How ESG creates value for investors?
Tying ESG to value levers
First, an ESG focus can help management reduce capital costs and improve the firm's valuation. That's because as more investors look to put money into companies with stronger ESG performance, larger pools of capital will be available to those companies.
Investors increasingly believe companies that perform well on ESG are less risky, better positioned for the long term and better prepared for uncertainty. Companies that realign to the stakeholder capitalism agenda may have a competitive advantage over those that try to return to business as usual.
For investment professionals, a key motivation in the practice of considering environmental, social, and governance (ESG) issues as part of their financial analysis is to gain a fuller understanding of the companies in which they invest.
In general, engagement helps corporations develop long- term relationships with investors, so that investors can gain a more relevant and accurate picture of the business context, as well as the main drivers of the industry, and thus fully appreciate the management of a given ESG issue in the specific firm context.
For companies and their management, the more they prioritize ESG investment and quantify how these activities contribute to shareholder value, the more they will likely attract savvy investors who want to reap that potential return.
Key Takeaways. The research underscores that when companies prioritize material ESG factors in their earnings calls, it positively influences their overall value. For every 10% increase in emphasis, the value goes up by 1.4%. Yet, focusing on nonmaterial ESG factors causes a decline in value.
Overall, the survey found that 85% of investors think ESG leads to “better returns, resilient portfolios and enhanced fundamental analysis.” Among executives surveyed, 84% said ESG helps them “shape a more robust corporate strategy,” according to Adeline Diab, BI's director of ESG strategy and research.
Investors are increasingly interested in ESG criteria for evaluating business because higher ESG performance correlates with higher returns, lower risk, and long-term business sustainability.
“BlackRock has been the biggest contributor of inflows into ESG funds over the past five years, including the past couple of years,” said Hortense Bioy, Morningstar's global director of sustainability research. And that's “despite the ESG backlash in the US.”
What is ESG in simple words?
ESG means using Environmental, Social and Governance factors to assess the sustainability of companies and countries. These three factors are seen as best embodying the three major challenges facing corporations and wider society, now encompassing climate change, human rights and adherence to laws.
Sustainable or Environmental, Social and Governance (ESG) investing considers factors beyond traditional financial analysis. This may limit available investments and cause performance and exposures to differ from, and potentially be more concentrated in certain areas than the broader market.
ESG measures how a business integrates environmental, social, and governance practices into its operations and business model. It allows stakeholders to assess the impact of these practices and to assess the company's overall sustainability. ESG is an increasingly important aspect of today's business environment.
Some 53% of private investors consider ESG factors when investing, but its popularity has declined slightly since 2021, according to the latest annual ESG Attitudes Tracker from the Association of Investment Companies (AIC).
Our findings suggest that overall ESG combined score is positively and significantly associated with firm value.
Funds at the forefront of the application of ESG in private equity see significant financial returns from their investments, including stronger sales, lower costs, higher employee engagement, and—ultimately—superior valuations. Not all ESG factors are financially or socially relevant to every business.
As a result, individuals with high personal ESG scores are more likely to receive employment, partnership, investment, and other corporate opportunities. In this sense, a personal score is simply an extension of the institutional acceptance of greater transparency at the corporate, company level.
ESG performance improves stock price synchronicity by reducing information asymmetry. The “noise reduction” effect of ESG performance is significantly lower in non-state-owned enterprises and enterprises with low investor trust.
As a foundational step in how we conduct business and develop our corporate strategy, our company focuses on the highest-priority sustainability and environmental, social, and governance (ESG) issues.
The first group to coin the phrase ESG was the United Nations Environment Programme Initiative in the Freshfields Report in October 2005.
Who is behind ESG?
The term ESG first came to prominence in a 2004 report titled "Who Cares Wins", which was a joint initiative of financial institutions at the invitation of the United Nations (UN).
One of the biggest criticisms of ESG is that it perpetuates what it was partly designed to stop – greenwashing.
- Environmental – this has to do with an organisation's impact on the planet.
- Social – this has to do with the impact an organisation has on people, including staff and customers and the community.
- Governance – this has to do with how an organisation is governed. Is it governed transparently?
However, there are also some cons to ESG investing. First, ESG funds may carry higher-than-average expense ratios. This is because ESG investing requires more research and due diligence, which can be costly. Second, ESG investing can be subjective.
According to ERM, investors themselves are also spending significant sums of money for ESG data and ratings, with costs ranging from $175,000 (142,000) to $360,000 (£293,000). Despite this, many investors reported having only “moderate confidence” in the accuracy and usefulness of such ratings.
References
- https://esgclarity.com/majority-of-private-investors-consider-esg-when-investing/
- https://www.bcg.com/industries/principal-investors-private-equity/esg-in-private-equity
- https://knowledge.wharton.upenn.edu/article/how-does-esg-emphasis-impact-a-companys-value/
- https://www.thecorporategovernanceinstitute.com/insights/lexicon/three-pillars-of-esg-ultimate-guide-to-esg/
- https://www.cfainstitute.org/en/rpc-overview/esg-investing
- https://www.coca-colacompany.com/sustainability
- https://www.linkedin.com/pulse/esg-investing-pros-cons-how-comply-osvaldo-berrios
- https://www.robeco.com/en-us/glossary/sustainable-investing/esg-definition
- https://greenly.earth/en-gb/blog/ecology-news/why-should-investors-consider-esg-companies
- https://www.ey.com/en_gl/insights/assurance/why-esg-performance-is-growing-in-importance-for-investors
- https://www.bloomberg.com/news/articles/2024-02-13/blackrock-is-global-leader-in-esg-thanks-to-passive-funds
- https://www.knowesg.com/featured-article/how-to-calculate-your-individual-esg-score
- https://sustainability-news.net/esg/companies-pay-up-to-500000-for-sustainability-ratings/
- https://hbr.org/2020/09/social-impact-efforts-that-create-real-value
- https://www.sciencedirect.com/science/article/pii/S221484502200103X
- https://greenly.earth/en-gb/blog/company-guide/understanding-esg-metrics-in-2023
- https://www.esganalytics.io/insights/where-did-the-term-esg-come-from-anyway
- https://www.unpri.org/download?ac=4637
- https://www.sciencedirect.com/science/article/abs/pii/S1544612323002192
- https://www.janushenderson.com/en-gb/investor/article/what-is-esg-and-why-do-we-care/
- https://www.ucem.ac.uk/whats-happening/articles/criticism-of-esg/
- https://www.bloomberg.com/news/articles/2023-11-08/investors-ignore-us-attacks-as-esg-judged-too-important-to-ax
- https://en.wikipedia.org/wiki/Environmental,_social,_and_governance
- https://hbr.org/2024/02/two-factors-that-determine-when-esg-creates-shareholder-value
