In recent years we have seen societal change across global communities influencing corporate values and therefore informing Environmental, Social and Governance (ESG) policies. As a result, ESG has become increasingly important for investors and related stakeholders, as we collectively commit to worldwide environmental sustainability.
The way that all three elements of ‘ESG’ interact with each other is important and establishes a dependency and interrelationship that cannot be ignored by policy-makers when determining the guiding principles that will carry a company’s success, sustainability and viability into the future. Further, an associated ripple effect is forming throughout supply-chains across a growing number of industries.
The following diagram shows the average ESG score by region across the globe:
However, it remains challenging to observe, measure and report related implications of ESG.
Measurement – it is difficult to accurately measure and monitor the effect of ESG on a company. A number of organisations claim to score or rate companies in respect of their ESG behaviour, but with inconsistencies regarding the relative importance placed on each ESG factor which cause vastly different scores/ratings for the same company across various agencies. Over time it’s expected that the ratings and approach will come together to display some level of correlation between agencies.
Disclosure – is not yet dictated, transparent or aligned. There are no rules, guidelines or accounting standards in place to ensure accurate, consistent and transparent disclosure. Again, as the industry evolves it is expected that we will see enhancements and developments to enable users of financial information to observe better reporting of company’s sustainability efforts in the future.
Whilst the quantitative impacts are not easily isolated, studies linked favourable ESG ratings and financial outperformance.
In the future it is possible that ESG linked outperformance represents a market inefficiency that may erode, as eventually all companies will respond to the requirement for a robust ESG program. However, it is emerging as vitally important for companies to:
Whilst the approach and methodologies adopted to perform a valuation will not change, the availability of more consistent ratings and enhanced reporting will enable access to better information and therefore impact the inputs into valuations. We expect this to evolve over time, however, will enable more in-depth questions, research and analysis to be undertaken by valuation practitioners. We cannot be immune to the worldwide shift for society and corporates to take tangible actions for a sustainable and ethically responsible future - and how the impact of this flows into components and assumptions underlying valuations.