Last June 26, during an interview on the floor of the New York Stock Exchange, Larry Fink mentioned that he had stopped using the acronym ESG (environmental, social and governance factors), because, according to him, has been entirely politicized, even “militarized” by the far left as much as by the far right. The CEO of BlackRock, the world’s largest asset manager, was seen as the thought leader and main champion of ESG-based responsible investing, a trend he himself galvanized by publication of its annual letter to CEOs.
Have we reached a breaking point with ESG?
Indicators certainly show a growing polarization. According to the most recent data on the 2023 proxy season in the United States, shareholder proposals dealing with environmental issues are down for the first time in five years, but it is above all the level of support that stands out, reaching 23% compared to a peak of 49% in 2021. At the same time, we note that the number of anti-ESG proposals is growing rapidly (74 in 2023 compared to 43 in 2022), although the level of support for such proposals remains anecdotal.
Anti-ESG sentiment is very strong in the United States. To date, 15 states have already passed some form of legislation prohibiting their officials from investing public money with asset managers using ESG criteria to determine investment choices. A dozen others have similar bills under consideration. Nevertheless, still at the heart of the American paradox, five states have instead adopted or are considering legislation requiring the use of ESG criteria. The politicization of ESG is therefore very real.
ESG today suffers from the lack of coherence in the definition of its components, of cohesion between them, in addition to being based on a form of self-regulation that is not very well defined.
Lack of consistency
The Organization for Economic Co-operation and Development (OECD) noted, as early as fall 2020, that ESG practices – from company rankings to individual metrics – presented a fragmented and inconsistent view of ESG performance and risk.
The organization, far-sighted, indicated that if nothing was done to remedy this situation, it would eventually undermine investor confidence in ESG portfolios, indices and rankings.
Several studies repeatedly show a very low correlation coefficient (even negative in some cases) between the ratings assigned to companies by different ESG rating agencies. Thus, a firm may obtain an excellent environmental score according to one agency, but be assessed as mediocre by another. Researchers explain these significant differences by measurement issues, by the number of variables considered, and by the relative weight associated with each of these variables.
Several assessments are based primarily on the (voluntary) disclosure made, for example, in sustainability or social responsibility reports. Not surprisingly, studies show that companies with larger capitalization, more resources and better reports tend to obtain significantly higher ESG scores than smaller companies. An indication that we may not be measuring the right things, and an open door to greenwashing and socialwashing. It is difficult to form a reliable opinion after reading these scores.
Lack of cohesion
With more than 400 ESG performance indicators, it becomes difficult to understand what unites under one roof criteria as diverse as composting management, the number of showers and changing rooms per employee and the percentage of directors independent on the board of directors. Would we invest in a poorly governed society that reduces its greenhouse gas emissions? A highly polluting company that treats its employees well and has a very effective diversity and inclusion policy?
The criteria and priorities that guide investors’ choices are personal.
The politicization of the acronym ESG is not surprising since we can attribute to it the meaning and scope that can feed one or another ideological interest. However, we can be sorry that this politicization was not a prelude to this trend rather than a reaction, and that governments – at national level and through international agreements – did not wish (succeeded?) to quickly frame and effectively ESG disclosure and standards. If all players were subject to the same rules, it would be easier to determine who the real winners are.
Perhaps Larry Fink is now right to swap ESG for the benefit of the syntagm “stakeholder capitalism”, which has been coming back to the fore for several decades. There is consensus on the idea of a capitalism concerned with the environment, the well-being of its host communities and respect for human rights. It is simply the tangible manifestation of sound governance rooted in a long-term vision.
Companies that last have already understood this well and do not wait for trends to make the necessary decisions.