The Canada Energy Regulator and ESG – Overview of Environmental, Social, and Governance (ESG)
What is ESG?
ESG refers to environmental, social, and corporate governance factors which are considered non-financial and relevant or material to stakeholders. ESG factors can highlight additional risks and opportunities of an investment.Footnote 6 Figure 1 below lists examples of ESG factors.
Figure 1: Examples of ESG Factors
- Climate change & carbon emissions
- Air and water pollution
- Energy efficiency
- Waste management
- Water scarcity
- Customer satisfaction
- Data protection & privacy
- Gender and diversity
- Employee engagement
- Community relations
- Human rights
- Labor standards
- Board composition
- Audit committee structure
- Bribery and corruption
- Executive compensation
- Lobbying & Political contributions
- Corporate culture
- Whistleblower schemes
The term ESG refers not only to the factors included in investment analysis, but also the associated metricsFootnote 7, Footnote 8 of these factors. ESG metricsFootnote 9 are evolving, illustrating the changing public interest in Canada and internationally, and may include:
- Environmental measures that consider how a company performs land reclamation, reduces pollution and emissions, and decreases their water usage.
- Social metrics that show how a company integrates community livelihood, diversity, and equality into its operations.
- Governance criteria that highlight company culture, leadership, executive pay, internal controls, and shareholder rights.
ESG: Frameworks, reports, and rating agencies
The term ESG also refers to the system used for investment analysis which involves frameworks, reports, and rating agencies.
An ESG framework is a set of standards and guidelines that defines the metrics and data to be disclosed in an ESG report. The intent of ESG frameworks is to standardize metrics and reporting on non-financial factors and enable comparisons between companies across industries. However, there is no single ESG governing or regulating body. Rather, there are many frameworks developed by international organizations, non-governmental organizations, and commercial data vendors, each serving the needs of different users and audiences.Footnote 10 However, there are several ESG frameworks and standards that have gained widespread international support, including the Global Reporting Initiative (GRI) Standards,Footnote 11 the Sustainability Accounting Standards Board (SASB) Standards,Footnote 12 and the Task Force of Climate-related Financial Disclosures (TCFD) Framework.Footnote 13 There have been recent efforts to consolidate and harmonize global frameworks.Footnote 14 For example, in June 2021, SASB and the International Integrated Reporting Council (IIRC) merged, streamlining their ESG frameworks to create the Value Reporting Foundation.
ESG reports are published by a company to disclose data explaining the impact and added value in their operations through an ESG lens. There are currently few rules about what needs to be disclosed as part of ESG reporting, with ESG frameworks providing guidance or recommendations. At present, ESG disclosures are voluntary in Canada and the United States, and the information provided varies across companies and sectors. However, there is growing pressure from the financial community to make ESG disclosures mandatory and standardized.Footnote 15 Companies are increasingly required to demonstrate that their ESG performance is acceptable to investors to gain access to capital and enhance their social license to operate.
ESG rating agencies
Just as credit ratings aim to measure a company’s creditworthiness, ESG ratings aim to measure a company’s exposure to non-financial risks and how effectively these risks are managed. Like ESG frameworks and standards, there are also many organizations developing ESG ratings.Footnote 16 These organizations use proprietary methods to assign a performance score to a company based on its ESG disclosure, enabling investors or other stakeholders to measure a company’s ESG performance against its peers. However, ESG ratings are not always consistent across providers and the methods used to create ratings are not always transparent.Footnote 17
ESG began as a strategy used to make investment decisions. However, it has evolved such that ESG-related factors are now considered more broadly, including in government policies and corporate strategies.Footnote 18 In particular, the examples provided below show how ESG continues to evolve quickly:
- Growing adoption of ESG disclosures: A 2020 survey of the top 100 companies in 52 countries found that 80% report on their sustainability performance. This figure rose to 96% among the world’s 250 largest companies.Footnote 19 In Canada, 71% of companies listed on the S&P/TSX Composite Index released a report in 2020 dedicated to the disclosure of ESG topics, up from 58% in 2019.Footnote 20
- Moving toward mandatory ESG disclosure: In December 2021, the Prime Minister of Canada sent mandate letters to the Minister of Finance and Minister of Environment and Climate Change. The letters requested action towards a mandatory climate-related financial disclosure system based on the TCFD. In addition, in March 2022, the United States Security Exchange Commission (SEC) announced a plan to require climate change risk disclosures.
- Increased use of ESG metrics by investors: Globally, asset fundsFootnote 21 applying ESG criteria to investment decisions have almost doubled over four years, and more than tripled over eight years, reaching a value of $40.5 trillion in 2020.Footnote 22 In Canada, such funds grew to $3.2 trillion in 2019, up from $2.1 trillion in 2017, representing 61.8% of Canada’s investment industry.
- Need to improve, standardize, and audit ESG data: According to a 2020 BlackRock survey of clients,Footnote 23 53% of respondents cited the poor quality or availability of ESG data as the biggest barrier to the implementation of ESG investing.
ESG’s evolution has also been driven by other stakeholders, such as NGOs, governments, consumers, and employees, seeking to understand the extent companies are addressing environmental and social factors.Footnote 24
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