Decoding ESG and CSR
CSR (social responsibility) and ESG are two terms that often feature in corporate discourse. They both relate to businesses’ social responsibilities. While CSR holds organisations accountable for their social commitments, ESG accounts for and quantifies them.
Many organisations use ‘sustainability’, ‘corporate responsibility’ or ‘corporate social responsibility’ to refer to strategies and programmes related to environmental, social or governance (ESG) activities. These frameworks provide the structure to address ESG reporting. In other terms, it can include ‘non-financial’ and ‘extra-financial’ reporting.
Working with the APPG on ESG, we wanted to address the issue of clarification around the use of these three letters and explore the danger of dilution.
CSR and ESG – culture vs quantification
A big issue is that ESG has begun to spill out into other meanings, and this has not been challenged. One is the relation that ESG has with the financial sector and how portfolio managers, analysts, and data companies have understood ESG investing for years. That is taking environmental, social and governance issues into account when trying to assess potential risks or opportunities. Another is about investing in “ethical” or “green” or “sustainable” assets and trying to make a positive difference with their money. And finally, there is the rise of ESG as a framework or replacement for CSR, irrespective of the global frameworks or rating agencies.
However, by fully understanding the relationship between CSR and ESG, we are better placed to differentiate between a framework that engages internal stakeholders. This can then ensure a purpose-driven culture within an organisation that can then be communicated externally, as well as a methodology that measures and reports impact mainly for the benefit of external stakeholders.
Social responsibility is about developing a strong company culture that empowers employees to do environmental and social good. Social responsibility is important to businesses because employees can benefit from working in an inclusive environment and towards a valued social goal. This builds a strong company culture that positively impacts people and productivity. It delivers both social and financial value through staff engagement, retention, attracting talent, efficiencies, tendering, and reputation.
Whilst social responsibility and sustainability impact internal processes and company culture, ESG is a measurable set of propositions that external partners and investors look at in their evaluation of a company. ESG scoring illustrates a company’s identification and quantification of its risks and opportunities. Measurable considerations are beneficial both for external partners and investors and company executives in making strategic decisions.
Same objectives, different approaches
Some concepts we all understand and recognise as important are: improving working conditions and human rights, reducing resource use, minimising carbon footprint and improving community engagement.
ESG scoring (rating) is different. It encompasses all these factors and yet is focused on its material impact on the business. The aim of business managers and board members may ultimately be the same, to work more efficiently and with a reduced impact on the environment and society. But the language they employ to describe and achieve these goals can be very different. Business managers are concerned with improving and communicating sustainability and social responsibility impacts. However, a board is also interested in ESG scoring because it is a vital part of what an investor will consider – this is part of its materiality.
Active engagement by corporate boards stems from a profound change in the way financial markets are approaching social responsibility and sustainability. Investors are no longer solely focusing on financial statements. Instead, they are taking an integrated approach to investment decision-making that involves financial information and ESG performance.
The need for a ‘regulatory push’
ESG reporting relies on an organisation firstly adhering to a global framework as defined by their environmental and socially responsible initiatives and then scored via a mechanism determined by independent rating agencies.
With growing interest in ESG, investors need a way to objectively assess the ESG performance of a company. This has led to the rise of several ESG Rating Agencies such as Sustainalytics, MSCI and FTSE Russell that assess companies globally on their ESG performance and make this data available to their clients. The trick is in encouraging transparency and consistency in ESG ratings, ensuring the quality and quantity of ESG data globally with coordination and collaboration between international bodies and importantly, the future regulatory environment.
There is a lack of clarity that can exist in the market between what different ESG rating products are trying to achieve. For example, the difference between an ESG rating product that is assessing the ESG impact that the company might have versus an ESG rating product which is assessing the ESG risks to the long-term sustainability of that company.
Without some level of regulatory push, we will likely see the emergence of an ESG wild west with ‘ESG Cowboys’, advisors, benefiting from disingenuous and unsubstantiated claims until consumers and society demand to scrutinise and validate their ESG credentials.
Navigating the two worlds
While CSR encourages organisations to benchmark, report, evidence and communicate outcomes, often via a social impact report, CSR Accreditation provides independent validation and recognition of an organisation’s socially responsible activities.
CSR differs in that it should start within an organisation and engage directly with all internal stakeholders. It is more of a bottom-up approach, dependent on external auditors.
In the case of CSR-A, we have defined a new standard that has established the four pillars of environment, workplace, community, and philanthropy as a framework that provides structure to help an organisation plan and act responsibly. It empowers an organisation to benchmark what they are already doing concerning social responsibility and sustainability. This is important to businesses because employees benefit from working in an inclusive environment and towards a shared-value social goal. This builds a strong company culture that positively impacts people and productivity. External communication must be supported with evidence to back-up claims and avoid greenwashing.
Because CSR is self-regulating and driven internally to deliver evidenced impacts, it remains robust, authentic and purpose-led. By contrast, navigating the ESG landscape is complex as the principle lacks maturity and is subject to misinterpretation. Until we have globally agreed clarity and regulation there is a danger that data cannot be trusted and therefore unreliable when making investment decisions on risks, impacts, and opportunities. We have to be honest about the trade-off between financial returns and doing the right thing, it cannot be left to index providers to rate goodness.