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Widespread interest in the environmental, social, and governance (ESG) factors of organizations continues to grow rapidly. Stakeholders, particularly investors, combine these nonfinancial factors with financial results to analyze a company’s future performance and make investment decisions (called ESG investing).
ESG measures certain impacts of a company:
- Environmental criteria consider factors such as a company’s emissions, energy use, waste minimization methods, and conservation efforts.
- Social criteria focus on the company’s relationships — how they relate to their employees, customers, supply chains, and community.
- Governance criteria examine the company’s leadership, focusing on aspects related to policies and audits, internal controls, inclusion, and its readiness to share information in the reporting process.
Many third-party vendors assign companies ESG scores. Although there’s no universal ranking system (making it difficult to compare scores from different vendors), most rating systems rely on a scale of 0 to 100. Generally, the higher the ESG score, the better a company is performing in all three areas and, therefore, is considered a stronger candidate for ESG investors. Conversely, a lower ESG score indicates a company is performing poorly in the three areas and, therefore, is less desirable to investors because of the increased risk to the bottom line. It’s important to note that sustainability and ESG are related but aren’t the same thing. Sustainability, in business terms, considers the connection between environmental considerations and social and financial effects. It focuses on managing a company’s triple bottom line of people, planet, and prosperity. ESG provides a framework for both implementing and measuring the strategies a business uses to achieve sustainability.
Scope
There is currently no legal requirement for public companies in the U.S. to disclose ESG matters, but many companies voluntarily publish annual ESG reports due to stakeholders’ increasing interest in ESG factors.
Regulatory citations
- None
Key definitions
Environmental, Social, and Governance (ESG): Establishes criteria used by investors and in capital markets to evaluate and implement corporate environmental conscientiousness.
Sustainability: A holistic concept that looks at the connection between environmental considerations and social and financial effects. The World Commission on Environment and Development defines sustainability as “meeting the needs of the present without compromising the ability of future generations to meet their own needs.”
Summary of requirements
The Center for Capital Markets Competitiveness at the U.S. Chamber of Commerce recommends these best practices for ESG reporting:
- Identify the intended audience(s) and the content to include in the ESG report that’s relevant and helpful.
- Determine which metrics and topics to disclose in the report.
- Coordinate across departments and functions to verify that information is gathered accurately.
- Focus the ESG report on the company’s risks and opportunities that can impact its long-term operational and financial performance. Explain the approach to risk management and how the company’s value creation strategy addresses ESG.
- Define all technical terms used in the report.
- Consider including in the report the internal review and audit processes used or any external verification of the information.