Environmental, social, and governance (ESG) data is being used more and more systematically. Why? It's ultimately down to a shift in investor mindset towards issues like global warming, resulting in (and driven by) initiatives like the European Commission's Action Plan on Financing Sustainable Growth, which strengthens regulations on sustainability disclosures.
Further confirming this trend is the consolidation of the ESG rating agencies market, with Morningstar taking a 40% stake in Sustainalytics and the more recent acquisition by Moody's of a majority stake in Vigeo Eiris. Sustainability data is certainly more relevant to investors than ever before—and it will soon be available on a global, industrial scale.
Making sustainability data the norm
In a world where sustainability data is processed, interpreted, reported upon, and provided in all sorts of forms and shapes, the risk of "green-washing"—which the EC wants to tackle—may be rising.
If sustainable finance is to become the new norm, then sustainability data must be treated with the same level of diligence as its sibling "financial" data. When reliable, well-analyzed, and used efficiently, sustainability data is, after all, financial-related data.
From self-declaration to verified data
At the moment, the disclosure of sustainability data is usually done voluntarily as a self-declaration. However, as the non-financial performance of businesses and investments come more under scrutiny, and as non-financial disclosures are increasingly regulated, a global shift is coming: sustainability performance data will be less self-managed and more audited—and thus more reliable.
At the moment, the situation may be described as it follows:
- At the company level, corporate social responsibility data is being increasingly reported on, and, as the latest merging trend, increasingly audited. National regulation in some countries has been behind this boost of data verification.
- At the asset owner and investment manager level, no clear guidelines are being followed, resulting in very scarce or even inexistent data about the way assets are being handled and exchanged.
- At the investment funds level, a large number of funds report on the ESG impact on their portfolios in monthly factsheets and other communications intended for clients. However, this data is mostly not audited, and hence of limited reliability.
As interest grows, the green-washing risk remains real as non-financial data is rarely verified. Thus, to reinforce the credibility of ESG data to the whole industry and reassure stakeholders, a third-party, independent review is needed, as is already in place for green bonds certification. And if green bonds are to serve as an inspiration for the rest of the financial market, we can expect a rise in asset managers having their investing processes verified, and in investment vehicles having the sustainability information in their legal and marketing document audited.
Regulation will shake it all up
The Non-Financial Reporting Directive (NFRD) already requires certain entities to report sustainability information, prescribing among other things application scope, report features, and auditor involvement. The NRFD has been transposed into national legislations differently, and while the French and Luxembourgish versions are quite similar, the French regulator went a step further by making the audit of non-financial reporting mandatory for companies with 500+ employees and a turnover over €100 million or balance sheet over €100 million.
In 2019, the regulation of non-financial reporting will be further strengthened through the adoption of several pieces of legislation and non-legislative measures:
- The NFRD will be further supplemented with additional non-binding guidelines on the reporting of climate-related information, expected to be issued in Q2 and aiming to provide additional guidance to companies on how to disclose this type of information.
- Benchmark providers will have to explain their methodologies for carbon-related benchmarks.
- Credit rating agencies will soon have guidelines on disclosing the extent to which sustainability factors are considered as part of a credit rating.
- UCITS and AIF managers, with delegated acts coming in June 2019, will be asked to be transparent on the integration of sustainability risks in investment decision processes and in sustainable investments in pre-contractual disclosures and websites.
As a result of the strive for accurate, reliable, consistent, and comparable financially-related data, there is a serious opportunity to be had in verifying internal processes and data production through assurance reports from regulated audit professionals. Doing so can increase value for investors while combining both financial and sustainability audit costs. We expect that more companies will follow the path created by pioneers like the European Investment Bank, which has established a best-in-class practice of verifying the non-financial information disclosed both in its annual sustainability report and green bond report.
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