News analysis
Are ESG ratings useful or just feeding a tick-box culture?
Are ESG ratings useful to corporate leaders and other stakeholders? In theory, most would answer yes. In practice, the conclusion might not be so clear.
New survey results suggest that many companies consider ESG ratings a burden overall.
In other words, they’re unhelpful, difficult to obtain, and don’t reflect firms’ genuine efforts in any of the three central pillars.
Such conclusions are hallmark signs of a tick-box culture.
Quick recap: what is an ESG rating?
An ESG rating (or ESG score) is an impartial metric that’s supposed to show how a company performs in ESG areas.
Multiple scoring standards exist. The same is true for sub-standards that measure specific areas like carbon emissions.
Why are ESG ratings useful? Because investors look for ESG scores as a guide to help them make investment decisions.
And what have the recent survey results shown?
Here are some conclusions from the sustainability consulting firm ERM’s ESG Ratings at a Crossroads report.
- Publicly traded companies spend an average of $220,000-480,000 annually on ESG ratings. Private companies spend $210,000 and 425,000.
- Many companies spend these amounts on ESG ratings because investors ask for it.
- However, around 30% of companies have a “low” to “very low” confidence in the ratings they are given.
It paints a picture that businesses only obtain ESG ratings because they feel forced to. Many will do little with the results of the rating process because they don’t think it is a fair representation.
Ultimately, the rating systems investors and governments now champion so loudly are victims of a tick-box culture. Essentially, companies only play the game because the participation ribbon looks good.
What is so wrong with the ratings
Companies have frequently complained of rating agencies making errors during their evaluation process. They would take company data, analyse it incorrectly, and produce inaccurate results, which companies would then have to contest, the report said.
In addition, many rating agencies didn’t give enough weight to, or outright ignored, cultural differences when evaluating some companies – particularly those outside the EU or US.
“Sometimes we get market down in our ratings because of cultural differences,” explained one sustainability development coordinator at a Japanese automobile manufacturer.
“There may be something specific to our country, rather than our company itself, that, because of certain laws or customs, we may not address or act on. This cultural difference can ultimately impact our ESG rating.”
So are ratings meaningless in the face of a tick-box culture?
It depends, but it is something to watch in the next few years.
By now, we know that ESG is growing in popularity. We know that lawmakers and investors are getting serious about it. The need for sentiment is gone; in its place is a need for figures and metrics that show precise results.
Companies may look for ratings in this climate because it’s the “thing to do” and not because it shows meaningful progress.
Ultimately, tick-box cultures can only be addressed when those using the data raise red flags. In this case, that’s investors and – to a certain extent – lawmakers too.
If more and more of them criticise inaccurate, irrelevant rating systems, the tick-box attitude towards them may begin to change.