In 2019, Wall Street said to climate change: “We see you.”
BlackRock, Inc., J.P. Morgan Chase & Co. and Goldman Sachs — while all ultimately financiers of fossil fuels — like dominos professed to honor low-carbon ways with their trillions in assets.
These institutions have vowed to use their collective investment weight to favor firms that are serious about working to better the environment. With coronavirus as the ultimate stress test ushering in a new season of annual board meetings (albeit with potential postponements and virtual-only meetings), climate action is top-of-mind.
And if anything, those across the financial industry are amplifying ESG — environmental, social and corporate governance — factors, as evolved from more niche social impact investing.
So far in 2020, the majority of all the environmental shareholder proposals filed focus on climate change, with 66 percent of them requesting climate “action” over simple “disclosure,” according to Institutional Shareholder Services Inc., the proxy advisory firm. Its proprietary “Climate Policy,” a climate-focused specialty proxy voting policy, draws on reputable frameworks such as the Task Force on Climate-related Financial Disclosures.
The TCFD, a Michael R. Bloomberg-chaired nonprofit that in February topped 1,000 members across the public and private sectors, is working to develop voluntary, consistent climate-related financial risk disclosures for companies.
Although voluntary ESG reporting has been steadily on the rise for several years — with 86 percent of companies in the S&P 500 publishing ESG reports in 2018, according to New York-based sustainability consulting and research firm Governance & Accountability Institute, Inc. — some of those in the game the longest insist that mandatory standards would tackle that resistant 14 percent.
While to an extent environmental, social and corporate governance information is required in filings with the Securities and Exchange Commission, there is not a comprehensive, mandatory framework for ESG disclosure in the U.S. Several stock exchanges mandate ESG disclosures for listings, while 23 countries, including the U.K. and Sweden, require it to some extent. However, neither the Nasdaq nor New York Stock Exchange in the U.S. require ESG reporting as a listing rule.
In an attempt to institute common practices, the SEC called for proposals on how to modernize Regulation S-K in regards to ESG disclosures in 2016. It did so again last January, but given the current political climate, it’s unclear whether issuers’ reporting on material risk factors will be redefined anytime soon.
“There is a definite sea-change underway, with more financial institutions responding to political and societal pressure to mitigate the negative effects of global warming and help fund energy transition. Banks, insurers, pension funds and investors with balance sheets of $135 trillion are now demanding TCFD climate disclosure from companies,” said John Godfrey, director of corporate affairs at Legal & General, the London headquartered multinational financial services company with $1.4 trillion in assets under management.
While he noted the “change is positive,” especially with major institutions aiming to future-proof investments by agreeing to a transition to low-carbon usage, it needs to be bolstered by measurable and verifiable effects, “not just jumping on a bandwagon or introducing ‘greenwash.'”
Since 2018, the European Commission has been building an action plan for sustainable finance, with a mandate in March of last year set on three pillars: “elimination of greenwashing,” “regulatory neutrality” and a “level playing field” for a broad category of “financial market participants” in both the public and private markets.
The king of capital — managing assets in excess of $7.4 trillion as of year’s end — BlackRock says over $400 billion is to be allocated to ESG funds by 2028. Both the World Economic Forum and the U.S.-based Business Roundtable association have espoused the “all stakeholders” mentality that’s aiming to ensure corporations take into consideration the societal impact of their practices as much as the bottom line ones.
Back in August, the nonprofit Business Roundtable, whose members employ more than 15 million people and count retailers such as Macy’s Inc. and Hanesbrands Inc. as members, declared backing for this all-stakeholders approach, culling signatures from BlackRock chief executive officer Larry Fink, Amazon ceo Jeff Bezos, Walmart ceo Doug McMillon and others.
The pandemic would be the first true stress test of this mentality.
Corporations have additional stressors of their own, as a discrepancy between a CSR report, web site disclosure and other materials prepared for investors and past disclosures or internal analyses can be grounds for a lawsuit, according to the American Bar Association. Plus, for example, self-reported stats — like carbon emissions — can be misleading when the company touts its owned and operated emissions or a sliver of its value chain, such as operational emissions, obscuring its extended supply chain, where high-impact activities like apparel production and textile dyeing and finishing occur.
