Environmental, Social, and Governance (ESG) investing is growing issue for publicly traded companies and those that raise capital from private sources. Because a growing number of investors want to make socially responsible investment decisions, they have become increasingly interested in knowing where companies stand on, and what standards they have in place for, each of these three areas.
What Are the Three Components of ESG Investing?
Investors using an ESG model evaluate companies they may wish to invest in based on these three core concepts:
- Environmental: How does a company reduce its carbon footprint or otherwise support the planet in a holistic manner?
- Social: What steps does a company take to support healthy relationships with customers, suppliers, employees, and within the community?
- Governance: What strategies and standards are set for company leaderships, audits, and internal controls?
Being guided by ESG enable to invest responsibly, avoid financial risk and keep their equity holdings consistent with their own ethical principles.
In each of these areas, investors must determine what is important to them. For example, in evaluating environmental criteria, does the investor prioritize a company aggressively reducing toxic emissions or, or one that is diligently working to minimize energy consumption? Investors may seek out companies that meet government guidelines or focus only on those that exceed those guidelines.
For social criteria, investors may target companies focused on engaging within the community more fully or supporting employees who volunteer locally. Investors may strongly consider companies providing employees with higher health standards or improving safety standards beyond what is required by government agencies. Companies that support important social efforts such as workplace diversity or human rights will also attract ESG investors.
In the area of governance, ESG investors look for companies that document procedures for minimizing poor decision making, avoid board member conflicts of interest, and fairly compensate board members and executive leadership.
There is no company that can hit the market across the board. It’s not possible to satisfy all investors in all areas of ESG. Yet, it is important for organizations to provide clear, detailed and accessible standards for investors to review. From the standpoint of attracting investors, communicating standards is just as important as creating and implementing them.
Why Does ESG Investing Matter?
There are numerous reasons organizations put in place these standards. It may be because of the closely held missions of the organizations or beliefs of the owner or board of directors. ESG standards, from the investor’s perspective, may help to reduce risk for liability and brand reputation problems.
Companies putting these practices in place need to spend more time and money in defining and implementing them. They must work towards ensuring ESG standards are maintained. Yet, because of their value, especially in today’s investing world, the work is worthwhile. Organizations without ESG standards can build them from the ground up to start reaching more investors interested in ESG investing.
ESG business standards are gaining more importance in everyday operations. From mutual fund managers to private equity firms to individual investors, ESG is increasing in importance as a filter and determiner of value. As a result, it becomes harder for companies without a commitment to ESG to secure the necessary funding.
An Overview of ESG Investing from Clermont Partners.