ESG Factors: How Firms Attract Conscious Investors

ESG Factors: How Firms Attract Conscious Investors

ESG Factors is an umbrella term used by (professional) investors that refers to:

E - Environmental and Energy related issues (Corporate Sustainability)
S - Social or Societal issues and concerns (Corporate Social Responsibility)
G - Governance issues (Corporate Governance, Corporate Transparency and Corporate Accountability)

ESG factors is a set of standards and issues for a company's operations that conscious investors use to screen potential investments.

Use And Manipulation of ESG Factors by Firms

The trend for more corporate sustainability like in the recently published Sustainable Development Goals (SDGs) of the UN are forcing many organisations to consider ESG factors in their operations in order to hedge against risks associated with ESG factors and as an effort to attract investors in their businesses.
Most corporates noted that ESG factors can affect their corporate image and reputation because the 17 factors are integral elements that shape investor confidence, major criteria for capital markets valuation, and that they have an impact on company's relationship with stakeholders and stockholders.
As a result, firms are combining ESG performance factors in their operations in order to remain relevant in terms of attractiveness for investors and to facilitate their long-term sustainability drive. The following are some of the ways in which firms hedge strategic risks related to ESG factors. One should note that the impact of the factors varies from one company to another and depend also on other variables like market size and geographical location of the firm.

Corporate Sustainability Issues

Sustainable development driven investors consider how a company performs as a steward of nature before or when making investment decisions and select a company to invest in as a result of this analysis. Typical things considered as part of the environment are:

Climate change - firms disclose their climate change mitigation efforts and strategies aligned to reduce climate change.
Greenhouse gases (GHGs) - firms disclose their corporate emissions track record.
Pollution - firms disclose remediation measures and industrial facility reporting and may use Environmental Insurance.
Energy usage - firms uses alternative renewable source of energy like solar energy.
Remanufacturing and Recycling - firms adopt product life cycle stewardship by encouraging the use of 4Rs namely reduce, recycle, repair and reuse principles.
Carbon footprint - organisations participate in carbon reduction programs and can join social and industrial carbon emissions reduction coalitions.
Forest depletion - firms engage into reforestation and preservation of natural resources programs.

Corporate Social or Societal Responsibility Issues

Through social factors, investors want to understand the company's business relationships in society. As a result firms hedge risks related to societal issues in the following ways:

Human rights - firms considers workers' rights for both domestic and foreign employees.
Supply chain concerns - firms considers strategic alliances and outsourcing services in order to maintain good relationship with other stakeholders in the society.
Healthcare and food issues - for example, firms ensure there is access to health facilities, that health related costs are reasonable, and that agricultural community relations are maintained.

Corporate Governance Issues

Prior to investment decisions, investors might want to know more about an organisation's processes and procedures, compliance issues, accounting methods being used to test accuracy, stockholders' opportunities to vote for the board and conflict of interest issues. This will lead firms to adopt some of the following measures:

Accounting standards - firms ensures that accurate accounting methods are being used.
Board roles - firms appoint board members with a good reputation and ensure an appropriate board structure.
Conflicts of interest - firms implement various processes and systems to ensure any conflict of interest are handled properly.
Enterprise Resource Planning (ERP) - Quality is managed and ERP process is done.

Merits of ESG Factors

ESG criteria help to ensure that companies with risky practices are avoided by investors.
ESG minded businesses gain more traction as investors support them and track their performances.
The various internal and external ESG assessments can have a positive practical effect beyond any ethical or investment concerns.

Disadvantages of ESG Factors

ESG factors limit investor options and as a result investor potential profits as certain financially highly attractive investments that do not meet ESG criteria are dropped.

⇨ What is your opinion about the usage of ESG criteria by investors for making investment decisions and by companies to behave in a better way?
⇨ I could find only one disadvantage of applying ESG factors. There must be more?