ESG Tools and Application

Please read the article below and attempt all questions.   The case study is part of the module completion.  Good luck!

Article extracted from “Cover Story: Green-washing:The next big scandal?”, by Tan Zhai Yun, The Edge Malaysia, June 23, 2022

https://www.theedgemarkets.com/article/cover-story-greenwashingthe-next%C2%A0big-scandal

Greenwashing — defined as the sharing of misleading information by organisations to appear environmentally responsible — is being scrutinised heavily by various parties now. Even ESG, which also covers the social and governance aspects, has no lack of critics who believe that it is a greenwashing tool. Its most recent critic is Elon Musk, CEO of electric vehicle (EV) maker Tesla, who called ESG a scam last month after his company was removed from the S&P 500 ESG Index. He questioned how an oil and gas company like Exxon Mobil could remain on the index when an EV maker had been expelled. 

While Musk’s allegation triggered debate in the market, the index provider’s response highlighted the complexity of ESG. It said that Tesla’s lack of a low-carbon strategy and codes of business conduct, and poor working conditions reported in its factory had affected its score, according to reports. 

“There are prominent automotive companies that make EVs, so that’s good on the environmental side, but what about the social and governance factors? How have these companies responded to regulators when they were questioned? It’s easier to aggregate numbers in a financial statement. But with ESG, there are over 1,000 indicators and metrics,” says Herbert Chua, partner and sustainability assurance and reporting lead at PwC Malaysia.

“Aggregating all the different data points under the environmental, social and governance factors is very difficult,” he adds.

“In my view, each of these should be looked at separately rather than being put together in one number, given how diversified these metrics are. There are a lot of trade-offs when you do that.”

For example, a company may achieve net-zero emissions by 2050. But in the meantime, the company cut off half of the small and medium-sized enterprises (SMEs) in its supply chain because they were not able to meet its demands. 

SMEs, however, are drivers of the economy in developing countries. So, if a company reaches its environmental targets but fails to address its social responsibilities, can it be considered “greenwashing”? That is a question posed by Andrew Chan, PwC’s Southeast Asia sustainability and climate change leader. “How can we balance that? We’ll need better-quality data and shareholders with a more holistic view,” says Chan, adding that credible data to back up those claims are crucial.

Greenwashing in sustainability reports?

Most listed companies around the world are required to produce sustainability reports. But this can be an avenue for greenwashing if the companies make exaggerated claims and have scarce data to back them up, and if they only report on indicators favourable to them.

Fortunately, progress has been made in tackling greenwashing in reporting. The primary strategy is to standardise ESG-related disclosures so there is comparability of data across companies in the same industry. The International Sustainability Standards Board, which was announced last November, is working on creating this standard currently.

But even if companies report ESG-related matters in a standardised format, what will stop them from putting in false information? Could there be a mandatory audit of the data, such as there is for financial reports?

“We definitely think this data should be assured. But it’ll take time for that to happen. In Bursa Malaysia’s recent consultation paper, it indicated that going forward, each company should make a statement on whether its sustainability report has been subject to any third-party assurance and if so, what is the scope of work done.”

The latter point is important because the third-party assurance has to be done according to globally accepted standards as well. “Some service providers don’t follow these standards, so it’s difficult to tell how they go about providing assurance to the data,” says Chua.

Greenwashing by rating agencies?

Many fund managers and investors rely on the services of rating agencies to ascertain companies’ ESG performances. These scores are used to build ESG portfolios and indexes, which underscore the important role these agencies play.  But the rating agencies have their unique methodologies, and this can result in vastly different conclusions.

How can investors understand these different scores? Could this be an avenue for greenwashing, given the complexity of the methodologies and lack of consensus? 

Chan points to the case of a UK-listed online fashion company as an example. The company was highly rated by agencies and as a consequence was included in ESG funds. But this changed when it was hit with allegations of poor working conditions in its factories in 2020, an issue that was not  reflected in the overall rating scores. 

Ultimately, the different scoring by rating agencies is not a problem, the interviewees say. Instead, the onus is on the investor to understand the different methodologies and do further due diligence on each company. 

“We have come across quite a number of ESG ratings and research providers and learnt that the differences in methodology allow for different measurements and interpretations,” says David Ng, deputy managing director and chief investment officer of Affin Hwang Asset Management. 

“For instance, an ESG rating agency that rates companies based solely on the amount of ESG disclosures would end up with a score different from another agency that benchmarks the company’s ESG performance indicators [against] industry peers.”

Obviously, these scores cannot be compared. This is not necessarily greenwashing, Ng opines, and investors should think of ESG ratings as merely one tool to assess the companies. 

Jigar believes that things could change when the reporting standards are harmonised, but a complete standardisation like that of credit ratings is difficult to imagine at present.

QUESTIONS

1. As an ESG Practitioners, what is your stand regarding Elon Musk’s claim on ESG as a green washing tool? Why so?
2. ESG reporting can be manipulated as company could selectively report whatever that is favorable to the organisation. In your opinion, is there a necesity of  doing ESG Reporting? How you could make your ESG Report better for your organisation, and how will you do differently as we learned from the above article??
3. Your Organization’s CEO insisted that ESG Index is sufficient to reflect your organization’s ESG Performance to all stakeholders. What is your opinion regarding this? And what would be your advice to him?