Digging deeper: Identifying meaningful ESG commitments
- ESG and Sustainable Business
Digging deeper – identifying meaningful ESG commitments
Tim Hoeflinger | Consultant
A tangle of ESG rating systems and environmental and social certifications has emerged to capture, benchmark, compare and highlight companies’ efforts to address issues outside of the sphere of pure profit maximisation. It can be difficult to understand how accurate these yardsticks of corporate behaviour are, particularly in the absence of comprehensive and unified frameworks and rules governing ESG standards. There is the risk of companies “greenwashing” their ESG practices and policies. All of these can erode stakeholder trust in the very measures intended to promote transparency and accountability in ESG performance. To get a true picture of the risks and opportunities associated with an investment or partnership, your diligence should go beyond ESG ratings and public disclosures.
Knowing a company’s impact
Corporate stakeholders, employees, the media and the public at large are getting better at differentiating between PR measures and genuine, well-executed ESG commitments. It is crucial to look beyond certificates and rankings when assessing corporate ESG commitments. You should evaluate the ESG risks inherent to the industry in which the counterparty operates, look across its full supply chain, and consider the challenges faced by local operating contexts.
Condensing a corporation’s ESG practices and policies into one number can be a helpful tool. However, a single ESG rating won’t tell you the whole story. Depending on the assigned weights for individual ESG score components, high aggregate scores can mask poor results in subcomponents. This explains why you sometimes find companies with controversial profiles and track records taking pole positions in some ESG rankings.
Performing well by some standards…but not others
For large companies with diverse operations and product portfolios, complying with certification standards in one specific area is not sufficient, in the same way, that merely complying with national standards is not enough. A large chemical company may, for instance, be certified as a social enterprise and perfectly comply with all national regulations in Brazil, while the products that it is selling in that country are, in fact, prohibited in most other countries in the world due to serious health risks (Case study box). While lax national regulation standards are part of the issue in these cases, it remains the responsibility of the corporation to be proactive and act according to widely recognised international standards and norms.
A rigorous and comprehensive ESG assessment needs to go beyond the basics. Besides checking for the obvious red flags, it needs to recognize a corporation’s proactive measures, contextualize those with the corporation’s capabilities and analyse the full spectrum of its social and environmental impact. For evaluating a corporation’s environmental performance, this means considering a broader set of factors beyond ticking boxes for environmental violations and compliance with national environmental standards. A corporation’s carbon footprint, climate actions, consideration of sustainable development goals, usage of sustainable finance, sustainable production initiatives, natural resource management policies, plastic waste impact, position regarding animal testing and environmental justice approach all represent important parts for putting together a complete picture of its environmental standing. Similarly, besides screening for blatant labour law violations and working conditions, to fully comprehend a corporation’s social conduct, one needs to look at more diverse aspects such as philanthropic initiatives, respecting of indigenous rights, human rights policies, usage of prison labour, responsible supply chain management, community engagement, diversity, equity, and inclusion policies. Likewise, when analysing a corporation’s governance standards, one must dive deeper than corporate misconduct and anti-corruption measures, to include points such as consumer protection, management board track record and diversity, cyber and data security, transparency, ethical organizational culture, tax evasion, investor relations and supply chain risk management into the due diligence scope.
As the momentum behind ESG continues to increase, stakeholders will increasingly question the authenticity and intentions behind corporations’ ESG commitments, practices and policies. In light of this growing scrutiny and the absence of comprehensive and unified frameworks and rules governing ESG standards (although there are some promising developments in regulations and merging of frameworks), it is imperative to be more thorough and holistic in diligence efforts, providing a complete and authentic picture of a corporation’s ESG performance.
Case study: The pesticides market in Brazil
As one of the largest agricultural producers and the world’s main producer of soy, coffee and oranges, Brazil has become one of the top markets for pesticides. The rapid growth in Brazil’s agricultural sector, the resulting demand for pesticides and less restrictive regulation have made the South American country a particularly attractive market for Highly Hazardous Pesticides (HHPs) that are banned or being phased out in other nations due to serious health or environmental risks.
Several of the world’s largest agrochemicals producers, including a handful of European and North American companies, continue to sell HHPs in Brazil that are either completely banned or highly restricted in their own countries (examples include the fungicide Carbendazim, the insecticide ingredient Fipronil and the herbicide Atrazine).
Under the administration of Brazilian President Jair Bolsonaro, the number of approved pesticides has reached unprecedented levels. Many of those approved are banned in Europe. This apparent capitalisation on weaker regulatory standards to sell products that are prohibited in their domestic markets puts the large agrochemical companies in the spotlight and has led to protests in front of corporate headquarters in Europe and Brazil and respective adverse media coverage. In the light of increased ESG scrutiny, it may become increasingly difficult to justify the continuation of the sale of these products to shareholders, investors and the wider public, especially when the same companies extensively promote and highlight their ESG initiatives and agendas. This paradox calls into question the corporations’ ESG efforts as it seems to demonstrate that while they comply with regulations in the countries where they are based and where governments would oppose their products, they disregard the intent of these regulations when selling their products abroad. It is, thus, crucial that diligence goes beyond the territorial borders of a particular investment or partnership and considers a company’s global reach and transnational consistency in the application of ESG commitments.