ESG Principles: What Are They and Why Should Companies Comply with Them?

In recent years, the trend towards responsibility and environmental friendliness has spread to the investment sector. As a result, the concept of ESG emerged.

This article will tell you what it is, why it is needed and how it affected business around the world.

What is ESG and why is it relevant

The abbreviation ESG can be deciphered as “environment, social policy and corporate governance”. In a broad sense, this is the sustainable development of commercial activity, which is based on the following principles:

  • responsible attitude to the environment;
  • high social responsibility;
  • high quality of corporate governance.

In its modern form, the ESG principles were first formulated by former UN Secretary-General Kofi Annan. He suggested that managers of major global companies include these principles in their strategies, primarily to combat climate change.

The phenomenon has become popular only in the last couple of years, but has already gained a foothold abroad. According to Tinkoff Vice President Neri Tollardo, in the near future global funds will stop investing in companies that ignore the principles of sustainable development.

How to evaluate compliance with ESG principles

A business that claims to have a good ESG score must meet development standards in three categories: social, managerial and environmental.

Environmental principles determine how much the company cares about the environment and how it tries to reduce the damage caused to the environment.

For example, the Timberland shoe brand cooperates with tire manufacturer Omni United and makes shoe soles from recycled tires.

Social principles show the attitude of the company towards staff, suppliers, customers, partners and consumers. To meet the standards, businesses must work on the quality of working conditions, monitor gender balance or invest in social projects.

A great example could be the American outerwear brand Patagonia which does not own factories that sew its products, so it cannot influence the salary of workers. To fix this, within the framework of the Fair Trade program, the brand directs part of the funds from the sale of products to factories in order to raise the salaries of employees to the subsistence level.

Management principles affect the quality of company management: transparency of reporting, management salaries, a healthy environment in offices, relations with shareholders, anti-corruption measures.

How ESG investments affect the market

The popularity of ESG investments is growing every year. Experts believe that this is also due to the interests of millennials (born in the 1980s and 1990s), who have become a paying audience. The values of this generation differ from the previous one: for them, business and investment are not only about income, but also about caring for the environment and society.

The increased demand for ESG forces companies to reckon with the principles of sustainable development. Now, due to pressure from investors and banks, it is unprofitable for them to have a low ESG rating.

Investors are less supportive of companies with a low ESG rating. In 2020, EY conducted a survey among institutional investors — insurance and investment companies, pension and charitable foundations. As a result, 98% of respondents stated that they strictly monitor the company’s ESG rating. Here are the main reasons:

By focusing on the ESG rating, investors can avoid companies whose activities are associated with environmental risks and large monetary losses. For example, such as the oil spill caused by the explosion of the Transocean platform in 2010.

Banks take into account the ESG rating when issuing loans. For example, UK firm, Britvic, recently refinanced its US$520 million loan facility with several commercial banks through a sustainability-linked deal that offers the company lower rates if they meet their various ESG targets. It is certainly not the first loan to be linked to sustainability criteria. And all signs suggest it will not be the last.

Which companies are in the top ESG ratings

There are many examples of successful corporations in the world that are guided by the principles of ESG. According to Corporate Knights, in 2021, the top five are:

The company pledges to reduce its end-to-end CO2 footprint by 2050. Today they are, making great steps to achieve this goal. The company is directly linked to activities of adaptation and the improvement of humanities resilience to climate change.

Ørsted develops, constructs, and operates offshore and onshore wind farms, solar farms, energy storage facilities, and bioenergy plants, and provides energy products to its customers. Moreover, the company has taken action against slavery and human trafficking.

BCB incorporates social, environmental and climate assessments directly into the traditional risks approach, including credit, market and liquidity risks. The bank is a great role model for other banks in the region.

Neste creates sustainable solutions for transport, business, and consumer needs. They offer a wide range of renewable products that are able to reduce climate emission. The company is the world’s largest producer of renewable diesel refined from waste and residues, introducing renewable solutions also to the aviation and plastics industries.

The company focuses on producing designs that are environmentally friendly and that help their clients see their projects through a climate lens — and then act on what they find. The goal of the company is to help clients adapt and to achieve their mitigation goals.

Key takeaways

ESG is the abbreviation of our future. Its environmental, social and governance factors help to identify the level of sustainability companies and countries have. Investors can use the data acquired to avoid companies or organizations that could pose great financial threats by not being up to the standard level of ESG.

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