ESG Compliance Essentials: Criteria, Frameworks, and Regulations

ESG Compliance Essentials: Criteria, Frameworks, and Regulations

ESG has been making headlines for years, and the evolving nature of this space is yielding new reporting regulations, frameworks, and standards which can obscure a clear picture of what compliance looks like. ESG compliance is meant to create comparability amongst companies for stakeholder groups for better decision making, and to ensure companies are taking responsibility for their impacts on the environment and the communities in which they operate.

While the compliance process can be tedious and labor intensive — especially if a company is going through it for the first time — the payoff can be immense: access to larger pools of capital, positive brand reputation, higher employee satisfaction, and so much more. With the wave of regulations from the SEC and California state as well as the European Union, companies are scrambling to incorporate compliance expertise and measures  into their reporting processes. We lay out the tools and processes you need to know about in order to confidently start your ESG compliance journey. 

What Is ESG?

ESG, or environmental, social, and governance, is an umbrella term used in investing and corporate governance to describe topics which can point to smarter investment decisions, better governance and leadership practices as well as the environmental and social responsibility of a company to its community and larger stakeholder groups. While ESG is often used interchangeably with the term “sustainability,” it alludes to a more specific group of policies and practices that are involved in a larger sustainability journey. Exercising environmental, social, and governance disclosure analytics in investment stewardship activities began in the 1960s, when portfolio managers excluded individual companies and even entire industries based on business activities deemed “unethical” or “irresponsible”, such as tobacco products. Now, the evolution of ESG in the mainstream investing profession and increased scrutiny surrounding the externalities of corporations has moved our collective expectation of companies’ responsibilities in the climate change crisis. 

  • Environmental: This category of ESG describes the impact of a company on its environment; it includes the carbon footprint and greenhouse gas (GHG) emissions, waste production, water usage, biodiversity impact (such as deforestation), and supply chain management, among others. This category under ESG accelerated during the environmental movement of the 1970s, and has become more sophisticated in terms of emissions inventorying into scope 1, 2, and 3 groupings, aligning with Net Zero goals, and with the United Nations Sustainable Development Goals relating to environmental impacts.
  • Social: Social responsibility has also experienced rapid growth and increased scrutiny from the public; companies are now being held to a much higher standard of equal opportunities for diverse groups of people and stakeholders, fair wages and work environments, human rights, community engagement through volunteerism and philanthropy, human capital development, and so much more. Not only does this piece fit in with the larger category of business ethics, but it can contribute to higher employee retention and worker satisfaction in the long run.
  • Governance: Corporate governance and leadership practices are the drivers of ESG initiatives; companies with good governance and financial reporting practices are better able to set and achieve their sustainability goals, but a more topical issue at hand is ESG compliance and regulatory requirements in an era of rapidly evolving regulations, ESG frameworks, and stakeholder expectations. Compliance is more important than ever, and governance can dictate the effectiveness of a company’s ESG strategy. 

While the conversations in national politics and global corporate governance headlines may be putting pressure on the validity of some ESG investing and disclosures, ESG is here to stay, and will likely grow in importance as the climate crisis worsens. ESG might go by another name in the future, but the centrality of its components of environmental protection, social responsibility, and good corporate governance are here to stay.

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A Breakdown of ESG Compliance and Sustainability

Companies can become ESG compliant by paying attention to the evolving landscape of ESG regulations and frameworks, implementing controls and audit capabilities within the company, creating meaningful and ethical policies and practices, and reporting transparent disclosures according to globally accepted frameworks. ESG compliance, while not a glamorous concept, is more important now than ever before as stricter regulations are passed on state, national, and international levels to encourage corporate responsibility and ethical business practices in a global economy. 

What Is ESG Compliance?

