As we move into the future, we are confronted with one of the most critical periods in human history. The impact of climate change will undoubtedly affect every business in some way, and as a result, agility and preparedness are essential. Numerous countries and unions have already implemented various carbon schemes, such as taxes and cap-and-trade, which require large corporations and emitters to pay for their CO2 emissions. While many of these schemes currently only affect a few, more international regulations regarding carbon pricing are inevitably on the horizon.
What is ESG, and why is it important?
Environmental, Social, and Governance (ESG) initially referred to more ethical investment practices, but this has now been extended to cover a more specific set of initiatives that companies can adopt to improve their sustainability. The first element of ESG is the environment, which covers the company’s energy usage and waste, including the pollution this may cause. All companies utilise different resources, and the extent to which these are used efficiently is all reflected by the ‘E’ in ESG. The ‘S’ stands for social criteria and addresses relationships, diversity, safety, and wellbeing. It also includes the company’s reputation and customer perceptions. ‘G’ stands for governance and refers to the internal system of practices and procedures. G also relates to effective decision-making, legal compliance, and external stakeholder needs.
Due to increased regulatory pressure for precise ESG reporting, it has become increasingly important for businesses to be well-versed in this area. It’s no longer just a compliance requirement but a strategic necessity for unlocking growth opportunities and ensuring long-term viability. The reason lies in the rate of ESG growth in current economic markets. ESG-oriented investing is currently larger than ever, with global sustainability investing exceeding $30 trillion. This is a 64% rise compared to levels in 2014, suggesting that ESG is not just a ‘trend’ but a feature that thriving companies need to adopt. This underscores the crucial need to embrace a leadership role in sustainability. A strong ESG outlook can reward companies with long-term growth prospects, so it is in their best interest to invest in enabling its development.
There is evidence that a strong ESG proposition creates value within corporations, resulting in higher overall equity returns, and reduced downside risk in terms of higher credit ratings. Based on the evidence, there is a clear link between ESG criteria and value creation. Let’s dive into how ESG links to cash flow and generates value for businesses.