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As the corporate world becomes more aware of the need to incorporate ESG criteria into business planning, it’s important to differentiate between sustainability goals and ESG practices. Sustainability is a central part of ESG policy; a sustainable business will have an ESG policy; but the remit of ESG extends far beyond the boundaries of sustainability
Just as the prefix ‘green’ became shorthand for any action, product or programme with the good of the environment at its heart – and was subsequently so overused as to be near meaningless – so ‘sustainability’ has become a well-worn and over generalised term.
To précis the Oxford English Dictionary, in an environmental context sustainability is the “avoidance of the depletion of natural resources in order to maintain an ecological balance”. It has come to encompass, however, just about every business practice that can be classed as ‘doing well by doing good’
It has become interchangeable not just with ‘green’ activity, but with other well meaning phrases including corporate responsibility and triple bottom line – where a company must include people and planet as well as the profit line on its balance sheet. The latest popular substitute for sustainability is environmental, social and governance (ESG) performance. There is, however, an important differentiation between the two, not least in terms of scope.
The distinction is particularly marked, and arguably most relevant, in the realm of investing. Sustainability investing was originally based on selecting socially responsible shares, building portfolios that excluded companies with negative environmental or social impact, or morally questionable business practices. It was largely accepted by asset managers that such funds would perform worse than the market average, sacrificing clear profit for a clean conscience.
ESG investing, by contrast, bases investment decisions on a far wider set of criteria, which are not exclusive to environmentally and socially conscious business practices. Rather than simply screening out organisations or sectors based on specific criteria, such as animal testing, child labour, or profiting from tobacco or gambling, ESG investing seeks to identify and rank businesses that exhibit desirable characteristics.
These characteristics fall into far broader categories than those covered by environmental sustainability: executive remuneration, diversity of boards, treatment of employees, heath and safety record and community engagement all fall under the ESG umbrella.
Most importantly for shareholders, businesses with strong ESG policies have been shown to have better financial performance over the long-term, offering greater returns than the wider capital markets. This marks a positive, measurable evolution from the early days of ethical investing.
‘Measurable’ is a key word in the differentiation between sustainability and ESG performance. The ability to measure ESG policies using specific metrics has allowed investors to benchmark ESG performance and led to greater precision in evaluating the potential strength of companies in the field of proactive ESG behaviour.
The scale and complexity of ESG criteria has required the development of ESG scoring or ratings as a means to rank businesses on their environmental, social and governance policies. At a more sophisticated level, an ESG intelligence solution can provide real-time analysis of a company’s ESG profile.
The importance of such tools both includes and goes beyond shareholder interests. With the rise of stakeholder capitalism and the growing need for businesses to balance the priorities of all stakeholder groups, including employees, customers, local communities, and future generations, it is vital for them to be aware – and in control – of their ESG profile and liability.
With demands for transparency and conscious action coming from a broad base of stakeholders, corporate sustainability has had to evolve, via corporate social responsibility, into ESG policy. In doing so it’s evolved from a nice to have and a risk to be mitigated to a must have source of competitive differentiation and opportunity.
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