By CFO Brew Staff
less than 3 min read
Definition:
From KPIs to EPS to EBITDA, the business world loves it some acronyms. In the 2000s, as concerns about the environment intensified, it gained a new one: ESG.
Sometimes, you’ll see the term ESG used in a broad sense to refer to companies’ climate or environmental activities. And many jurisdictions now require large public companies to report data on their climate change risks and impacts, such as the amount of greenhouse gas emissions they produce. But though environmental concerns may get the most attention, they’re actually only one of the three “pillars” of ESG.
ESG refers to an investment strategy in which investors examine a company’s environmental, social, and governance activities. In response to investors’ concerns, many companies have started reporting both financial and nonfinancial data in these three areas. For instance, they may disclose information on:
- Environmental activities such as their greenhouse gas emissions, waste management, and impact on deforestation or biodiversity;
- Social impacts such as labor and community relations, employment practices, health and safety, and suppliers’ labor and sourcing practices; and
- Governance matters, such as executive compensation, board composition, succession, and shareholder rights.
Where is ESG reporting required?
Companies operating in certain jurisdictions are legally required to report some ESG data. For instance, the EU’s Corporate Sustainability Reporting Directive mandates that large EU-based companies and companies listed on EU-regulated markets must disclose certain environmental, social, and governance data.
Companies may choose to voluntarily report ESG data even if they are not required to by law. They may use one of many existing frameworks to guide them, and they may also have an agency give them an ESG score or rating.
Do investors want ESG disclosure?
Investors value this data because of what it can tell them about a company’s risks. 80% of private equity investors, for instance, say they’ve walked away from deals with companies that had poor ESG practices.
Investors can also buy into ESG funds, or portfolios of companies that follow a set of ESG best practices determined by fund managers.
In the US in recent years, the term ESG has become a political hot button. Activist shareholders have introduced anti-ESG proposals, and some ESG funds have shut down. Mentions of ESG in earnings calls have fallen off since 2021. Companies still track and report ESG data but use different language around it, such as “sustainability” or “responsible business.”
