ESG (Environmental, Social, and Governance) ratings have become a critical measure of a company's sustainability and ethical practices. An ESG rating measures a company’s exposure to long-term ESG risks, providing investors, stakeholders, and consumers with a way to evaluate a company's performance based on ESG criteria. With the thriving of ESG ratings such as Bloomberg, it has become imperative for companies to measure their impacts and ESG performances through the most effective KPIs choices.
The global context
Peter Bakker, the President & CEO of World Business Council for Sustainable Development (WBCSD), shared his perspective on the overwhelming number of Environmental, Social, and Governance (ESG) rankings, ratings, and key performance indicators (KPIs) that he referred to as a zoo.
Despite over USD 30 trillion invested in ESG-themed assets, Bakker emphasized the importance of standardization, citing the staggering figures of more than 600 ESG rankings and ratings and over 4,500 ESG KPIs.
In this context, multiple ESG rating systems have been established by various rating agencies, each with its unique approach - either focusing on ESG performance or ESG risk.
Environmental, Social, and Governance KPIs
ESG KPIs serve as measurable indicators designed to assist companies in comprehending the impact of their operations on the Environment, Society, and Governance.
Private equity and venture capital managers rely on these KPIs to assess the ESG effect of potential or current portfolio companies, thus enabling them to evaluate the impact of their funds. Moreover, ESG KPIs offer insight into the risks that investors and managers might encounter in their investments and funds.
As regulations such as the EU Taxonomy and the Sustainable Finance Disclosure Regulation (SFDR) take hold in Europe, investors increasingly require companies to report on ESG metrics.
ENVIRONMENTAL KPIs
A Deloitte Global survey revealed that climate change affected the business of 91% of executives, with 84% of them personally concerned about the potential impact of climate change on their enterprises.
- Carbon footprint
One of the most significant ESG factors is a company's carbon footprint. Measuring the amount of carbon emissions produced by a company is essential in determining the company's environmental impact.
Carbon footprint includes emissions from all of the company's activities, including production, transportation, and energy consumption. Lower carbon emissions indicate that a company is taking proactive steps to reduce its environmental impact.
- Water usage
Water is a precious resource and companies need to be responsible regarding its usage. Measuring water usage is an important ESG factor that helps companies identify areas where efficiency can be improved. Companies that use less water in their operations and manufacturing processes have a lower environmental impact.
- Waste management
Living in a finite world, in which resources are given in a fixed number, makes waste management a crucial aspect to consider. A company's waste management practices can have a significant impact on the environment. Measuring the amount of waste a company produces and how it disposes of that waste is important in determining the company's ESG rating.
SOCIAL KPI
ESG ratings aren't just about environmental factors; they also include social considerations as an organization’s operations have an impact both internally on the employees and externally on the local communities.
In the current business landscape, social responsibility is a fundamental prerequisite for companies to guarantee that their products, services, and overall operations benefit local and global communities.
Therefore, Social KPIs concentrate on:
- managing employees
- fostering a positive company culture
- promoting diversity and inclusion
- maintaining high health and safety standards.
- Employee safety
Employee safety is an important social factor that companies need to prioritize to have a robust ESG strategy.
By evaluating metrics such as injury incidents and employee productivity, organizations can identify strategies that enhance location management, provide relief to overburdened employees and rectify problematic employee policies.
Various corporations are now mandating health and safety training, offering avenues for anonymous employees’ feedbacks concerning health and safety issues, and implementing measures to guarantee that all equipment and facilities follow industry standards. These initiatives help ensure that employee safety is a top priority and pave the way for more effective ESG practices.
- Training
Insufficient training can adversely affect efficiency, employee morale, and revenue. To monitor employee training, a useful approach is to quantify the average number of training hours completed per employee within a specific timeframe. Analyzing the impact of this metric on performance-based KPIs can provide insights into how training affects the organization's overall success.
GOVERNANCE KPI
Corporate governance refers to the framework through which companies are managed and guided. Therefore, KPIs in this area evaluate aspects such as leadership, ethical practices, and management procedures.
- Board diversity
Board diversity is another important social factor in ESG ratings. Measuring the diversity of a company's board, including gender, ethnicity, and age, is important in evaluating a company's governance practices. Companies with diverse boards are viewed positively by investors and stakeholders, as they are seen to have a more inclusive and balanced decision-making process.
- Ethics and compliance
Ethics and compliance are essential governance factors that contribute to a company's ESG rating. Measuring a company's track record, in terms of ethical behavior and compliance with laws and regulations, is critical in evaluating a company's governance practices. Companies that prioritize ethics and compliance are viewed positively by investors and stakeholders as they are seen to be more trustworthy and responsible.
- Anti-corruption
One of the crucial elements of securing a positive image in the eyes of investors and shareholders is managing corruption within an organization.
It is essential to track various anti-corruption aspects to effectively monitor and prevent corruption.
These may include the percentage of management personnel who have undergone anti-corruption training, the number of incidents related to management corruption per reporting period, and the frequency of meetings focused on preventing corruption and promoting an anti-corruption culture within the firm.
Conclusion
ESG ratings have become critical to a company's sustainability and ethical practices. Measuring KPIs across Environmental, Social, and Governance factors can help investors and stakeholders evaluate a company's ESG rating.
The checklist above provides a starting point for evaluating a company's ESG rating, but it's important to remember that these KPIs are just one part of a comprehensive evaluation.
A company's overall ESG rating is determined by a range of factors, including its industry, size, and geographic location. It's essential to evaluate a company's ESG rating in the context of its specific circumstances to get a complete picture of its sustainability and ethical practices.
