“We need to be greener” – a remark likely being echoed in numerous boardrooms across the world.
Why has this become an urgent concern for most organisations worldwide? The answer may be obvious, but the increased significance being applied by global institutional investors and activist shareholders may be going unnoticed, at least in the local scene.
Investors are putting sustainability at the very forefront of their investment decisions. There is a clear recognition that the impact of ESG factors on the risk-return calculation of a potential investment is significant.
This added importance on ESG factors is giving rise to a significant risk, which has been termed greenwashing.
What is greenwashing?
In its simplest form, greenwashing is a marketing tactic or strategy that organisations use to convince environmentally conscious customers to purchase their product over a competitor’s product. In other words, greenwashing is when an organisation presents itself as being sustainable by providing false or misleading information about their practices.
The nature of greenwashing can range from the extreme, such as the Volkswagen case that resulted in the company admitting to cheating emissions tests, to other situations that may not be so blatant.
The increase in cases of greenwashing could be regarded as the biggest threat to the success of ESG. Rather than focusing on embedding the core values of ESG within the organisation, strategists may create plans to win market share by presenting a story of sustainability that could not be further from the truth. It could also lead to profound negative effects on investor and consumer confidence in green products.
How can greenwashing be eradicated?
Many of those that oppose the introduction of ESG-related regulations are uncertain whether greenwashing can be eradicated, at least not in its entirety.
However, we have already seen that the Securities and Exchange Commission (SEC) has created an ESG enforcement task force to identify violations in disclosure and compliance related to ESG funds.
In the EU, rules have also been enacted to give investors the power to hold asset managers accountable where ESG funds have been impacted by greenwashing. Green claims need to be substantiated with reports that are reliable, comparable and verifiable across the EU, allowing market actors to engage in green decisions.
What is ESG Investing?
ESG investing refers to a strategy that assists investors, or potential investors, to ultimately invest in companies that score highly on independent ESG scores.
ESG research firms are producing scores for a wide range of businesses, providing a clear metric for comparing different investment opportunities. These ratings rely on multiple criteria to evaluate each of the individual ‘E’, ‘S’ and ‘G’ components, by taking into consideration information such as annual reports, corporate sustainability measures, resource/employee/financial management, board structure and compensation. The ratings typically follow a 100-point scale – the higher the score, the better an organisation is seen to be performing.
The S&P 500 ESG Index was launched in 2019 and measures the stock value of some of the largest businesses by market capitalization listed in the United States which meet certain sustainability criteria. It is similar to the original S&P 500 Index but aims to help investors choose between businesses based on their commitment to strong ESG goals.
Investors are no longer purely interested in the financial return on investment but have become increasingly concerned about the environmental and social problems, such as climate change and climate crises, gender and racial inequality, data security and privacy. Investors are determined to reduce the risk of being associated with organisations that are making these problems even worse and would rather invest in organisations that are championing ESG advancements.
To a Better Future
Investors that are conscious of the environment and its sustainability seem to agree that investing in sustainable organisations is the only way to create a better future. But the increase in ESG investing will inevitably lead to more and more organisations trying to lure investors with false claims of their sustainability practices.
The importance of strict policies and regulations, coupled with constant monitoring by regulators, to eliminate greenwashing, cannot be overestimated.