

Responding to investor requests for disclosure comes in at 38% of respondents, with ESG issues, particularly in relation to key changes in regulation, social expectations, disruptive technology or environmental conditions, increasingly demanding that companies act and implement strategies in near term rather than kicking the can down the road.

Stranded assets concern

The current trends related to regulation, social expectations, disruptive technology or environmental conditions means that investors are becoming increasingly careful about where their money goes, as well as whether the long-term strategy of a company makes sense in a world that has limitation to the sustainability of collective actions.

Stranded assets are a key concern, with almost 30% of respondents saying that their fund has decreased its holdings in an asset type due to the risk of stranded assets, while 33% of respondents say that they are monitoring the possibility of stranded assets within their wider portfolios. 26% of respondents say that they are not acting on stranded assets.

Institutional investors nonfinancial issue importance

The investment respondents also noted a number of areas of nonfinancial issues of importance to them, with good corporate governance – issuers’ policy on business ethics – noted as important by 92% of respondents (35% very important). Client demand for more information drew 91% of respondents’ to indicate at least important, while evidence of improved future valuation from ESG investments and return on investment in ESG activities came in at 85% apiece.

Risks affecting investment decisions

The firm also asked respondents were also asked about key corporate governance, environmental and human rights risks that would potentially affect their investment decision.

A risk or history of poor governance saw 39% of respondents rule out investment immediately, while 58% said they would reconsider investment, while in terms of human rights risk from operations, 32% said that would rule out investment immediately while 57% said they would reconsider investment.

Other areas of concern noted by respondents include limited verification of data and claims, with 20% ruling out investment immediately and 63% reconsidering investment. ESG risks in supply chain that is unmanaged sees 15% rule out investment immediately and 76% reconsider the investment. Risk from climate change would see 8% rule out investment and 71% of respondents reconsider investment.