ESG compliance means adhering to the globally accepted reporting frameworks or national and international regulations that are applicable to a company’s structure, industry, and geography. Regulations and frameworks have been developed across the globe by organizations and governments in an effort to control the comparability of companies across industries and the transparency of disclosures, and to ensure appropriate responsibility of companies to their stakeholders through good governance, ethical business practices, and reduced negative impacts on the environment and their communities. In practice, ESG compliance means creating and executing ethical policies under each category of environmental, social, and governance, and managing these disclosure areas in annual reports to reduce negative impacts. ESG reporting for compliance means aligning ESG disclosures according to a framework or regulation that best fits the company, and exercising transparency, balance, and clarity to represent the company’s sustainability efforts. 

What Are the Goals of ESG Compliance?

ESG compliance is meant to create comparability of ESG factors amongst companies for consumers, investors, and other stakeholder groups, to enable better decision making, and to ensure companies are taking responsibility for their impacts and actions on the environment and the communities in which they operate. Regulatory bodies, like the Securities and Exchange Commission (SEC), expect transparent disclosures on material topics, such as emissions, in order to reduce these impacts for the goal of addressing the climate crisis and encouraging the global energy transition to renewables. Companies comply with ESG regulations because there are legal penalties and regulatory repercussions, along with potential reputational damage and loss of market share in a growing market of environmentally-conscious consumers and investors. 

How Does CSR Reporting Benefit Your Stakeholders?

Corporate Social Responsibility (CSR) reporting is a form of ESG reporting which focuses on the social aspect of ESG — both internally to the company and its external impacts on the community. CSR reporting can also mean Corporate Sustainability Reporting, which is an umbrella term for ESG-type reports which are published by companies in an effort to remain ESG compliant. These reports can go by several names: ESG reports, sustainability reports, impact reports, responsibility reports, and more. Regardless of the official name a company may choose, the disclosures should align with a specific ESG framework in order to give the disclosures structure, and to make it more meaningful for stakeholders. 

Stakeholders benefit from these reports because, as the corporate governance saying goes, “what gets disclosed gets managed”. This rings true in the ESG space as well — by publicly disclosing topics such as emissions, waste, diversity, and other ESG metrics, companies are more likely to set meaningful goals on improving these disclosures and move the industry further towards a net positive impact on the world, and set new standards for companies to adhere to. Beyond managing disclosures, stakeholders can benefit from CSR reporting by being able to make more informed decisions on where they want to spend or invest their money, companies they want to work for, and where they refer other consumers to. These reports have a lot of power in attracting key talent and capital for industry-leading companies, while also threatening market power for industry laggards. 

How Do You Become ESG Compliant?

ESG compliance is all about transparent disclosures according to the right framework. Enlisting the help of ESG subject matter experts to aid in this process, especially if it is the first time a company is reporting, will help ease some of the frustrations that may come with interpreting different disclosure expectations.

1. Understanding ESG Criteria and Frameworks

ESG criteria are generally grouped under its three major categories: environmental, social and governance. These disclosure criteria are further broken down into clear disclosure topics with predetermined key performance indicators (KPIs) which give comparable data sets and year-over-year data for companies to benchmark against and measure their progress on. An example of this type of ESG criteria might be gender diversity on a public board of directors, company leadership and management, and even the employee base at large; by measuring gender diversity as an absolute number or percentage indicator (according to the predetermined ESG framework), companies can analyze this data to ensure their hiring practices are equitable and fair, find opportunities for improvement in HR training, and invest resources into human capital development.

ESG criteria are key components of ESG frameworks; ESG frameworks are essentially guidelines for ESG reporting and disclosure requirements. There are several different ESG frameworks, including:

However, not all frameworks are applicable to every industry, company structure, geographic region, and even purpose for reporting (for example, consumers may want more information on environmental impact, whereas investors may be looking for governance practices). It is important to understand the basics of why a company is reporting, who the audience is, and what regulations it falls under in order to identify a framework. 

2. Benchmarking

Before a company begins on a sustainability journey, they should first understand where they stand in relation to their peers, and what is most important to their stakeholders. Peer benchmarking and analysis will give a better idea of the frameworks similar companies use to report against, what regulations may apply, which disclosures are emphasized, and where a company may be lagging or leading. 

