What Elon Musk is right about ESG
About the authors: Alex Friedman, Josh Greenand Lorraine Spradley Wilson are, respectively, the CEO, COO and Chief Impact Officer of Novata.
The knives are out for the ESG.
First, some politicians have sought to make environmental, social and governance factors in investing a right versus left issue. Then the world’s largest investment firm said shareholders had gotten out of hand as they took on this year’s proxy season with too many ESG-prescriptive proposals. And now Elon Musk has loudly joined the fray, furious that
was excluded from the S&P ESG Index.
The detached observer might ask, if Tesla isn’t fit for an ESG group of companies, then who is? Musk not detached just tweeted“ESG is a scam. It’s been weaponized by fake social justice warriors. Musk is going on a lot right now, so we can excuse the lack of nuance in his review.
But we run an ESG business, and we’re here to tell you that Musk is right.
Imagine, for a moment, being asked which professional athlete is the best. Or asked to rank all athletes. Obvious questions that follow might include: what sport? By what measure? The team wins? Individual statistics? Over what period? And are we only talking about the end results, or are we including the attitude and conduct of the athlete while he or she is competing?
In Tesla’s case, few dispute that its cars play an important, perhaps critical, role in pushing the auto industry to become greener. But S&P’s exclusion isn’t driven by Tesla’s cars, but because of concerns about issues like Tesla’s working conditions, the way it handles accident investigations, the use of water, its supply chain and the lack of a formal low carbon strategy and codes of business conduct. .
The problem with ESG disclosure as a tool – whether for investors or even for society – is that it is far too blunt a framework. As currently conceived, ESG risks becoming little more than a marketing slogan, intended to sow confusion, or being labeled “greenwashing”. The risk is that the whole ESG concept will be thrown away before it has had a chance to grow.
So what should be done? Here are some steps that could help ensure that the ESG has the time it needs to grow.
First, these three letters must be separated.
Which company in an industry group or market capitalization group is most responsible for CO2 emissions? This is a question we can ask and answer. Which company is most successful in paying a living wage to its employees? This is a question we can ask and answer. Which company has a better worker safety record? This is a question we can ask and answer.
We run into problems if we try to combine these and other questions to answer, “Which company is better?” This might make for fun trivia, but there’s no answer to the question that would help markets allocate capital. Is Serena Williams a better athlete than Michael Jordan? Is Tiger Woods a better athlete than Lindsey Vonn?
Second, the metrics used in each of the E, S, and G categories require common definitions. It’s not that all companies should follow the same metrics, because some metrics important to one industry are irrelevant to another. But we need the definitions of each metric to be close enough to allow useful comparisons when used. The work of the International Sustainability Standards Board to update and globalize the SASB industry standards is extremely important in terms of comparability.
Third, we need to stop focusing on overall rankings and binary choices, such as including or excluding a particular index. Each provider of these services will have their own methodology and nuances, developed to meet the needs of their target audience. Today, the information that underpins these products (corporate non-financial data) is ubiquitous. At the top level, weights are applied to these measures to consolidate complex data into a single grade or score. Pick a Fortune 500 company and sample the top five ESG ratings providers – less than 50% correlation is normal. In comparison, the top five rating providers because a typical corporate bond from the same Fortune 500 company would likely have a correlation above 80%. This kind of result undermines confidence in ESG in a broad sense.
On the other hand, benchmarks based on real data generated by the companies themselves and held at the same level as financial data are useful. They are useful for the company itself as its executives and board seek to understand where they need to focus and improve. And they’re useful for investors trying to figure out where to allocate capital based on more than just traditional financial metrics.
But for benchmarking to work at scale, for both public and private companies, we need a basic agreement on a set of E, S and G measures that must be followed, and we need a way for companies to share data in an anonymous medium. base.
In some countries, regulators are more advocating for a common framework of which ESG factors should be tracked. Europe is rolling out sustainable financial disclosure regulation to improve transparency related to investment products. And last March, the Securities and Exchange Commission released a new draft proposal to add standardized climate reporting to the disclosures required by public companies, while the UK passed climate-related financial disclosure legislation. weather in January. Over time, there will be more convergence, analogous perhaps to how generally accepted accounting principles, international financial reporting standards, and other accounting regimes lead to similar results.
It is important to note that as more and more companies choose to publish ESG measures, their boards of directors should ultimately be responsible for a sufficiently rigorous method of collecting, storing and analysis of these data. Industry groups, in turn, should collect the anonymized data and provide baseline visibility to all participants. We are entering an era where forward-thinking CFOs are beginning to review ESG data with the same rigor as corporate financial data.
It took Elon Musk a long time and a lot of failures to get his cars and rockets on the right track. There have been many false starts and changes along the way.
Let’s also give the ideals behind ESG a chance to get it right.
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