- Saurav Dutta

Impact of ESG on Industries

Unwinding the ‘Environmental, social, and governance (ESG) criteria’ to screen potential investments of socially conscious investors

by Saurav Dutta

In the 21^st century, business investors have displayed their interest in putting their money where they find their values are in-line with the organization where they are willing to invest. For instance, according to the biennial “Trends Report” published by The Forum for Sustainable and Responsible Investment (US SIF), at the beginning of 2020, 384 money managers, 530 institutional investors, and 1204 community investment institutions that had worth $16.6 trillion in US-domiciled assets practiced incorporation of ESG.¹ One of the major reasons behind the high magnitude of investment flow is the fact that a strong environmental, social, and governance (ESG) proposition correlates with higher equity returns, reduction in downside risk, and can also safeguard a company’s long-term success.

Understanding the Environmental, Social, and Governance (ESG) Framework

ESG is an inextricable part of how organizations do business. The framework includes a set of standards that allow socially conscious investors and federal regulators, such as the United States Securities and Exchange Commission (SEC), to screen potential investments and audit for compliance. Also commonly referred to as socially responsible investing (SRI), responsible investing, impact investing, or sustainable investing, the ESG framework consists of three individual elements:

The Environmental, Social, and Governance (ESG) Framework

E in ESG	Environmental Criteria	Deals with the company’s use of energy, discharge of wastes and carbon emission, along with, initiatives taken for natural resource conservation, and climate change among others.
S in ESG	Social Criteria	Identifies the relationships and the reputation of the company with people and institutions in the communities. Also deals with labor relations and diversity & inclusion.
G in ESG	Governance	Deals with the internal system of practices, controls, and procedures that the company adopts in to govern itself.

Why is ESG Important?

Organizations nowadays are increasingly being pressured by the see-through economy and the growing federal regulations more than ever before for justifying their status of ESG and also for sustaining their disclosures from the scrutiny of federal regulators on misstatements. Meanwhile, several other businesses are struggling to find a way to achieve environmental, social, and governance (ESG) in a meaningful way and to stay ahead of the competition.

On top of this, the long ascent of global economic recovery, post the COVID-19 pandemic, and the global economic downturn during the same period has resulted in significant stress for all the investors. As a result, there is a requirement for a strong commitment and decisive action from the financial markets, as well as supportive stimulus programs from the international governments with sustainability objectives.

According to a report titled “Volatile Transitions: Navigating ESG in 2021” by the Harvard Law School Forum on Corporate Governance, the year 2021 offered responsible investors “an opportunity to aid in the delivery of a socially and environmentally sustainable global recovery”. The report also stated that “ESG investors were now seen to be ahead of the pack, and in a prime position to utilize their reputations to garner enhanced mainstream buy-in towards sustainable business practice”.2

On the other hand, according to a report titled “Sustainable Funds U.S. Landscape Report”, by Morningstar, Inc., in the year 2020, ESG funds captured $51.1 billion of net new money from investors in the United States, thereby recording a consecutive annual record for the fifth time. This was an increase from around $21 billion in the year 2019.3

Impact of Environmental, Social, and Governance (ESG) on Industries

Over the past three decades, the ESG community has achieved significant success in building awareness on the benefits of ESG investing and in bringing about change in existing business policies. It has been observed that a strong ESG practice resulted in better operational performance in more than 80% of companies, and further contributed to a good stock price performance of nearly 75% of organizations. In addition, practicing ESG also resulted in lowering the cost of capital of around 85% of the companies and further helped in gaining strong sustainability scores.

Industries worldwide, that have adopted ESG principles had a noteworthy impact on the workforce sentiment, which, in another way, has proved to be a major competitive advantage for the organizations. According to a report titled “ESG as a Workforce Strategy”, published by Marsh & McLennan Companies, Inc., stated that top employers who were measured by attractiveness to talent and employee retention had significantly higher ESG scores as compared to their peers. This was majorly due to the strong environmental performance of these companies and for the greater focus on social criteria of the ESG framework.4

On the other hand, organizations are also focusing on balancing racial equity. Recently, several developed nations have created profound racial inequities, especially due to the structural barriers in these countries. As a result, organizations are pouring in investments to address key drivers of the racial wealth divide and provide economic opportunity to underserved communities. For instance, according to a report titled “Environmental Social & Governance Report 2020” published by JP Morgan Chase & Co., the company committed $30 billion to advance racial equity and also stated that they are redoubling their efforts to build a more equitable and representative workforce within their company.5

In the emerging markets globally, ESG has become extremely important and companies worldwide are increasingly focusing on shifting to a more sustainable, low-carbon future. For instance, the theme for the 2020 Expo in Dubai is sustainability. On the other hand, JP Morgan Chase & Co., in its report titled “Environmental Social & Governance Report 2020” stated that the company targeted to advance in the field of climate action and sustainable development by financing and facilitating more than $2.5 trillion over the next 10 years. These goals are set so as to achieve net-zero carbon emissions by 2050.6

Environmental, Social, and Governance (ESG) and the Road Ahead

The issues and developments associated with the ESG framework are increasingly complex, and with the impact of the COVID-19 pandemic still looming over most economies globally, the responsible investors have to face a balancing act of maintaining momentum on climate change action in the year 2022, and also act as a leader in the recovery and redevelopment of localized economies. Companies, on the other hand, can focus on creating value by following the below-mentioned ESG value creation matrix:

About Saurav Dutta:

Saurav is a passionate writer and keeps interested to try different forms of writing. He is currently associated with Research Nester Private Limited as a Senior Associate L2: Content Writer & Editor. Social and environmental causes are the areas that drive his interests, apart from his day-to-day writing in the market research industry.

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