From Irrational ESG Exuberance to Climate Pragmatism: The New Green Investment Frontier

The Environmental, Social, and Governance (ESG) framework is the dominant standard for assessing corporate risk exposure, sustainability, and ethical performance. For many, it has been the positive force behind a $35.3 trillion revolution in contemporary business practices, changing how corporations and investors view their roles in business and in society. For others, the term ‘ESG’ has become weaponized across the political spectrum to the extent that it distracts attention from the tangible commercial issues and risks that businesses must address.

ESG: The rise and fall of modern corporate strategy’s green new deal

As a startup founder working in climate tech, it might seem counterintuitive for me to argue that the framework isn’t fit for purpose. However, having spent years grappling with the reality of a changing climate and what it means for businesses, I believe the ESG framework does not deliver a clear, actionable roadmap for companies to make better decisions.

There are well documented structural inconsistencies with ESG scoring. Phillip Morris, a tobacco company with products directly linked to millions of deaths and adverse health impacts, often scores high on ESG metrics, due to their significant investments in governance and social programs. Meanwhile, Tesla, a company that has catalyzed a revolution in sustainable transportation and green energy, often scores poorly in ESG ratings due to criticism of its labor practices and corporate governance.

Untangling the knot

ESG ties itself in knots trying to compare too many disparate aspects of business into a comprehensive score. ESG’s ambition for completeness leads to a paradox: companies can get away with detrimental practices in one area by offsetting them with beneficial activities in another. According to Harvard Business Review, only 25% of ESG metrics used are universally applicable across industries. ESG metrics are not uniformly applicable, and only push square pegs into round holes, making the problem worse.

While all aspects of the E, S and G are vital issues to address , climate change is uniquely existential and uniquely neglected in a mish-mash framework like ESG. The climate crisis is accelerating at an unprecedented rate and scale, impacting across industries and geographies. The effects are long term and irreversible, and cause significant measurable economic damages to businesses that make it unique from social and governance issues.

In 2021, 47 separate billion-dollar weather disasters occurred globally, with overall economic damage totalling US$329B. Climate has to be seen as an external risk factor that must be managed like other forms of financial risk. Social, governance, and even certain subsets of climate data (such as carbon emissions) reflect what businesses do to the planet, not what the planet is doing to us. You can control your boardroom and decarbonize your operations, but you cannot control the weather and climate.

The components of ESG must be treated as separate concerns - related but not overlapping. This approach would allow companies to address each aspect individually, based on sector-specific norms and actionable insights. In the case of climate risk, measuring exposure requires access to complex scientific datasets and specific technical expertise is needed to validate and translate results. There is a higher bar to clear for data quality assessment by comparison to the datasets required to measure performance on gender pay equality, workforce diversity, and other important social and governance issues.

A dedicated framework allows us to keep the main thing the main thing. We urgently need deeper, more nuanced analysis specific to climate factors,obscured by other unrelated ESG elements.

Time for a Reckoning

Recent global weirding has shown that dedicated climate risk analytics is an underrepresented, misunderstood, yet critically important aspect of good corporate risk management. Although businesses are slow to adopt new processes, the World Economic Forum identifies extreme weather events and climate action failure as the most likely and impactful risks facing the world today.

With new state-of-the-art climate datasets, companies can probabilistically evaluate future environmental hazards, including floods, wildfires, and rising sea levels. Identifying and preparing for these physical risks is no longer optional; it's an integral aspect of risk management. Businesses that fail to do so are at risk of falling behind. In 2018, the Carbon Disclosure Project found that companies disclosed estimated climate-related financial risks amounted to $1 trillion, most of which they predicted would start impacting them within the next five years. That time is now.

As our economy continues to evolve, we need to adapt our tools and methodologies to ensure they remain relevant and effective. While ESG has served as a catalyst for change, its one-size-fits-all scoring system seems increasingly like a blunt instrument in a world requiring surgical precision. The next phase of corporate responsibility should focus on disentangling the complex web that ESG has become. Doing so will not only provide clearer guidance for businesses but also facilitate more effective and targeted interventions, particularly in critical areas like climate risk that have significant economic ramifications.

Ultimately, corporate responsibility is the same as it always has been – to deliver value to shareholders. In a rapidly changing world, climate analytics are simply another risk management tool to achieve this goal.

Josh Gilbert is co-founder and CEO of Sust Global, a geospatial AI company fusing satellite data, climate models and deep learning techniques to help investors and businesses to integrate climate-aware risk management strategies.

At Sust Global, we are on the mission to transform the latest in machine learning, remote sensing and frontier climate science into the intelligent climate data infrastructure that organizations need to thrive. If you would like to learn more about our dashboard or API integrations, fill out the form below and a member of the team will be in touch shortly.

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