It’s a lot easier to measure diversity in the c-suite or board seats (a simple tally), but in regards to climate change, it routes back to the ongoing discussion of fragmentation and data gaps in the industry, analyzed by a number of consultancies as well as nonprofits such as Sustainable Apparel Coalition and Fashion for Good.
“It will be critical that these investors follow through on specific and identifiable metrics,” said Caroline Brown, managing director of Closed Loop Partners, who also professes a “lack of criteria” defining sustainable investors. Simply put, Closed Loop invests in early-stage circular economy businesses, including The Renewal Workshop, which partners with brands to renew garments; and NextGen Cup, a global design competition aiming to redefine single-use cups, among others, to bring visions to scale.
Still others, like Erik Rust, director, and Tom Quaadman, executive vice president, at the Center for Capital Markets Competitiveness at the U.S. Chamber of Commerce broadly believe added regulatory requirements mandating ESG disclosures for the U.S. “are not warranted” where voluntary best practices are followed. This belief is detailed in a December report on the web site of the Harvard Law School Forum on Corporate Governance.
Nonetheless, a string of third parties are springing up to rate firms on their ESG standards.
Only in June 2019 did the largest credit rating agency, S&P Global Ratings, publish its first “ESG evaluation,” an analysis that would serve to provide the investor community with a cross-sector, data-rich glimpse into an entity’s ESG performance that ultimately informs S&P’s credit ratings.
The ESG Evaluation is a ranking on a 100-point scale, with a higher ranking informing the entity is “more likely to be sustainable.”
Since 2013, Just Capital, an ESG credit ranking nonprofit cofounded by notable persons such as investor Paul Tudor Jones, Ariana Huffington and Deepak Chopra, has sandwiched companies between two core rankings — an industry rank and their “overall rank” — also on a range of 100 points. In an easily navigable drop-down menu, complete with punchy logos and colored charts, Just Capital, like others, aim to incorporate data across all stakeholders including workers, customers, communities, environment and finally shareholders.
Here, a higher number reflects a poorer performance among its peers — the opposite of S&P’s ranking methodology.
Another third-party source for identifying ESG risks is Sustainalytics, Inc., with data being pulled into frameworks for Yahoo Finance under its “sustainability” tab.
So how do the fashion industry’s publicly listed companies stack up to other industries on objective third-party ESG ratings?
“Fashion has to create their own pacts because they can’t stand up to objective analyses,” said former Wall Street executive Kristen Fanarakis, founder of L.A.-based apparel startup Senza Tempo which focuses on small production runs and sustainable fibers.
Take, for example, Tapestry Inc., which ranks three out of 36 in the household goods and apparel category, according to data from Just Capital, but 230 out of 922 companies overall, and yet on Sustainalytics, Inc., it earns a “moderate controversy level” for unmanaged social risks identified by Sustainalytics.
Not only is cross-industry comparison difficult, but within the fashion sector, the grounds for a level playing field are further complicated by the presence of “sharing economy” darlings that aren’t even included in the rankings.
Relative newcomers such as Stitch Fix, Inc., which became public in 2017, and The RealReal, which went public last May, don’t show up on the popular ESG ratings like Just Capital or Sustainalytics, likely due to nascent understanding.
In another sustainable finance trend, talk of green bonds and loans swirled in the fashion industry late last year. Calling each an industry first, in luxury goods, Prada SpA signed with Crédit Agricole Group for a 50 million euro sustainability five-year term loan in November, while VF Corp. issued green bonds starting this February.
But what even constitutes “greenness,” in either case?
In March, the E.U. Green Bond Standard was published along with taxonomy recommendations, which are yet to be formalized. The most recognized standards include the Climate Bond Standard and Certification from the Climate Bonds Initiative; and the Green Bond Principles from the International Capital Market Association. In either case, they aim to promote integrity in the green bond market and provide guidelines to issuers.
No matter how they are defined — or where a company ranks — navigating ESG factors remains only one of the many challenges involved in transitioning to a low-carbon economy.
“For those remaining invested in extractive industries, the transition will be challenging,” said Brown. However, she added, “For brands, retailers and consumers as well as municipal governments, the transition will significantly reduce costs.”
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