Gregg Sgambati is Head of ESG Solutions at S-Network Global Indexes and is responsible for the firms ESG (environmental, social and governance) products which include ratings and ESG indexes. His professional background includes portfolio management at UBS, insurance at AXA, instructing at Columbia University and independent corporate social responsibility consulting. He writes about ESG/SRI investing as well as non-financial subjects such as human rights in the supply chains. He is a regular speaker at industry events and produces the annual CSR Investing Summit for S-Network.
Christopher P. Skroupa: How can the economic context of corporate sustainability through ESG, SRI, CSR and risk mitigation be evaluated? What are the metrics for evaluation?
Gregg Sgambati: The economic context of corporate sustainability is embedded in the corporate strategy of many companies. The origin of this is the UN Global Compact founded in 2000. The UNGC exposed corporations to the global development objectives named the Millennium Development Goals. This lead to the beginning of companies seeing CSR (corporate social responsibility) in a quantitative way, and eventually led to ESG data and ratings.
The Compact was followed by the UNPRI (United Nations Principle for Responsible Investing) which further drove Wall Street to learn about ESG frameworks that highlighted areas where corporations could become more sustainable. This continued the to lead a focus on ESG metrics. UNPRI signatories, asset owners and asset managers, committed to look at the companies in their investment portfolios and assests if those companies were incorporating sustainability into their business strategy.
So the large and universal investor began driving corporate sustainability. ESG became the tool to effectuate this and now is part of the language of Wall Street, because of its quantitative nature. This contrasts with SRI (socially responsible investing), which had a more qualitative premise. ESG allows investment managers to integrate sustainability into their investment decisions, because it is quantifiable. Wall Street understands numbers, of course.
SRI investing themes have been around for a long time and were more qualitative and even remain so to some extent today. These investing themes reflect the ethical values of investors. When investment analysts design stock screens or portfolio screens to effectuate these values they are called SRI or ESG screens. The narrative difference between SRI and ESG is the intensity of quantitative assessment, with ESG being the more numerically driven.
Applying socially responsible investing themes suggests that you understand how these themes align with the investor’s values which may account for ethical and moral considerations. This may result in the removal from their portfolio those companies involved in objectionable industries or have a defined amount of revenues in those industries. An obvious example are the “Sin stocks.”
The question of investment risk is important in ESG investing. ESG data has become a strong risk mitigation tool.
One of the projects that I and the S-Network Global Indexes Team worked on was the development of an index for the Inter-American Development Bank, which is multilateral bank that provides loans for development projects in Latin-America and the Caribbean. The project’s outcome is “IndexAmericas.” IndexAmericas is not a presently a financial index, rather, it is a regional ranking of companies by their ESG scores. The Index encourages companies to operate more sustainably and will hopefully lead to more development in the region. The end goal is to encourage corporations to be more sustainable.
This illustrates another way that businesses have become interested in ESG: rankings. Indexes and rankings have directed businesses to embrace these metrics and further look to them for direction in their corporate strategies with the hope of ranking highly in them.
Skroupa: A common dilemma for companies is being able to develop ESG metrics that provide meaningful data. What challenges present themselves throughout your process of evaluation as you focus on the expansion of corporate sustainability?
Sgambati: A CSR manager could tell you about the painstaking work their team does to gather metrics that external stakeholders such as ratings agencies and Wall Street analysts use compute to scores and rankings that they evaluate for their investments. Subsequently, since a CEO will do what they need to do to improve a company’s stock price, if ESG scores are on the minds of analysts, CSR will get more attention. That being said, corporation’s face great challenges gathering some of these ESG metrics.
The UN’s has rendered prudent leadership since the formation of the UN Global Compact by engaging companies in CSR and sustainability. The current UN development goals are called the Sustainable Development Goals (SDG’s). These Goals are the offspring of the Millennial Development Goals (MDGs), which were less embraced by corporations than the new SDGs. In fact, a “Top Three” consulting company said that 70 percent of businesses plan to embed SDG’s within their corporate strategies within the next five years. These businesses are aligning their corporate strategies with the SDGs. SDGs tie-in to corporate sustainability through the environment, people and society and mobilize a more socially aware corporate perspective.
So companies are looking for a strategic application of CSR can align with the SDGs. This is not a standard, but it is giving companies a new heading to set on course. It also complements the corporate PR story by showing that they are aligning with the global norms set up by the United Nations. And since it is congruous with other business sustainability narratives, it is more coherent to interested external stakeholders.
Aligning with the SDGs also helps to make data more meaningful. Ratings agencies calculate ratings with indicators that may be numeric, (i.e., total CO2 emissions) or a yes/no answer to a question – such as “does the company has a policy in place to evaluate human rights violations in their supply chains.” Since yes or no can equivocate to one or zero, it is quantifiable.
To keep these indicators or metrics fresh, the ratings agencies continuously review them and sometimes find cause to eliminate some from scoring calculations. This is often because they find that over time certain indicators are no longer relevant. It follows that companies who study these changes might revise their CSR focus. It’s an organic process: the ratings companies stop counting an indicator because companies stop reporting to it and companies will pay head to the insignificance of that metric. Now the indicator is irrelevant or simply not practical to use.
This hints at a part of the ESG data dilemma – changing indicator relevance. However, the congruence afforded by the SDGs will perhaps relieve some stress on companies because they can orient toward this common focus with the other companies in the mutual direction of the SDGs, in the absence of a standard framework.
So yes, the SDGs can turn out to be a proxy for a standardized ratings frameworks. You asked about ratings for specific industries – they are plentiful. For example, the electronic industry has a framework for reporting which is specific to that industry but different in some respects to other industries. This presents ESG analysts with different metrics and these metrics may not matrix with the more general ESG metrics of the top ratings agencies. And since the top ratings agency scores don’t coincide with each other either, it has raised questions on Wall Street about the efficacy of ESG ratings. Again, the SDGs could guide companies toward better alignment in reporting rather than all-out standardization.
A last point on the standardization is SASB (Sustainability Accounting Standards Board). SASB has created a framework with large industry participation that they hope will become part of an SEC required filing. SASB wants their reporting standard to be required in annual reports and 10Ks.
The SASB framework focuses on materiality. The non-profit organization collaborated with industries players to get a consensus on aspects of sustainability which they say should be reflected in a sustainability report because they are material. With their proposed standard, companies can do a SASB report which will address industry specific materiality issues. JetBlue was the first company to publish a SASB report earlier in the year.
Skroupa: When looking across industries, are there any commonalities that you observe in terms of which aspects of a business (for example, supply chains, management teams, etc.) typically pose the most amount of problems for companies’ CSR initiatives?
Sgambati: In my view, I think the supply chain is a very big challenge. The chain’s challenges are formed by regulation, laws and “soft law” reflecting ways that suppliers must interact with their employees, community and the environment.
Companies create soft laws that force their suppliers to make a commitment to operate responsibly and monitor their part of the supply chain. If the supplier fails to agree to the company’s code of conduct, the company can end their business relationship. Legislation-wise, the Dodd-Frank Act established hard laws that companies disclose if the raw materials in their products are sourced from conflict zones, known as conflict minerals. The SEC established guidelines for reporting on minerals sourced from these conflict zones. The disclosures are made official via the SEC Special Disclosures form.
Gregg Sgambati will be speaking on a panel entitled Data Analytics and New Technology: Tools for Expanding Performance Benchmarking and Shareholder Engagement on April 5 in New York, NY at the ESG 4 conference.