By establishing where a company is in relation to a peer set, you will have more information on where to start in regard to creating a sustainability report, setting sustainability goals, and creating ESG policies and language. Materiality assessments, like peer benchmarking, are a crucial part of ESG reporting; these assessments survey major stakeholders in order to determine the most important ESG topics to the business, and will give a clearer picture of where to invest resources moving forward and what topics stakeholders want to engage on.

3. Creating an ESG Report

An ESG report is a public-facing document which covers a determined reporting period, generally a single year. Since this is a public-facing document with many different audience groups, it is important to make it accessible; ensure the writing and presentation is clean and clear, while also addressing important topics without “fluff”. 

The reporting process generally consists of four components: planning and preparation; data collection and analysis; compiling and drafting the report; and the communication and stakeholder engagement after the completion of the report. Each step is crucial to the success of a report regardless of the objective, whether it’s good PR, attracting ESG investors, or regulatory compliance. 

  • During Planning and preparation, companies should conduct a materiality assessment to decide on the most material topics to the business and to major stakeholders, identify a reporting framework that most aligns with the company’s industry and reporting objectives, and enroll company leadership. Appoint an ESG team or hire outside contractors to ensure the project is running smoothly, and that there are subject matter experts available to guide the team. Then, begin collecting data according to the framework’s disclosure requirements. 
  • Data collection can be one of the most intensive steps in the entire reporting process, as data is generally scattered across an organization. This requires a lot of cross-departmental collaboration and communication. Analysis of the data means ensuring the data is robust and accurate, and aligning it with the framework’s disclosure requirements. 
  • Compiling and drafting the report is where the real expertise comes into play; transparent disclosures and balanced reporting ensures the integrity of the final product. ESG expertise is needed to audit the report, give feedback, and ensure compliance with regulations and frameworks throughout the process, but especially during this stage. 
  • Communication and stakeholder engagement after completing the report is necessary to drive conversations, encourage feedback, and include stakeholders in the sustainability journey of a company. 

4. Integrating ESG Into Your Company and Culture

While a report may encourage positive PR and stakeholder participation, ensuring ESG is integrated into the internal structures of the organization is just as important as creating an ESG-compliant report. By integrating new policies, or improving existing ones according to sustainability goals set out in an ESG report, a company can work to ensure that sustainability is a core part of business functions, and not an afterthought or detached category. One powerful example of how this can be done is aligning sustainability goals with the mission and values of the organization, and setting KPIs that can improve ESG performance, while also enhancing the mission of the company. Something to keep in mind here is the materiality assessment; ensuring that the goals set out are actually important to stakeholders is essential, and including employees in the materiality assessment can help determine how to integrate the most important aspects of ESG into internal structures. 

Companies have many different strategies for internal ESG integration beyond aligning ESG goals to the mission and vision such as: sustainability performance-related incentives for the employee base, including sustainability objectives into performance and development plans of teams or individuals, ensuring executive compensation is tied to sustainability performance, and creating an internal ESG team to update the rest of the staff on developments or changes in policy, enroll employees through education, and conduct ESG audits to ensure departments are progressing with their sustainability KPIs, remaining complaint, and communicating across the organization.

Essential Tools for ESG Compliance

ESG compliance can sometimes feel like a guessing game. Unless there are concrete rules your company follows in regard to ESG frameworks, ensuring appropriate disclosures can be confusing, messy, and draining. By utilizing advanced technology to manage and collect ESG data, your company can have a clear path forward with framework alignment, audit preparation, and regulatory compliance.

Technology’s Role in ESG Collection and Analytics

While data collection is often the most resource-intensive stage of the ESG reporting process, frustrations can be alleviated through ESG management software. The reporting world is moving away from manual spreadsheets passed amongst countless teams, to advanced data collection, storage, and analytics systems which can streamline the entire reporting process by comparing year-over-year data, improving disclosures, and presenting ESG criteria in a more manageable way. 

