Janet Du Chenne, Advisory Board Member of FinTech B2B Marketing and Editorial Director of flow magazine, Deutsche Bank Corporate Bank’s insights magazine for corporate and institutional clients, sets out how environmental, social and governance (ESG) factors have moved from being a niche product for well-meaning companies to becoming part of a megatrend shaping the global economy
Just as the bursting of the dotcom bubble in 2001 uncovered fraud at Enron and WorldCom, so the 2008 financial crisis shone a light on accounting and audit mismanagement at leading global banks such as Lehman Bros and Bear Stearns, while Japan’s 2011 earthquake and tsunami helped unveil accounting problems at Toshiba. The coronavirus pandemic has brought to light similar scandals, with China’s Luckin Coffee being delisted from Nasdaq after failing to file its annual report and reportedly inflating sales figures.
Each crisis has nurtured the journey of governance statements into company reports and accounts, encouraging companies to adopt good corporate governance through a policy of greater transparency. The notion of corporates ‘doing good’ became a topical boardroom discussion post-Enron and, following British Petroleum’s Deepwater Horizon oil spill in the Gulf of Mexico in 2010 , environmental and social joined governance to form a trio of measures that companies have begun integrating into their reporting to showcase their improved ethical behaviour to investors and stakeholders.
A deeper understanding of ESG between issuers and investors followed, with the wider capital markets community throwing its weight behind supporting ESG reporting and communication with global frameworks and reporting formats.
Auditing groups played their part. PwC sought to bridge the divide between investors and corporates on ESG reporting. They explained investors’ need to understand a company’s long-term value creation plan and receive credible, standardised information to support long-term risk assessments while ensuring corporates – even those with good ESG stories to tell – were giving investors the right information in the right format.
Investor sentiment changes
Investors have also changed the way they look at ESG. In a flow article I wrote titled ‘How ESG grew up through the pandemic’ 1 I cite a report from the Deutsche Bank research team showing how investors have severely curtailed their investment into ESG funds. A further analysis of the Global Impact Investing Network’s 2020 investor survey during the pandemic shows that overall, investors will increase their investment in ESG by two per cent this year.
ESG-themed funds in the US have returned very similar performance to those of the broader market during the pandemic. The findings indicate that ESG is being increasingly judged on the same merit as traditional asset classes. The flow article includes a quote by research analyst Luke Templeman who says: “The theory was that investors care less about ‘doing good’ during a crisis. This gives additional weight to the argument that investors are judging ESG stocks and funds based on their financial merits, rather than an altruistic merit that accepts underperformance.”
Frameworks drive action
Regulatory intervention such as the EU Taxonomy, which sets out standards for sustainable activities, has bolstered the merits of ESG and helped to position the issuance of green bonds as a maturing market, boosted on the political side by the Paris Climate Agreement, the supplementary One Planet Summit in 2017 and ultimately the European Commission’s Sustainable Finance Strategy. The EU Taxonomy should offer investors transparency in how firms measure up on their sustainability agendas and, as the EU revises its directive on non-financial reporting for companies, ESG can be used to identify a corporation’s biggest risks.
The pandemic, far from delaying the implementation of ESG practices, has accelerated a process towards giving ESG a more balanced and holistic focus. Many corporations have gone further, and adopted ESG as a strategic imperative, acknowledging that beyond the potential short-term financial impacts, there is the long-term risk impact and strategic imperative that will define a corporation’s licence to operate. Ultimately, ESG feeds directly into the question of sustainability, a key consideration for both corporates and investors, and one of the megatrends currently shaping the global economy.
This is an abridged version of the full-length article. To access the article sign up for the free membership here.