Companies looking to demonstrate and understand how they are performing in sustainability have long turned to ESG benchmarks and ratings. In the past decade, the market for ESG ratings has grown significantly with 59 providers identified in Europe alone. This vast array of benchmarks can be difficult for a company to navigate. Regulators have also recently taken note, turning their attention to how the ESG benchmarking market functions to understand if regulations are needed to protect companies and encourage a fair market.

Last summer, Finch & Beak conducted the second edition of its annual ESG Market Survey. Responses from more than 160 stock market-listed European companies show that companies are increasingly responding to a myriad of ESG benchmarks. On average, the surveyed organizations are replying to five different benchmarks with nearly 40 percent of the sampled group stating that they responded to six or more benchmarks in the previous year. To answer such a variety of benchmarks is a heavy burden on companies, as exemplified by a respondent’s comment, “if we were to answer all ESG ratings we get approached by, that would require more than one full-time employee.”

Given the maze of benchmarks that companies are aiming to navigate and respond to, it is no wonder that surveyed companies stated that one of the main challenges for implementing their sustainability strategies is collecting and managing ESG data across the business. Moreover, if companies decide to not respond to benchmarks, for example, S&P Global’s Corporate Sustainability Assessment (CSA), the company will be assessed by the ratings agency based solely on publicly available data. Often, this results in a lower score as the ratings analyst can only draw conclusions based on publicly available information and without any additional (confidential) context provided by the company.

This catch-22 situation causes frustration within companies, but business media has also turned its eye to the ESG market to understand if they are really measuring what they set out to calculate. Or, if the ratings are stopping short of truly looking at companies’ impact on society and not focusing only on risks that jeopardize investors’ returns.

Recently, Bloomberg discussed the fact that benchmarks are increasingly diverging in their approaches, including fundamental topics such as applying the concept of double materiality. MSCI, for example, has been criticized for not applying double materiality in its ESG ratings process, even though many other benchmarks and legal frameworks are embracing this principle. This, coupled with the growing number of benchmarking entities that operate in Europe led to regulators within the European Union taking note.

European regulators gather data to evaluate need for ESG ratings regulation

At the start of 2022, the European Securities and Markets Authority (ESMA) announced a call for evidence as part of its effort to understand the size, structure, resourcing, revenues, and product offerings of the different ESG rating providers that are currently operating in the EU. The overall aim of its assessment is to understand if there is a need to introduce regulatory safeguards for ESG ratings, in order to put guardrails on the ever-expanding market that so far does not have any type of regulation. This is particularly concerning for the companies and the regulators as company’s reputations and stock values can be significantly affected by these results.

By end of June 2022, the group had published some of its initial findings based on the responses that it received. The primary takeaway being that there are 59 ESG rating providers currently active in the EU. While this already seems like a large market, the market is, based on responses, expected to continue to grow even further.

Interestingly, another conclusion of the responses is that companies are using ESG ratings to determine the way in which they manage sustainability risks and opportunities and their impact on the outside world. However, companies who are utilizing this approach should ensure that the sustainability strategy within the company is aligned with its material topics. And, not only looking at the company’s impact on the outside world but the outside world’s impact on the company i.e., the approach of double materiality—the same topic that MSCI has decided not to incorporate in its methodology.

Now that ESMA has gathered all the feedback from respondents, it will have to continue an internal assessment addressing the next steps. It is expected that ESMA will eventually take some sort of action. This is anticipated as the vast majority of respondents stated that they considered intervention in the ESG ratings market as necessary. And of those who think intervention is needed, three-quarters believe that a legislative intervention is required with some sort of authorization and registration regime as a pre-requisite for offering services in the EU. However, this process is likely to entail additional delays and companies should work to navigate all the benchmark requirements and crowded ESG ratings field.

3 tips for maximizing efficiency and effectiveness in ESG ratings

Making the most out of the ESG benchmarks that a company is replying to is advised, but when there are this many to navigate, it can get overwhelming. Follow the below three tips to help your company find its way to be efficient and effective in replying to multiple benchmarks:

1. Be critical on the selection of benchmarks: Companies are advised to take a close look at which benchmarks are most suited to respond to and preference those that align closest with its strategic priorities. A good method to evaluate this is to consider the richness and reach of each benchmark, and make a conscious decision to focus a selection of ratings that fit within the company’s reporting resources.
2. Focus, review and compare: To maintain focus, a key approach is to align material topics, business principles, and heavily weighted topics to prioritize focus areas for improvement to streamline the company approach. Performance can be reviewed to identify the company’s biggest performance and disclosure gaps across several ratings at once.
3. Mobilize and engage topic owners: Once priority areas have been established, align with topic experts in their individual fields (such as HR or Procurement). Working with these team members to agree on actions that can further the company’s ESG performance and solidify the idea of sustainability as a shared responsibility across the company, while also increasing direct engagement.

The downloadable cheat sheet available at the top of this article further details how to move forward with the three tips above to advance your approach to ESG ratings.

Is your organization prepared to step-up its approach to ESG ratings?

If you are looking to better navigate the ESG ratings maze and elevate your approach to engaging in a strategic manner in the next reporting season, contact Johana Schlotter at johana@finchandbeak.com or call +31 6 28 02 18 80.

^{Photo by Susan Q Yin on Unsplash}