ESG is Under Attack: So What?

ESG under attack as ‘woke’ capital

This post originally appeared in the ‘So What’ newsletter on July 1, 2022

In a lot of recent coverage, ESG (environmental, social & governance) is being termed ‘woke’ capitalism by both supporters and detractors of the investment class. This perception further strengthens the sense that, rather than measuring how well a firm or fund performs in some important non-operational ways, ESG is nothing more than a form of virtue signaling and/or a scam.

(Notably, in the same week that this headline appeared in the FT, another article by an ESG enthusiast was titled Critics of ‘woke’ capitalism are wrong. It seems the ‘woke’ label is sticky.)

There seem to be three big developments around ESG at the moment.

For many, ESG = ‘woke’

First, due to the ‘social’ element of ESG being heavily dominated by cultural issues in the US, being ‘for’ ESG is interpreted as companies being sympathetic to progressive causes. This pulls them into the US culture wars where they are presumed to have taken a side before they even become involved in an issue. This has positive and negative effects on a firm’s reputation and finances: those for an issue see them as an ally while opponents see it as an enemy. (Although there seems to be research that suggests that negative sentiments outweigh positive ones. This would mean that while an angry customer might boycott your firm an equally supportive member of the public is less likely to switch brands to support you. (No sources for this as I need to do some more digging here.)

Anti-ESG Funds are springing up

Second, anti-ESG funds are emerging to invest in industries like fossil fuels.

Article 5: an attack on one is an attack on all

Third, attacks on any part of ESG harm the whole: the environmental, social & governance elements are equally damaged, even if an attack originates from a disagreement over social issues.

The Downside of ESG

Despite its noble origins – arguably the manifestation of Google’s motto ‘don’t be evil’ – ESG is not in great shape, and some criticism appears valid.

First, reporting is uneven and lacks a common standard. 

Plus, much of the data used in ESG scoring is unverified or self-reported. (Something initiatives like The Green Impact Exchange are trying to address  [Disclaimer, I’m friends with one of the founders, but he didn’t put me up to this.])

Second, initiatives often appear more style than substance. 

Greenwashing is rampant, and simply adding more underrepresented groups to the c-suite does not solve system inequalities across a whole firm. This means that instead of making meaningful strides to address real issues, the focus is on ESG theater.

Third, ESG is too big to be clumped together now

Combining all three elements was expedient and sensible at the outset of the initiative and helped make companies more responsible for matters other than pure shareholder returns, but it has run its course. Each element of ESG has become more sophisticated and mature, meaning that other than all being broadly ‘for the good,’ these elements don’t align as neatly. For example, a nuclear power plant would score highly in the E column but will be politically toxic for many. While E, S, and G are all lumped together, there’s no easy way to rate a firm using a single metric. However, I’d suggest this is a positive development that illustrates the maturity of the concept. 

Similar to how health, safety, security, and environment (HSSE) were lumped together initially but, as these functions matured and became embedded in corporate culture, they drifted apart operationally. Although the overall intent of keeping the company’s staff, assets, neighbors, and environment safe remained, trying to manage HSSE as a block would be unworkable for most firms. Similarly, ESG has now matured to the point where – as a victim of its own success – the three elements no longer sit as neatly together.

So What?

ESG is complex, and there are real regulatory requirements to meet, depending upon your jurisdiction, but here are four suggestions that I believe can make ESG programs more manageable.

Firms should break up ESG and address each matter separately.

Addressing each issue separately allows firms to manage the associated risks from each threat category more effectively. Managing and reporting these separately (even if still under the broad heading of ESG to distinguish from operational or financial risks) will allow CROs to add nuance and distinction to their reports to help shareholders and other parties genuinely understand how the firm is performing in each area. Although this may seem like a burden on small firms, the same effect can be achieved by addressing each topic separately instead of addressing the whole ESG landscape at once.

Treat ESG ratings as a measure of progress, not a score.

Treating ESG (collectively or individually) as a score misses the point. The intent is not to get an A+ or 100%: the goal is for firms to first, do no harm, and second, create a net positive for society. However, it’s up to each firm to state what its goals are for each element in ESG. These start with adhering to laws and regulations. Then, it is up to the firm to determine what it wants to achieve according to its business and values (see the next point). Once these goals are set, the firm can then measure progress along each of these pathways, giving shareholders and interested parties a better idea of how the firm is progressing, not just measuring up to an arbitrary standard.

But when you do measure, measure realistically

Pick some clear, hard metrics and base your reporting on these. Then, stick to these. Avoid the trend of the day or having hucksters come in and offer to audit you on an opaque standard. By all means, have someone conduct an audit, but make sure it’s somehting you’ll be able to track progress against and that there are some objective measurements involved.  

‘186 metrics”: feels like a threat, not a promise…

Start with purpose and values.

Companies provide goods and services first and foremost, and without fulfilling that core purpose (we make [this] for [them]), there is no firm, no shareholder return, and no jobs. However, a firm should also have a core set of values that it prizes – its ethical OS, for want of a better term. Where a firm can and wants to contribute to the social good, all the better, but that can’t be at the expense of the mission. Looking at the elements of ESG through this mission and values lens will help CEOS and executives decide what steps to take in each area. Moreover, grounding everything in mission and values makes it much easier to explain and defend the decisions you’ve made and to stay consistent.

Photo by Árpád Czapp on Unsplash

One thought on “ESG is Under Attack: So What?

What do you think? Leave a Reply