ESG+ Newsletter – 16th February 2023

WWF launches guide on building nature into climate plans

As nature and biodiversity creep up the corporate agenda, some companies may be wondering how to approach yet another topic within their ESG and sustainability strategies. However, as the Global Biodiversity Framework agreed at COP15 highlights, biodiversity and climate are intrinsically linked with rising temperatures found to dramatically compound today’s unprecedented loss of nature and vice versa. According to a new guide from WWF, there is an opportunity to tackle the dual biodiversity and climate crises in tandem. The guide wants businesses to identify the links between climate and biodiversity impacts and understand the steps they can take to halt and reverse nature loss in their own business models, operations, value chains and portfolios. The guide lays out a five-step plan for businesses to integrate nature into transition plans, beginning by building knowledge and working towards setting nature positive objectives for which a Board has ultimate accountability. WWF’s guide highlights that the tools and frameworks for biodiversity replicate what has been successfully adopted for climate, and while some companies may be thinking in silos it is important to recognise the link between these dual environmental crises. As mentioned in our own thought leadership on biodiversity, many companies have already been through the process of setting a climate strategy, and biodiversity can be complementary addition.

No free lunch in States’ battle over ESG investing

In recent months, several States in the U.S. have ‘blacklisted’ some of the world’s largest financial institutions due to their support of, and advocacy for, ESG. One ripple effect of this approach though has been an increase in borrowing costs as these financial institutions, which had previously been underwriters for the States’ bonds, have been blocked from arranging and selling the same State’s issuances. Instead, these States have opted for smaller firms that may not have the resources to ensure that they are getting the lowest possible borrowing costs or may not have the access to deep and diverse pool of institutional capital that larger financial institutions do. According to Bloomberg data, Texas and Florida – two States who have been harsh critics of ESG – are paying the equivalent of $1.9 million and $4.3 million more on every $1 billion of bonds sold in debt financing than California, which has openly embraced ESG, despite having superior credit ratings. In a push to prevent financial institutions imposing political or moral views on people through the financial system, there seems to be an argument that their own political or moral beliefs may be costing taxpayers money.

SEC considering revisions to climate disclosure regime

Meanwhile, as states go to battle over the merits of ESG investing, the U.S. SEC is still adjusting its proposed climate disclosure rule. In line with the SEC’s mandate, its work has focused on protecting investors and, much like any issue in this space, it been under a bright spotlight – over 15,000 comments have been received so far, with the SEC responding by considering a reduction in the extent of the climate disclosure rules. The requirement to detail scope 3 emissions – now included in ISSB standards – have caused a particular stir. The SEC proposal adjustments come as ESG remains one of the biggest issues for regulation in 2023. Many companies will be happy to see a reduction in the expectation on scope 3 emissions; however, with regulators in other jurisdictions, as well as investors and voluntary reporting frameworks including expectations around scope 3 disclosure, one wonders whether market pressure might just stay ahead of regulators in this space.

Pressure builds on the EU to rectify the SFDR framework

The French financial regulator, the Autorité des Marchés Financiers (AMF), this week published a proposal to address the ongoing debate around the EU’s Sustainable Finance Disclosure Regulation (SFDR).  Labelling the framework as it currently applies as “vague”, the AMF is instead suggesting more definitive requirements for funds that are categorised as aligned with Article 8 and Article 9 under the EU’s SFDR. In short, Article 8 funds can be characterised as ESG input or integration vehicles, and Article 9s as impact funds.

The current principles have been the subject of increasing scrutiny across the market and by political stakeholders, as demonstrated by the swathe of Article 9 to Article 8 fund re-classifications over the past two quarters. Fund managers have stuck to a party line that the SFDR has been unclear – a more cynical view is that the original approach, since tightened, left room for investors to capitalise on record inflows without genuine alignment to sustainable goals. The proposal put forward by the AMF said that minimum criteria need to be established for both fund classes. For Article 9s, this would at least exclude all fossil fuel activities that are not aligned with the EU’s taxonomy of sustainable activities. For Article 8s, investment would need to be at least accompanied by asset level transition planning. At a relatively early stage of integration of a new regulation, the stance of the French regulator marks a change from critique for being too strict, to one that potentially asks for clearer – and higher – standards of guidance.

