As ESG reporting standards continue to evolve, investors and other stakeholders are looking to a company’s ESG score to fill in the information gaps with a measure of objectivity. An ESG score can provide an important means of comparison for stakeholders, and it is increasingly factored into a company’s access to capital.
How ESG is scored, however, is not exactly clear cut. Here’s what companies and boards need to know about the scoring process – and how to make sure your ESG efforts are fairly represented.
What is an ESG score?
An ESG score measures a company’s performance regarding ESG (environmental, social, and governance) issues and risks. Similar to how a credit score indicates to lenders about your ability to repay debt, an ESG score rates a company’s ability to meet ESG obligations and mitigate risks.
Investors, government agencies, asset managers and other stakeholders look to these scores to compare ESG performance between industry peers and make investment decisions. As such, an ESG score is increasingly important to include in business plans and proposals.
Who determines your ESG scores?
Several independent agencies calculate ESG scores, including:
MSCI ESG Rating is one of the most well-known ESG ratings providers. This organization’s methodology measures a company’s resilience to ESG risks and how well those risks are managed relative to peers.
Carbon Disclosure Project (CDP) is a not-for-profit agency that provides scoring data and ranks cities and companies based on environmental transparency and action. Its rating helps investors find funds that invest in companies that are better at managing issues related to climate change, water security, and deforestation.
Sustainalytics ESG Risk Ratings measures a company’s exposure to industry-specific ESG risks and how well it manages those risks.
Bloomberg ESG Data provides ESG metrics and ESG disclosure scores for more than 11,800 companies in 100+ countries.
Dow Jones Sustainability Index Family scores only the top-ranked companies in each industry based on responses to its annual S&P Global Corporate Sustainability Assessment.
RepRisk Index uses AI and machine learning to assess a company’s reputational-risk exposure to ESG issues.
How is an ESG score calculated?
Each ESG scoring agency uses its own methodology, metrics, data, and weighting to rank performance across environmental, social, and governance categories. While the formulas vary, most third-party agencies use similar criteria in each category when calculating an ESG score.
- Environmental scoring factors focus on a company’s impact on the planet, such as carbon emissions, climate-change vulnerability, and soil and water contamination, and renewable energy.
- Social scoring factors focus on the way a company treats its people, the societies in which it operates, and the current political atmosphere, such as diversity and inclusion, corporate social responsibility, supply-chain labor standards, and conflict minerals.
- Governance scoring factors focus on corporate behavior, such as board composition, management diversity, lobbying activities, and accounting transparency.
The data is typically pulled from public sources, such as 10-Ks, sustainability reports, and proxy reports, as well as from regulators, governments, and NGOs. While some agencies do collect data from the companies themselves, others purposefully exclude such self-disclosures.
ESG scores are typically expressed on a numeric scale or with letter grades. MSCI’s ESG Ratings, for instance, range from “leader” (AAA, AA) to “laggard” (B, CCC).
It’s important to point out that your ESG efforts must be publicly shared to be included in your ESG score. And in general, the volume of information disclosed is nearly as important as your ESG efforts in determining your ESG score.
Why is an ESG score important?
An ESG score is an easy way for investors, asset managers, job hunters, and other stakeholders to compare performance on high-priority factors.
A high ESG score is seen as an indication that the organization is better equipped to handle risks, capitalize on opportunities, and prioritize long-term value over short-term gains. In general, higher-scoring organizations are considered lower-risk investments, have more options for accessing capital, and have higher stock prices relative to lower-scoring peers. These companies are also considered to be more resilient and more innovative.
Companies with low ESG scores, on the other hand, may well see their reputation damaged and possibly experience a loss of capital. They are looked upon as dangers to the environment and people. Consumers and investors could ultimately deem these companies too risky or opaque to do business with.
An ESG score is just one measure of an organization’s commitment to be a good corporate citizen, but it’s a visible one. If you find your company scoring lower than you wish – or want to outstep competition – consider what information you are sharing. Providing more – and more detailed – information can go a long way toward closing the gap between perception and reality.
You have the power to take control of the narrative, prove your efforts, and highlight the good things you’re doing throughout the company, your partners, and for the community. Be authentic with your ESG reporting – and watch what happens to your ESG score.
For more on ESG, download our e-book, Taking a Stand on ESG – and check out Riskonnect’s ESG software solution.