Environmental, Social and Governance (ESG) awareness has come a long way from the days when the term was narrowly associated with deforestation, animal testing or the ozone layer. Today, the scope of ESG spans far and wide, capturing issues ranging from labour standards to diversity, indigenous communities, supply chains, waste management and corporate ethics.
ESG discussions within the public domain are so intense these days that the topic barely needs any introduction for the modern consumer, business or investor. Yet, for all the elevated publicity and heightened global awareness, the risks for global corporations to run afoul of ESG-related issues are alarmingly high.
It’s all too common to see damaging headlines of a well-known household brand or global corporation which has unwittingly found itself at the center of an ESG-related scandal. A luxury fashion house was recently accused of falling behind its anti-slavery policy. High-street fast fashion chains have been vilified for exploiting workers in sweatshops or using forced labor in certain countries. EV makers and tech companies have been taken to task for failing environmental standards. A mining company share price bore the brunt of investors’ angst for destroying a site that was significant to the indigenous community.
As those examples show, the repercussions of an ESG misstep can be severe, ranging from reputational damage to hefty fines, investor backlash and consumer boycott. Lobby groups and young voters are increasingly demanding governments to take more effective measures, including tightening regulatory frameworks and addressing questionable corporate actions. Investors are voting with their money, pulling funds from companies embroiled in ESG scandals. Young consumers rarely think twice about shunning products which do not meet ESG standards, even going so far as to pay a premium for products that do.
But while the ESG landscape is rapidly evolving, regulatory frameworks are still taking shape, resulting in differing policies between countries, regions and industries. Following the COP26 summit in 2021, when over 130 countries committed or considered committing to net zero carbon emissions by 2050, the Greenhouse Gas Protocol framework was expanded to Scope 3 which requires a company’s value chain to be included in their mandatory reporting. The European Commission has already adopted Scope 3 under the Corporate Sustainability Reporting Directive in 2022. However, it was omitted in the climate disclosure rule unveiled by the US Securities and Exchange Commission earlier this year.
Nonetheless, this puts global companies with extensive supply chains in emerging economies in an especially vulnerable position when it comes to monitoring cross-border ESG standards.
For instance, while an EU-based company may need to comply with the mandatory CSRD standards, its supply chain in Vietnam may be operating under different parameters. Worse, the Vietnamese supplier may fail to appreciate the ESG standards required by the EU-based company, especially if it has been supplying to the same EU company for many years.
Suppliers based in emerging economies are often small-and-medium-sized enterprises which lack the technical knowledge, expertise or financial capabilities to comply with ESG standards. A Malaysian-based electronics supplier recently expressed that it was “at a loss” on where to start with ESG.
Yet, it is the responsibility of the developed market-based anchor to come up with the ESG infrastructure for its suppliers to meet those global standards. Failing to do so poses risks not just to the anchor, but to the supplier which may find itself eliminated from the anchor’s supply chain.
Digital platforms can play a big part in helping anchors and suppliers work together to meet ESG standards. A digital supply chain finance platform provides an anchor with visibility and transparency of the ESG standards in its value chain around the world. It offers a process for the anchor to provide information and support to its suppliers on areas for improvement and investments. It also facilitates an audit trail for the anchor to illustrate its ESG practices.
While ESG infrastructure might seem like a cost center to both supplier and anchor, there are financial benefits which may not seem obvious at first glance.
A supplier with favourable ESG ratings may be able to secure more attractive interest rates when it seeks supply chain financing from the anchor.
Firstly, a supplier with favourable ESG ratings may be able to secure more attractive interest rates when it seeks supply chain financing from the anchor. Since COP26, banks around the world have committed to boost ESG lending. Many now have ESG lending quotas and are accountable to governments and regulatory bodies in fulfilling them. Therefore, banks tend to offer more favorable interest rates to borrowers that meet certain ESG standards.
There is a growing pool of investors, particularly institutional investors, which avoid companies with doubtful sustainability records. The number of ESG-centric thematic funds are also on the rise.
For the anchor, apart from a solid corporate reputation and consumer loyalty, it stands to benefit from shareholders and investors. There is a growing pool of investors, particularly institutional investors, which avoid companies with doubtful sustainability records. The number of ESG-centric thematic funds are also on the rise. According to Bloomberg Intelligence, global ESG assets surpassed USD 30 trillion in 2022 and are on track to top USD 40 trillion by 2030, accounting for over 25% of the projected USD 140 trillion global assets under management.
The scope of ESG can only extend and it’s a matter of time before emerging, as well as, developed economies fully embrace those standards. Putting the necessary infrastructure in place just makes sense whether for the corporate or its value chain.
