Half-year review: how ESG is leading the way to the New Normal. Read here
2023 will be the year when…
…ESG behaviour is incentivised differently
As 2022 ticks over into 2023, the world moves another year closer to the United Nation’s 2030 target date for achieving its Sustainable Development Goals. It brings home the need for a significant change in the mindsets of governments and market actors.
At a corporate level, environmental, social and governance (ESG) is being incorporated into remuneration and rewards policies. It encourages a longer-term view and helps directors and board members to maintain focus on what it means to be a successful company in the new age of stakeholder capitalism. It looks likely to become more mainstream during 2023.
At the same time, the regulatory landscape is becoming increasingly dynamic. Regulators and governments use not only ‘sticks’ but also ‘carrots’ to influence market behaviour. In the US, for instance, the Inflation Reduction Act seeks to turbo-charge the transition to renewable energy. Expect activity to pick up further in 2023.
…the anti-ESG lobby gets stiffer resistance
In 2022, geopolitical events and their economic consequences created fertile ground in which to challenge ESG. The global north prioritised energy security in the face of the Ukrainian war. The global south, suffering the worst effects of climate change, became further disenfranchised from the debate. The economic slowdown, and pressures from rising near-term costs, further boosted the case for scaling back on ESG activity, at least in the short term. The conversation became increasingly politicised too, particularly in the US, exposing stark divergence on ESG.
Within the investment community, collaborative net zero commitment is ramping up. Membership of the Glasgow Financial Alliance for Net Zero grew from 450 organisations in 45 countries in 2021 to more than 550 organisations across 50 countries in 2022. This comes despite ongoing noise that collaborations on net zero could potentially breach competition principles and create tensions between asset managers’ ESG ambitions and fiduciary obligations.
“The success of ESG as a concept depends on our ability to stay inclusive and engage with a spectrum of views, while acknowledging that it involves inherent trade-offs and long-term vision."
Sonali Siriwardena,
Partner, Global Head of ESG, Simmons & Simmons
The ESG backlash will likely continue through 2023, not least due to energy security concerns and economic headwinds. But expect a backlash to the backlash. It will come from all quarters.
Stakeholder activists and NGOs, emboldened by successful claims against corporates and national governments, will continue to push the sustainability debate. It comes off the back of a steep rise in climate-related litigation in the past couple of years, which shows no signs of slowing. The Grantham Research Institute at the London School of Economics reported that of more than 2,000 cases brought globally since 2015, around one quarter were filed between 2020 and 2022.
Social media and ‘the court of public perception’ will also weigh in. Employers, meanwhile, will be tested by belief-driven employees. These employees, typically Gen Z and Millennials, align their choice of employer with their own social values and call out corporates whose ESG practices do not match up to claims.
…standardisation starts to emerge
ESG regulation has been enacted in volume and at pace. To date, there’s not been much in the way of standardisation, which has contributed to regulatory fragmentation and fatigue.
However, the formation of the International Sustainability Standards Board (ISSB), at COP26 in November 2021, marked a significant step towards creating greater consistency in ESG reporting standards. The ISSB has already published the first draft of its sustainability-related disclosure standards. It made significant progress towards making them cohesive and interoperable during the ISSB’s meetings in November 2022. The standards will provide investors and capital market participants with information that will enable them to make informed decisions. They are intended to be finalised in 2023 and will likely be a game changer for accelerating change through standardisation.
In 2023, regulation will continue to evolve. Market participants are urged to get involved in consultations to shape standards to ensure that they are applicable, relevant and achievable.
…regulators show their teeth
2023 could be the year that regulatory enforcement on ESG becomes commonplace.
Regulators and competition authorities undertook detailed investigations into companies’ ESG credentials during 2022. They imposed fines or mandated remedial action where information was found to be misleading, incomplete or incorrect. In the US, for instance, the Securities and Exchange Commission fined two financial institutions for misstating and omitting information in their ESG disclosures.
Watch out, too, for a possible increase in ‘green bleaching’ in 2023. This is where companies seek to avoid making ESG disclosures to mitigate the risk of fines, penalties or public criticism.
…stakeholders lend their voice to ESG
Driven by public and stakeholder sentiment, there’s been a massive uptick in baseline ESG expectations for companies over the past 18 months. This is likely to continue into 2023. Expect, however, some shareholders to continue to champion short-term financial returns over long-term ESG objectives.
Directors' fiduciary responsibilities are likely to widen beyond financial returns to shareholders. Questions will be asked about companies’ negative impacts on the environment and society, and their efforts to mitigate and even negate them. Discontent with the direction of ESG performance could see shareholders veto management plans and block executive reappointments.
…regulation embraces ESG rating agencies
ESG ratings can have a material impact on a corporate’s investability and reputational standing. Several countries intend to regulate ESG rating agencies, which should bring transparency and consistency to the way in which companies’ ESG performance is evaluated.
Sonali Siriwardena's ESG tips for 2023
- Horizon scan to stay ahead of the ESG regulatory agenda.
- Actively participate in the policy conversation to make ESG regulations applicable, relevant and achievable.
- Be intentional and acknowledge trade-offs within your ESG strategy.
- Be consistent with your ESG approach across your business and value chain.
- Build a credible framework to evidence your ESG activity with data to measure impact.
… in conclusion
Despite the challenges posed by economic headwinds, geopolitical turmoil and political polarisation, we expect ESG to remain a dynamic, divisive and dominant topic in 2023. To find out how our predictions for ESG measure up, check in here regularly during the year to learn what’s changed and how regulation and standardisation are progressing.
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