AuditBoard ESG was built to centralize and elevate your entire ESG program. Our dashboard was built with ESG compliance in mind, and automates disclosure alignment with various ESG frameworks and regulations to ensure your ESG team is on the right track. Streamline data collection and management through direct data requests, rather than a messy spreadsheet where data is lost, unverified, and difficult to properly audit. With the right technology, the ESG reporting process and program management is simplified and impactful, while keeping time, labor, and financial resources in mind. 

What Are the Future Trends of ESG?

ESG is still rapidly evolving; future trends will pose challenges and opportunities for all companies and stakeholders, and it is advantageous to begin a sustainability journey now, and implement proactive measures. Future trends are likely to include a robust marketplace for data management and ESG tracking tools, higher demand for ESG disclosure at a more advanced level of transparency, and a necessity to integrate ESG principles into core business functions. Ensuring your company is adaptive and dynamic will translate into a resilient business with long-term value creation potential. 

1. Impact Measuring and Reporting

Business intelligence tools, such as ESG data management and analysis platforms, will be mainstream for regulatory compliance and ESG program monitoring. As ESG regulations and frameworks evolve, companies will lean into AI-powered tools to ensure company disclosures are meeting regulatory requirements. Those still managing their ESG data in spreadsheets will likely face the consequences of information falling through the cracks, unverifiable data, and even regulatory penalties and legal repercussions. 

2. Investor and Consumer Demand

Investors and consumers demand better ESG performance from companies. According to a McKinsey and NielsenIQ study, companies of varying sizes experienced growth in products marketing ESG-related claims. Consumer demand for sustainable products and responsible business practices will likely continue to grow as the climate crisis worsens. In addition, a 2020 EY Climate Change and Sustainability Services (CCaSS) Institutional Investor survey found that of the 98% of investors surveyed who include ESG assessments into their investment decisions, 72% carry out a structured ESG performance review. More rigorous ESG standards and frameworks will likely evolve from increased scrutiny from investment professionals and the public. In order to keep pace with these trends, companies should invest in their ESG programs, streamline ESG processes, and work to incorporate ESG and sustainability goals into major business functions. 

3. Integration Into Core Business Strategies

ESG will move beyond compliance to become a core part of business strategy, influencing decision-making at all levels of the organization. By utilizing ESG as a core function rather than a standalone issue of the organization, companies can gain a significant competitive advantage and achieve long-term value creation in a multitude of ways. 

  • Risk Management: Risk management will be an increasing area of concern as the climate crisis worsens, impacting supply chains, resource availability, real estate, and energy usage. By taking a proactive approach to climate risk management by incorporating ESG into core business functions, companies can improve their resilience and avert financial, legal, reputational, and longevity damages.
  • Innovation: Companies will find efficiencies in their operational processes, improve products and services, and find alternative ways of doing business through ESG innovation. 
  • Top Talent: Companies that prioritize ESG will have robust hiring, training, and development practices that both attract and retain top talent. By emphasizing the values of DEI, employees will be more engaged, satisfied, and motivated. 
  • Reputation: Brand reputation can be an indicator of market longevity, and incorporating sustainability into business functions can create a positive brand image. Major stakeholders are more attracted to sustainable companies, which in turn can yield access to larger investments and market share. 

Making ESG a Strategic Differentiator

With the right technology, ESG isn’t a drain on your resources; rather, it’s a powerful program meant to boost your company’s image, competitive advantage, resiliency, and long-term value creation. AuditBoard’s ESG management solution equips your company and ESG team to manage data across departments, streamline data requests and audits, align with ESG frameworks, and ensure regulatory compliance in an era of rapid change. Your most powerful ESG platform is here — request a personalized demo today.

Shelby

Shelby Mason is a Senior Product Designer at AuditBoard. Prior to joining AuditBoard, