Environmental, social, and governance (ESG) criteria are a set of standards for a company’s operations that socially acutely aware investors use to screen potential investments. Environmental criteria consider how an organization performs as a steward of nature. Social criteria study how it manages relationships with staff, suppliers, prospects, and the communities the place it operates. Governance deals with a company’s leadership, executive pay, audits, inner controls, and shareholder rights.
How Environmental, Social, and Governance (ESG) Criteria Work
Investors (notably younger generations) have, lately, shown interest in placing their cash where their values are. Consequently, brokerage firms and mutual fund corporations have started providing exchange-traded funds (ETFs) and other financial products that follow ESG criteria.
Types of Environmental, Social, and Governance (ESG) Criteria
There are three key parts to ESG investing—the environmental, social, and governance aspects.
Environmental criteria could embrace an organization’s energy use, waste, air pollution, natural resource conservation, and remedy of animals. The criteria can even assist evaluate any environmental risks a company may face and the way the company is managing these risks.
For instance, there might be issues associated to its ownership of contaminated land, its disposal of hazardous waste, its management of poisonous emissions, or its compliance with government environmental regulations.
Social criteria look at the firm’s enterprise relationships. Does it work with suppliers that hold the identical values as it claims to hold? Does the corporate donate a percentage of its profits to the native community or encourage workers to perform volunteer work there? Do the corporate’s working conditions show high regard for its workers’ health and safety? Are different stakeholders’ interests taken into consideration?
About governance, investors could need to know that an organization uses accurate and clear accounting methods and that stockholders are allowed to vote on vital issues.
They may additionally need assurances that companies keep away from conflicts of interest of their alternative of board members, don’t use political contributions to obtain unduly favorable therapy and, in fact, do not have interaction in illegal practices.
No single firm may pass each test in every class, of course, so investors have to determine what’s most important to them and do the research.
On a practical level, investment firms that follow ESG criteria must also set priorities. For instance, Boston-based mostly Trillium Asset Management, with $4.8 billion under management as of September 2021, makes use of a choice of ESG factors to help establish corporations positioned for strong lengthy-term performance.3
Decided in part by analysts who determine points dealing with totally different sectors and industries, Trillium’s ESG criteria embody avoiding:
Companies that operate in higher-risk areas or have exposure to coal or hard rock mining, nuclear or coal energy, private prisons, agricultural biotechnology, tobacco, tar sands, or weapons and firearms.
Or companies that have major or recent controversies with human rights, animal welfare, environmental issues, governance issues, or product safety.
Things that Trillium seeks out or considers positive ESG criteria, embody:
Companies that put out carbon or sustainability reports
Limits dangerous pollution and chemical substances
Seeks to lower greenhouse gas emissions
Uses renewable energy sources
Companies that operate an ethical provide chain
Helps LGBTQ rights and encourages diversity
Has insurance policies to protect against sexual misconduct
Pays truthful wages
Companies that embrace diversity on their board
Embraces corporate transparency
Employs a CEO independent of the board chair
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