Tackling ESG Even if You’re in a “Dirty Industry”: Why It’s Important and How to Tackle it

March 25, 2019

Yes, many investors still look at your ESG score even if you’re not in a traditionally ‘green’ or socially conscious sector

If you operate in a sector that isn’t traditionally viewed as “green” or “socially conscious,” it’s easy to dismiss how rating agencies and investors are grading you on ESG. But ESG is a relevant and addressable topic for all CFOs regardless of how sustainable or socially-geared your end markets or products might be. Yes, even companies that operate in the chemicals, oil and gas, heavy industrials or manufacturing space have a compelling opportunity to create an ESG strategy.

Unsure of how ESG can apply to you? Here are some ways to think about your score, regardless of how “dirty” your industry is viewed.

1. First, remember that with ESG ratings, it’s all relative

When ESG rating agencies such as MSCI, Sustainalytics and ISS evaluate and score your company, you’re being measured against an (albeit broad) industry peer set, graded against a set of key issues identified as being most relevant to your company, industry, and risk exposure.

As you build out your ESG strategy, start by first identifying which of your peers perform well in MSCI and Sustainalytics reports and then understanding how they message around ESG in their investor materials. Your IR advisor may also be able to provide insight into where these gaps and opportunities are.

2. Understand that ESG is not synonymous with Socially Responsible Investing

Just because a portfolio manager might not be interested in adding you to her SRI fund doesn’t mean there’s not an ESG opportunity to leverage. Whereas SRI actively seeks out companies with ethical or green missions and business models because “it’s the right thing to do,” many investors with otherwise conventional strategies view ESG as another way to asses risk. A recent Clermont Partners study found two-thirds of investors who consider ESG factors in their decision making processes do so primarily to identify risk – with this being the No. 1 reason cited for considering ESG.

This leaves you an opportunity to highlight your strong risk mitigation programs or strong corporate governance bylaws and structure.

3. And the “S” and “G” often matter more to the buy-side than the “E”

In the same study, institutional investors surveyed by Clermont Partners cited governance as the No. 1 issue they’d like more detail around.

Even if you’re not in an industry that lends itself to improving the planet, you may have the opportunity to highlight your governance and social scores – factors that apply to all companies, in all industries. Regardless of whether an investor labels them as “ESG,” they care about these issues.

“Even before ‘ESG’ became a thing that the Street was talking about, we’ve always sought to understand what kind of operational risk companies carry. It’s another element we can layer in to manage portfolio risk. Safety incidences and operational disruptions can have short term impact on production, and comp structure can influence management’s capital allocation decisions,” one portfolio manager – who has a decade of experience running an Oil and Gas specific fund – told Clermont Partners.

On the Social score, statistics around worker productivity or efforts to increase worker safety, prevent workplace incidences, monitor supply chain quality, address labor shortages, or even focus on improving diversity through targeted recruitment or programming can all be used to bolster (or, hinder) your MSCI and Sustainlytics scores.

On the Governance side, factors such as executive compensation, proxy access, the transparency of your governance process, leadership diversity, audit independence, anti-corruption policy, and board structure all play a role in your ESG score.

4. That said, don’t overlook the low-hanging fruit in your Environmental score

While the buy-side might care most about your “S” and “G” scores, ratings agencies such as Sustainalytics and MSCI still give the most weight to the “E.”

There are some components of your environmental score – such as how you score on “presence of sustainable products and services” – is relatively inherent to the end markets, industry or product application you serve. However, the good news is there are also many “E” issues tied to business operations regardless of your industry, such as the existence of a sustainability or CSR report or a hazardous waste management policy.

Secondly, there are several issues factoring into your “E” score that are relatively easy to fix regardless of your industry. For example, simply completing the CDP (Carbon Disclosure Project) questionnaire can have a positive impact on your overall Environmental grade.

5. You likely already have risk management processes, so highlight them

While there’s not much you can do to change the risk exposure you have inherent in your industry, there’s a lot you can do – and probably are already doing – to prudently manage that risk. The only way to offset high risk exposure flagged by MSCI and Sustainalytics is to couple it with proof of risk management.

Chances are you have processes already in place that can be highlighted to address the potential of labor unrest, supply chain disruptions, employee turnover or productivity, and health and safety incidents that could lead to disruption, litigation and liability risk.

Work with your general counsel and operations department to determine what programs and processes can be highlighted to offset MSCI and Sustainalytics’ flagged risk factors.

There’s no such thing as an ESG exemption.
All of the research and data that we’re seeing point in the same direction: ESG is becoming increasingly factored into investment decisions across industries. If you’ve been shying away from addressing these issues because of the nature of your industry, you cannot afford to any longer. At Clermont Partners, we help companies in all types of industries find ways to get the credit they deserve for their smart, sustainable business policies and practices. If you’re ready to start talking about your specific-ESG strategy and the best ways to optimize your score, let’s talk today.

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