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Seeking confidence: putting ESG data to the test

As Laetitia Hamon, KPMG Luxembourg states below, environmental, social and governance (ESG) data matters. In part, it matters because investor mindsets are shifting on issues such as global warming, labor practices and management control. So, too, are regulator views (evidenced by initiatives like the European Commission’s Action Plan on Financing Sustainable Growth).

Recent activity in the ESG rating agencies markets confirms that ESG data is becoming more valuable to investors. Morningstar’s investment into Sustainalytics (an ESG research and ratings agency) and Moody’s acquisition of Vigeo Eiris (another ESG research firm) only reinforces the fact that sustainability data is not just becoming more relevant, it is also becoming more accessible.

Can you trust the data?

The problem is that – currently – the disclosure of sustainability data tends to happen on a voluntary basis. There is no universal standard approach for measuring, processing, interpreting and reporting on ESG data. Outside of a handful of jurisdictions, few organizations bother having their data audited at all.

My experience working with European organizations and investors suggests that different segments of the market are at different levels of sophistication and reliability.

  • At the company level, many are now reporting ‘Corporate Social Responsibility’ data and, where it is integrated into their financial data, this information is often audited.
  • At the investment fund level, we are also seeing significant efforts to improve ESG impact reporting to clients. Audited data, however, is not terribly common.
  • At the investment manager level, there are no clear guidelines to follow and few asset owners or investment managers collect, report or audit their ESG data.

The obvious risk is that some companies may be ‘greenwashing’ their data. And that is something that both the EC and investors want to eliminate. After all, when well-analyzed and used efficiently, sustainability data is financial-related data.

Perhaps not surprisingly, there is now a growing choir of voices advocating for ESG data to be treated with the same level of diligence as financial data. Investors want to see less self-management of sustainability data and more auditing. They want more reliability and comparability.

By carrot or by stick

In Europe, at least, there is already a movement towards prescribed sustainability measures. The Non-Financial Reporting Directive (NFRD), for example, requires certain entities to adhere to certain requirements when reporting sustainability data (such as application scope, report features and auditor involvement).

Much like any EU Directives, however, the NFRD has been transposed into national legislation somewhat differently across jurisdictions. The version in place in France, for example, makes the auditing of non-financial data mandatory for companies of a certain size. Luxembourg’s version is very similar, but does not go so far as to set mandatory audit triggers.

"The obvious risk is that some companies may be ‘greenwashing’ their data. And that is something that both the EC and investors want to eliminate. After all, when well-analyzed and used efficiently, sustainability data is financial-related data."

Looking ahead, we expect to see authorities pass several legislative and non-legislative measures aimed at further strengthening the reliability of ESG data. In 2019 alone, we expect to see:

-The NFRD reinforced with further non-binding guidelines on the reporting of climate-related information;

- Benchmark providers being asked to explain their methodologies for carbon-related benchmarks;

- Credit rating agencies publishing guidelines to show how sustainability factors are incorporated into credit ratings; and

UCITS and AIF managers being asked to show how they are incorporating sustainability risks into their investment decision processes and in pre-contractual disclosures and websites.

Taking an independent view

I believe that the rising demand for accurate, reliable, consistent and comparable data is creating an overwhelming need for third-party, independent review of ESG data. To reinforce the credibility of the data and to reassure stakeholders, internal processes and data production should be verified through assurance reports from regulated audit professionals.

The system already in place for Green Bond certification serves as a ready example of this approach at work. In this case, it could lead to a rise in the number of investment managers seeking verification for their investment processes and documentation. And that would increase investor confidence.

"Looking ahead, we expect to see authorities pass several legislative and non-legislative measures aimed at further strengthening the reliability of ESG data."

Looking ahead, we expect to see more companies follow the path created by pioneers such as the European Investment Bank where all non-financial information disclosed in sustainability reports and Green Bond reports are verified before publishing.

I believe that there is a strong need for the credibility and reliability of ESG data to be reinforced, both for investors and for those impacted by the investments being made. And I firmly believe that independent audit must play a part.

FundForum International 2019 involved a keen focus on ESG in the portfolio. We spoke to Tom Brown, Global and UK Head of Asset Management, KPMG, UK, about why "ESG will be a force for transformation in asset management" and why now is a critical time for asset managers to make decisions.