From noble ambition to corporate tokenism: the rise and fall of ESG

As things go up the corporate food chain, they tend to get watered down, compromised or, in extreme cases such as ESG, turned inside out.

The catch-all acronym referring to a company’s environmental, social and governance (ESG) considerations has been so thoroughly gamed that the dirtiest, most chauvinist companies on the planet can now claim relatively healthy ratings.

How is it that electric carmaker Tesla has a lower ESG score (in the latest Sustainalytics and S&P rankings) than US oil major Exxon, a company that spent decades trying to suppress information about climate change, is being sued in the US for misleading the public about climate change and that maintains explicit goals to increase oil and gas production.

Tesla also has a lower ESG score than cigarette maker Philip Morris when tobacco causes millions of deaths every year. In the S&P rankings, Tesla scored a dismal 37 out of 100 while Philip Morris scored a socially responsible 84.

Defenders of these ESG indices will say that while Tesla scores well on environmental grounds, it falls short in terms of social and governance factors, hence the poor overall score.

I’m not saying Tesla boss Elon Musk is some sort of white knight. There are no doubt legitimate social and governance concerns about his operation but are we really saying Tesla, a company that has done more to decarbonise the planet than perhaps any other big corporation, is less socially responsible than the one (Exxon) whose own scientists found clear evidence that carbon emissions from burning fossil fuels were warming the planet as far back as the 1970s but hid the information and has succeeded, more than any other, in politicising US climate policy?

ESG has fallen into an Alice in Wonderland wormhole where everything is what it isn’t. Trotting out a net-zero pledge these days is about as significant as telling your shareholders you’re interested in making money.

The indices are “bulls**t because they’re clearly being gamed”, says Norman Crowley, chairman and founder of Wicklow-based Cool Planet, a company that specialises in decarbonisation.

Part of the problem lies with the amalgamation of disparate concepts in the first place, he says. “We have one concept, environment, which is existential to the world, mixed with a social thing which is a human right.”

“Treating men and women, or people of colour, fairly is a basic, (in poker parlance) a table stake, you cannot operate in 2024 without it. Equally you can’t be in business without governance,” Crowley says.

He notes that Coca Cola and Facebook Meta both have high ESG scores. “It’s not that they are unethical but at the same time can you honestly say everything they do is good?”

“It [ESG] started off with lofty goals: wouldn’t it be brilliant if we could run the rule over a company and figure out whether they’re doing good for the world, whether they’re treating their people fairly and whether they have good governance … but has now become completely corrupted,” he says.

Part of the problem is the growth in ESG funds and the influence of asset managers who drive billions and billions of euro into stocks and funds with ESG ratings.

To make sure companies get these ratings, the ESG criteria are increasingly being diluted to ensure the flow of capital rather than forcing the companies to change.

Shareholder activists have long argued that the best way to get executives to act more responsibly is to pay them to do it. According to the Semler Brossy Consulting Group, 72 per cent of S&P 500 companies in the US include ESG metrics in determining executives’ pay.

But there is concern that these metrics are being similarly gamed. It is easier to fudge your ESG credentials than to hit definitive earnings or share price targets, hence companies and executives have embraced these new pay-determining metrics but perhaps for the wrong reasons.

A recent Financial Times report quoted a senior asset manager calling companies’ ESG targets “fluffy”. The report highlighted the case of US carrier Southwest Airlines, which presided over a disastrous 2022 holiday season that saw the cancellation of 16,000 flights. The poor performance didn’t stop senior executives from awarding themselves big bonuses linked to ESG targets.

Legal & General Investment Management (LGIM), one of the world’s largest fund managers, treads a fine line between sanctioner and facilitator. It makes no secret of the fact that it continues to hold stakes in companies excluded from its environmentally and socially focused funds but insists it is trying to instigate change from the inside by holding company boards to account.

In a report last week, advocacy group Oil Change International analysed climate plans from the eight largest US- and Europe-based international oil and gas producers – BP, Chevron, ConocoPhillips, Eni, Equinor, ExxonMobil, Shell and TotalEnergies – and found none were compatible with limiting global warming to 1.5 degrees above pre-industrial levels.

Six of the eight companies – the exceptions were Shell and BP – also have goals to increase oil and gas production.

We appear to have a deepening climate crisis coinciding with splashier and splashier climate announcements aided by woolier and woolier ESG metrics. Perhaps it’s time to kill off the concept altogether.