What's the Future for ESG Ratings Agencies?
As ESG (environmental, social and governance) continues to become increasingly integrated into organisations’ business strategies, the need for consistent ESG reporting is gathering momentum across the corporate world.
ESG data and ratings are now used in everything from stakeholder/shareholder management, social media, recruitment, retention and supplier management, and this has led to increased scrutiny from regulators.
This is especially true of Europe – although COP28, to be held in Dubai from 30th November to 12th Dec 2023, will assuredly intensify the appetite for greater strategic capability in the MENA region. In the run-up to the event, which naturally has global coverage, concerns remain solidly on the quality of data, clarity in rating methodologies, and potential conflicts of interest.
A European Regulator’s Point of View
As an example, the European Commission has recently proposed new regulations for ESG rating activities, marking a significant move in regulatory oversight.
This follows the recent consultation conducted by His Majesty’s Treasury in the UK. With both the European Union and the United Kingdom moving towards formal regulation of ESG ratings, organizations involved in creating and marketing ESG scores, opinions, and ratings need to assess the potential effects on their business operations.
Such developments will also directly impact the use of ESG ratings across the Middle East.
ESG Ratings Agencies
At a global level, some of the major ESG ratings agencies include Bloomberg, CDP, FTSE Russell, ISS, Moody’s, MSCI, S&P Global, and Sustainalytics.
Implementation of any ESG Strategy is wholly reliant upon accurate, sustained measurement. Yet, to date, different metrics are used across different ESG Indexes. Since 1990, with the KLD Research & Analytic launch of the Domini 400 Social Index (now the MSCI KLD 400 Social Index), there are now over 1,000 different ESG Indexes each purporting to measure the objectives of sustainable investors.
In Spring, 2023, MSCI made changes to its ratings methodology, resulting in 31,000 funds suffering a one-off downgrade. Without consistent measurement, ESG is meaningless. The point we are trying to make – which, incidentally, is backed by the World Economic Forum and various global Stock Exchanges – is that without consistent, unifying measurement, ESG could risk becoming meaningless.
Reputational and legal risks exist for organisations and individuals with ESG reporting, especially in providing evidence-based demonstrations of specific disclosures. In essence, attention to detail must to be given to each of the dimensions of ‘E’; ‘S’; and ‘G’.
Over time, integration with conventional financial reporting can be expected, with independent assurances being given to the ESG reports. In each of these developments, SMEs should not be forgotten as they constitute a key dimension of the economic and social landscape of the region.
At present, ESG reporting in the main lacks consistency and comparability. That is not to say there are not great examples out there – but for better clarity, deeper insight and more proactive risk management – there is no doubt that what is needed right now in the Middle East is:
1. ESG standardisation, at a region level.
2. ESG reporting under a single body, which must be organised and authorised properly; standardization is not sufficient for effective regulation without adequate controls and systems in a practical risk framework.
Purpose/& believes that governments and organisations across the Middle East have an urgent shared responsibility: to start to act now, given the changing regulatory landscape for ESG reporting.
Given the existing good examples in our region it would in fact be possible to start to take a lead. For instance, an ESG Foundation could be established: a policy, research, innovation, and executive development organisation to promote sustainable ESG practices, increase resilience to various forms of ESG risks, drive strong commitments for ESG innovation, and inform ESG regulations for economic and societal benefits.
A holistic and interdisciplinary approach could be adopted in collaboration with academics, industry experts, policymakers, and other stakeholders.