What Are ESG Criteria and Why That Matters
Guest Post by Orlando Rodríguez (Credit.com) November 19, 2021
What are the ESG criteria, and how does that information inform investors? ESG is a growing trend in business management and financials, and even some governments are getting on board with the relevant factors. Find out more and get some tips below on what you can do to ensure your company is considered ESG.
DISCLAIMER. The information provided in this article does not, and is not intended to be, legal, financial or credit advice; instead, it is for general informational purposes only.
What are ESG criteria?
ESG stands for Environmental, Social, and Governance. These are three criteria that investors may use to make decisions about what stocks to buy or what companies to support.
The ESG criteria list includes:
- Environmental criteria, which look at how environmentally friendly a business is. They might consider whether processes are sustainable, if the company supports efforts such as conservation, or what types of products the business makes or sells.
- Social criteria, which consider the overall social impact of the brand. That might include factors such as how the business treats employees and customers, but it could also involve its relationship with business partners or its overall reputation.
- Governance criteria, which relate to how a business governs itself and its finances. They are particularly concerned with internal controls and audits, shareholder rights, and management compensation.
Get more details about ESG criteria, including detailed lists of factors that relate to the environmental, social, and governance categories.
Why are ESG investment criteria important?
ESG criteria are important—and becoming more important each year—for a number of reasons.
Why does ESG matter to investors?
ESG criteria help investors put their money into brands and products with values that match their own. This can be important to socially-conscious investors who want to know they’re helping businesses that are reducing their impact on the environment, contributing to a diverse culture, and working toward a better future.
Here are some examples:
- Eco-conscious investors look to support entities that are actively reducing greenhouse gas emissions or developing energy-efficient processes. By investing in such organizations, investors are helping support the success of businesses that want to create the type of future they also envision.
- Investors may be interested in brands that support human rights or have a company culture that aligns with their beliefs. For example, a Christian may want to invest in Christian companies. A philanthropist may want to invest in companies with philanthropic projects. Someone who simply believes in the good treatment of others might only want to invest in businesses that treat employees and customers well.
- The governance component of ESG can help investors understand whether an investment has extra risks or not. When you’re aware of how a corporation reports finances, pays its leaders, and cares for shareholders, you have a better understanding of whether it’s a good steward of the funds you invest. Governance criteria also help investors understand what type of lobbying efforts an organization is involved in, which can help them align investment dollars with causes that matter to them—or at least avoid those they don’t want to support.
Investors who want to make a difference with their dollars can find ESG stocks to invest in. Learn more about ESG stocks, including how to find them and how to check stock ESG scores to understand what type of companies you have in your portfolio now.
Why does ESG matter to companies?
Being strong in ESG factors is good for the entire business, from sales and marketing to risk management and compliance. Here are just five ways ESG matters to companies.
It’s good for brand image
Being seen as a socially or environmentally conscious brand can be great for business. Yes, you can draw investors who want to buy into your positive image and support it. But you also attract customers who want to support your processes by buying products and services.
Numerous businesses have successfully made ESG criteria the backbone of their marketing platforms. Patagonia, for example, has Patagonia Action Works, an agency that helps grassroots groups work toward solutions for the environment.
Another example is Warby Parker, a company that strives to provide affordable vision-correcting glasses to people across the globe. First, Warby Parker is transparent about how its glasses are made and works to make them affordable. Second, when someone buys a pair of glasses, Warby Parker gives a pair to someone in need.
Consumers can buy outdoor clothing or eyeglasses from plenty of businesses. Many choose Patagonia or Warby Parker specifically for ESG reasons—and these are just two examples of hundreds or thousands of businesses making such factors work in their favor.
It supports long-term relationships with partners
Consumers aren’t the only ones that want to partner with like-minded businesses. Spending time and resources on ESG criteria can make your company a more attractive partner, and that can lead to long-term, valuable relationships with other companies. Whether you’re working toward the same environmental or social efforts or simply have a similar vision and values, these factors can inspire trust and an open business partnership.
It supports positive financial outcomes
ESG fund assets are growing dramatically, reaching $2.24 trillion globally in June 2021 and $330 billion in the U.S. alone as of September 2021. Factors driving the financial success of ESG funds include:
- New product launches
- Rebranding of businesses seeking to make a name in the space
- More assets in ESG funds as people seek to put their money where their values are
Overall, the trends bode well for increased financial success for companies that work toward ESG criteria now.
It reduces risks
Working toward ESG criteria can help reduce some risks for your company. Social ESG criteria include diversity, for example, and investing in diverse practices and education can help reduce the chance your business is targeted for discriminatory practices.
Other risks ESG factors can reduce include fines associated with environmental issues or bad publicity if you’re supporting lobbying efforts or pay structures that don’t align with your published mission and values.
It may be mandatory
Finally, ESG factors may become increasingly mandatory as governments and industry agencies find value in them. The European Union Sustainable Finance Disclosure Regulation, for example, already mandates some ESG disclosures for certain types of financial firms.
What can companies do to be considered ESG?
To be considered ESG, companies must invest in processes and products that benefit the environment or society. Some popular options include:
- Working toward Net Zero or reducing carbon emissions
- Engaging in philanthropy, such as supporting solutions for world hunger or meeting product needs the way brands like Toms or Warby Parker do
- Creating agencies that become involved in enacting change, such as Patagonia’s Action Works
- Lobbying state and local governments in support of social or environmental change
It’s important to ensure that ESG actions align with the company’s goals, mission, and values. In some cases, this may require a rebranding effort.
Once a plan is made, and action is taken to create ESG factors within a company’s culture, processes, and outputs, the business must have a way of measuring those efforts and reporting them. It’s not enough to say you support a social cause or you’re working toward environmentally friendly processes—consumers, business partners, investors, and governments want to see proof.
Finally, you can use that proof to build marketing campaigns around your ESG status to attract consumers and investors aligned with them.
Orlando Rodríguez is a writer and content specialist for the credit.com team committed to creating helpful, informative and eye-catching content. He completed his undergraduate work at the University of Utah. In his time off, Orlando puts effort into crafting creative content around the arts.
🔔 Looking to learn more about ESG? Check out our ESG investing guide.