Rise in Sustainability-Linked Loans in the GCC

Volatility in the market and the high liquidity of banks led to a rise in the use of sustainability-linked loans (SLL) in  the region of 2022. SLL’s are loans where a portion of an interest rate is linked to the borrower’s ability to meet sustainability targets. As covered previously, unlike a green loan where the ‘use of proceeds’ is tracked and allocated to eligible green projects, SLLs offers flexibility to a company and incentivises the borrower’s achievements against predetermined sustainability KPIs.

Major businesses in the region, across sectors, are taking this as an opportunity to bolster their ESG agenda with quantifiable outcomes. Recent deals include efforts to increase women representation on the Board; cut Scope 1 and 2 emissions; and implement LEED certifications in real estate, as well as for key energy projects in Bahrain. With businesses in the Middle East looking for ways to demonstrate commitment to ESG and sustainability, SLLs are increasingly seen as a tangible step of progress.

Fees and the growing responsibilities of the Board

The role and responsibilities of Board members have grown significantly in the last three years, as companies navigated the pandemic, the current global energy crisis and a turbulent macroeconomic environment. However, in contrast to what is normally a call to exercise pay restraint, this year’s Principles of Remuneration published by the UK Investment Association (IA) notes that the fees paid to Non-Executive Directors (NEDs) have not always reflected “the increased complexity and time commitment expected of their role”. Indeed, looking at the changes in Board fees across the ASX 300 in Australia, 2022 may have represented the year where that began to change. As ESG rises up the agenda, more is expected of those looking to challenge and support management as strategies evolve.

Despite the growing recognition that NEDs are having to spend more time dedicated to Board meetings and associated work, companies should factor in their disclosure that investors will expect any pay increases to be accompanied by clear explanation, with clarity around (increased) time commitments and the growing complexity of the role of the NED. Ultimately, and while the debate around incorporating a share-based component into Non-Executive pay goes on, ensuring that the independence of their role is not compromised should constitute the most important consideration in any changes to NED pay.

Business’ role in ESG criticised but potentially misunderstood

ESG is in danger of being dragged into “corporate culture wars” with many detractors dismissing it as simply “woke capitalism”. In a similar vein to latest coverage in the U.S., a survey by thinktank Policy Exchange has revealed that employees and customers in Britain are becoming increasingly sceptical of what they see as big business enforcing their political beliefs and ideologies on their stakeholders, with the increasing focus on pronouns becoming a particular point of contention.

According to the International Institute for Management Development (IMD) though, ESG has become a lightning rod for those frustrated and that its current image problem stems from it being used as an umbrella term for any sustainability-related activities. To address this problem, the IMD suggests that companies need to go back to the roots of ESG and to consider it not as an ideology but as a risk and investment management framework. Companies need to assess how environmental, social and governance factors have impact on their value, not just in basic financial terms, but also how they impact positively on the world around them. ESG can open opportunities for companies, such as net zero providing business opportunities of $12 trillion a year by 2030. ESG undoubtedly still has work to do around measurement and demonstrating progress and impact, but advances are being made. Simply abandoning ESG for fears of being branded ‘woke’ means that companies may miss out on the opportunities that lie ahead.

ICYMI

• All New Cars Required to be Zero Emission by 2035. The EU Parliament has backed a deal requiring all new passenger cars and light commercial vehicles registered in the EU to be zero emissions by 2035, marking a major step towards updated CO2 emission performance standards and the zero emissions goal.
• ESG and Stakeholder Capitalism are Changing Corporate Boards. According to a new study by The Conference Board, nearly 70% of executives surveyed from over 100 companies believe that ESG will have a meaningful, lasting impact on corporate Board composition, structure and capabilities.
• Half of CPOs lack board-level buy-in on ESG initiatives. A recent survey conducted by Efficio has found that CPOs are struggling to gain Boardroom backing when it comes to ESG initiatives and targets. Though the priority of CPOs should be to deliver cost savings, the ultimate goal should be to align short-term success with long-term sustainability.
• EU organic movement warns against greenwashing. Claims and labels on food products range from regenerative, local, organic to ecological agriculture – however, not all that glitters is gold, or green in this case, as the misuse of the term “regenerative agriculture” can lead to a risk of greenwashing, explains IFOAM Organics Europe.

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