For the past few decades, the purpose of businesses had been thought to be simply making profit and maximizing value to shareholders. But as people experience the negative externalities resulting from blindly chasing after profit, they began to rethink the role of businesses. More attention is now given to the triple bottom line: the social, environmental and economic impacts of businesses on the world.
An environmental, social and governance (ESG) report measures the performance of a company against the triple bottom line model. While many listed companies argue that an ESG report raises the cost of maintaining the listing status, ESG reporting does offer both internal and external benefits from a practical point of view:
Vision and strategy. Companies can set their direction by placing their purpose, vision and strategy into the context of global sustainability. The sustainability reporting process helps to make this explicit to stakeholders.
Management systems. Sustainability management and reporting require management systems, which improve data quality. The practice of tracking data highlights opportunities for improvement, efficiency and cost-saving.
Strength and weakness. Early warnings of emerging issues can help the management seize opportunities or evaluate potentially damaging developments early, before they emerge as unwelcome surprises.
Reputation and trust. Proactive and transparent communication about your sustainability efforts builds goodwill, reducing reputation risks. It also improves product image, brand name and reputation.
Attracting capital. Reducing risk through sustainability management and communication can help signal quality and good management, providing potential for new sources of capital and lower costs.
Stakeholder engagement. Ongoing learning from the outside-in. Stay up-to-date on the regulatory environment. ESG reporting is a powerful tool to build or restore trust among stakeholders.
For the past few years, stock exchanges in Asia have been announcing new disclosure requirements on ESG, demanding listed companies to report on their ESG performance. If you are in charge of ESG reporting, the primary and the most crucial part is to determine report boundary and content.
In the case of a multinational corporation, it usually has various subsidiaries in different locations. Thus, determining an appropriate report boundary and disclosing content that is material to the company itself and the stakeholder groups are indispensable steps for preparing a stakeholder-friendly ESG report.
When preparing an ESG report, companies should be aware of the four principles for defining report content. I have created an acronym for it: MSCI.
M - Materiality
Materiality is the essence of ESG reporting. Companies have to ask themselves,“what issues are material to the company and its stakeholders?” For the report to be strategic, concise, credible and be easy to navigate, companies should report only the information critical to their business and the aspects that have a profound influence on the decisions of stakeholders.
S - Sustainability context
Key performance indicators (KPIs) should be presented in the wider context of sustainability. One of the questions that the company should answer in the report is, “how does the company contribute to the improvement or the deterioration of economic, environmental and social conditions at the local, regional or global level?” Reporting only on individual performance fails to answer this question, so the report should state the sustainability performance based on the context of the limits and demands of different environmental and social resources.
C - Completeness
The report should cover the material economic, environmental and social impacts, so that stakeholders can assess the company’s performance in the reporting period. This principle encompasses the dimensions of scope, boundary and time, and refers to practices in information collection and assessment on the appropriateness of the presentation of information.
I – Inclusiveness
The report should clearly state who the company’s stakeholders are and how it responded to their different interests and expectations. Meeting the reasonable expectations of each stakeholder is an essential reference point for making decisions in preparing the report. Consequently, it leads to the formation of trust between the company and different stakeholders.
Although ESG reporting is here to stay, the prevailing perception is that it is nothing more than another public relations exercise in which board members and investors pay very little attention. While this might be the case now, judging from the incidents that we have been experiencing, such as the Volkswagen emissions scandal, I am quite confident that non-financial information will become an integral part of the fundamental analysis of a company in the next five to 10 years. And once a more widely-accepted standard can be agreed upon by investors, non-financial information could well be integrated into quantitative stock analysis.