As ESG—environmental, social, and governance—issues make their way towards the top of board’s and stakeholder’s priority lists, third-party organizations have begun developing ways to measure companies’ efforts.
Is a company not meeting environmental impact compliance obligations? Are equity and diversity putting a company’s reputation at risk? ESG ratings and reports answer questions like these. Those scores provide clarity on a company’s ESG actions.
To fully understand ESG scores, it’s essential to be aware of what factors they measure and how ESG rating agencies calculate them.
What Is an ESG Score?
Credit scores show a person’s ability to pay back their debts. Bond ratings provide context for the issuer’s ability to meet their financial commitments. Similarly, ESG scores gauge companies’ performance on ESG issues and their exposure to risks related to environmental social and governance complications.
These scores and reports help fill in the big picture of how a company performs regarding ESG issues and are often used by shareholders and other investors to engage with companies on ESG matters.
Related: Consumers Want Sustainability
How Is a Company’s ESG Score Calculated?
Each third-party ESG rating organization has its own approach and formula to determine a company’s score, and they each weigh individual factors differently. Let’s look at some of the most common ways that these organizations score companies on ESG issues.
Who Determines a Company’s ESG Score?
There are several third-party organizations that evaluate companies to provide an ESG score, including agencies, research, and analysis firms. These scores are determined based on ESG performance and typically compare companies against their peers. Some of the largest ESG rating providers include:
- Bloomberg ESG Data Services offers data for over 11,000 companies in 102 countries.
- Corporate Knights Global 100 annually ranks corporate sustainability performance.=
- Sustain alytics ESG Risk Ratings help investors identify ESG risks of over 12,000 companies.
- Dow Jones Sustainability Index Family represents the top 10% of sustainable companies among the 2,500 largest.
- Thomson Reuters ESG Scores measures ESG performance for over 6,000 companies globally.
- RepRisk uses artificial intelligence to compile and analyze ESG ratings for over 160,000 private and public companies.
Collecting ESG Data and Scoring Criteria
While some agencies rely on a company to provide the data for their scores, many also utilize publicly available information. For example, Corporate Knights uses only publicly available data. RepRisk, another ESG rating agency, excludes all company self-disclosures and analyzes information from stakeholders and other public sources.
Other agencies, including Dow Jones and Bloomberg, source data from both publicly available information and direct contact with the company. In these cases, companies that don’t provide all of the necessary data receive a lower rating by default.
ESG reports factor in ratings in all three categories: environmental, social, and governance.
Environmental scoring factors include things like a company’s treatment of animals to its greenhouse gas emissions. Common criteria for this category include:
- Climate change
- Renewable energy
- Soil and water contamination
- Environmental policy
Social scoring factors look at a company’s relationship with its employees, partners, suppliers, shareholders, and other groups in its supply chain. To determine this score, agencies look at:
- How a company treats overseas employees
- If a company pays its employees a living wage
- The safety of its facilities
- If a company offers sick and personal leave to its employees
Some rating agencies also look at charitable donations, community impact, and customer interactions.
Governance scoring factors examine a company’s board operations and legal and compliance issues, like:
- Ensuring the company abides by all municipal, state, and federal laws
- Determining if a company’s board consists of people of diverse perspectives and backgrounds
- How the non-executive and executive compensation compares to its peers
It’s also important to note that many ESG scoring agencies take into account industry context—performance indicators not relevant to a company’s industry typically get excluded when determining its overall rating.
What’s Considered a Good ESG Score?
It’s hard to say—each rating agency has its own scoring system. For example, Corporate Knights and Bloomberg use a 100-point scale to rate companies, Thomas Reuters uses a 0-1 scoring system and implements letter grades, and RepRisk provides a score from 0-100 and a letter grade from AAA to D. When reviewing a company’s ESG score, it’s important to first understand how the rating agency’s scoring system works. However, higher scores (whether it’s numbers or letter grades) are always better.
Who Can See ESG Scores?
It varies from agency to agency. Some ESG reports and ratings are publicly available. For example, Dow Jones releases regional and worldwide indices on various top-performing companies each year. Companies like Bloomberg and RepRisk, however, create reports solely for investors who want to look into a company’s ESG score before investing.
Other organizations allow the companies they’re scoring to verify the data before sending out ESG reports. Dow Jones and RepRisk both offer companies feedback on ways they can improve their ESG performance and, ultimately, their scores.
Why ESG Scores Matter
How a company performs regarding ESG issues, including everything from climate change to cybersecurity to equity, diversity, and inclusion, is quickly becoming an important factor for stakeholders, investors, and consumers.
Companies with good ESG scores are usually thought to be better equipped to handle future risks, anticipate better opportunities, make better long-term decisions, and prioritize the big picture over short-term gains. The consequences for receiving a substandard score can be huge for any company.
For investors, research shows that companies that adhere to ESG standards are lower-risk investments and tend to be more resilient over time. For consumers, high ESG scores show that a company is doing its part to minimize environmental impact, taking stances on community issues, and operates with a diverse, inclusive workforce.
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