Thumbs down on ESG

A new study from the Fraser Institute outlines some of the issues with the environment, social and governance (ESG) framework many businesses have adopted (or were forced to adopt) in recent years, including challenges related to standardization and reporting. Photo credit: Forbes/Getty Images


Just as the whole ESG (environment, social and governance) regime is beginning to invade the extended business community, a new study from the Fraser Institute has detailed some of the many serious problems with this approach, and that the notion of standardized ESG reporting is impractical at best, impossible at worst. 

The whole point of ESG reporting is for businesses to structure their operations around environmental (what kind of emissions is the business responsible for), social (does the company give back to the communities it operates in, for example) and governance (is there sufficient representation on the board of diverse groups, women, etc.) considerations as opposed to focusing more on bottom line traditional business concerns. ESG is essentially a non-financial performance indicator that can be highly subjective, and as more businesses and investors become more familiar with it, opposition is growing. 

A smart company will of course factor broader societal issues into its goals as a matter of course, but the ESG system now being discussed is all about imposing a mandatory, rigid and coercive regime on businesses, whether it makes sense or not for any particular business. And as banks, insurance companies and accounting professionals get involved, any businesses that are not in compliance could find themselves cut off from essential services such as financing, business insurance and ranked poorly by accountants. 

The notion that a poor ESG score could ruin an otherwise successful business that is following all of the rules and operating within the letter of the law in all other regards is outrageous. 

The Fraser study notes how the current environment has produced a large number of different ESG reporting standards and ESG rating agencies. While the solution to such a confusing situation should be the establishment of a universal global ESG reporting framework, the Fraser study notes how attempting to achieve such a universal system would likely create major challenges in implementation and enforcement. The study concludes that the creation and enforcement of a standardized ESG system would be impractical and prohibitively costly. 

ESG is intended to be akin to an accounting standard, yet accounting is based on black and white facts, not the type of subjective elements inherent in ESG. For instance, the very broad range of possible ESG issues that could be topics for reporting would have to be narrowed down in any standardized system, and would undoubtedly be more suitable to some companies than to others. 

The Fraser study notes different issues such as waste and water management, supply chains, hiring and compensation and climate change. These issues would be of different relevance – and possibly no relevance – for different companies, making the establishment of a common system very difficult. Standardizing ESG reporting requirements will necessarily involve subjective decisions that will be questioned by many participants. Furthermore, some of the considerations involved are not quantifiable. For instance, how can the value of having a certain number of women or racial minorities on a board of directors be determined? 

Such an incredibly red-tape oriented system is of course anathema for small businesses, and some experts have said that ESG will lead to the demise of many small firms. ESG proponents claim that smaller firms will not be directly affected as most of these regimes are proposed for public companies, but small businesses are very often suppliers to public companies, and will therefore be required to report to the larger businesses they are supplying along the same ESG lines. Small firms lack the internal resources to devote to the kind of detailed reporting ESG demands, and will instead need to pay consultants, accountants, lawyers or others large sums to ensure they are in compliance. It’s no wonder these business consultants are so gung-ho about ESG. 

Proponents of ESG say the financial performance of businesses that conform to an ESG regime are better than those that do not, but so far the evidence would suggest exactly the opposite. When the whole ESG concept was first devised, many businesses, financial institutions and others jumped on board as it seemed the right thing to do. But now that the details are becoming clearer, as outlined in the Fraser report, enthusiasm is waning. 

Like so many of the policies of the climate crisis contingent, they look good at first blush but upon closer inspection are found to be unrealistic, costly and unworkable. Indeed, the more analysis that is done of ESG, the more it appears to be yet another virtue-signalling policy with little benefit to the environment, and enormous costs to the economy. Let’s abandon this mess before more damage is done. 

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