ESG has been a hot topic in the media now a days. It is widely known that most renowned companies in India place emphasis on ESG as one of their management keywords, but it is not easy to explain what the concept is exactly. India CSR will publish a series of information on ESG throughout 2022 to build up the internal and external consensus regarding ESG management which has become a prerequisite for a business survival, not simply a trend.
Evolving ESG management
The term ESG was known to the public in 2006 when UN PRI (Principles of Responsible Investment) announced a need for sustainable investment through the incorporation of environmental, social and governance factors into investment decision-making. The PRI was established as a result of long discussions and debates among a group of institutional investors and academic and civil society experts around the world invited by the then United Nations Secretary-General Kofi Annan. The PRI was designed to research corporate investment in which ESG factors are taken into account. For example, a total of 3,635 investment companies and investment-related service institutions including Korea’s National Pension Service are on the list of UN PRI.
ESG, derived from a more familiar concept of CSR (Corporate Social Responsibility), is included in that of sustainable management. The reason behind the sudden rise of ESG in corporate management lies that investors and rating agencies began to use ESG as an indicator to evaluate corporate value. Together with the traditional indicator of financial performance, three pillars of sustainable management including environment, social and governance have become factored into corporate investment decision. Financial institutions have shown a great interest in ESG-based investment. That is because any management issues facing the companies invested in resulting from environmental pollutions or unhealthy governance lead to heavy losses to the investors involved. In this sense, the companies which receive investments or loans from such financial institutions focus more on ESG evaluation.
A closer look at three factors
The three factors are all crucial, but the “environment” components are growing in importance. Joe Biden, inaugurated as the 46th US president in January 2021, pledged to pay a special attention to the environment. He highlighted the significance of environmental protection, tweeting on November 4, 2020, that “Today, the Trump Administration officially left the Paris Climate Agreement. And in exactly 77 days (Biden’s inauguration day), a Biden Administration will rejoin it.” In sustainable management encompassing the concept of ESG, a company is managed to the extent which the environment and ecological system of the earth are not damaged, and therefore “environment” bears significance.
The “social” components are divided into three sections: Human capital section includes employment and working conditions, labor-management relations, safety in workplace, and human resource development, and consumer section covers fair trade, corruption prevention, promotion, cooperation and win-win relations regarding social responsibilities, fair trade for consumers, and consumer safety and protection. And community section encompasses participation in local community and social contribution, and communication with local community.
Among these, “compliance” is regarded essential. India’s leading companies express their willingness to take the lead in promoting ethical management. In order to monitor compliance management, they set out to establish a corporate compliance monitoring committee, an ethical and compliance committee and CCO (Chief Compliance Officer) system, and check their compliance state on a regular basis. Notably, after having a hard time because of private equity fund issues, financial companies have promoted reorganization and personnel reforms to establish a strong compliance management as part of their efforts to improve consumer safety. In addition, the emergence of value conscious consumption, one of main characteristics of the millennial generation, will lead to increasing emphasis on the social components.
Meanwhile, the “governance” components are weighted higher than others in the ESG evaluation criteria. Although the environment and social components are regarded significant, as mentioned above, ESG evaluation puts the most importance on the governance factor in reality. The governance components include diversity of the board of directors, remuneration of executive-level employees, ownership and control, non-compete practices, corporate ethics, anti-corruption, and transparency of taxes. These components have been already quantified a long time ago, and easy to measure relatively, which are considered the most credible than the other two factors. A majority opinion is that all the ESG criteria should be evaluated equally since all the factors are considered important. In reality, however, sound governance is highly likely to lead to operating the environmental and social factors in a right way, placing more importance on the governance-related components.
Beware of “ESG washing”
About a century ago, the American poet Ella Wheeler Wilcox wrote in her poem “The Winds of Fate” that “One ship drives east and another drives west. With the self-same winds that blow. Tis the set of the sails. And not the gales.”
ESG evaluation started from international organizations, investment institutions and financial institutions. Currently, a larger number of companies appear moved by “gales of ESG.” Some companies draw a sail and move toward to achieve social value through the assessment of their environmental, social and governance factors, while others go drift on the sea with a sail of ESG in name only. ESG has become widely accepted in the industry. It is time to choose whether we truly act up to our words or simply pretend to conform to the ESG guidelines.
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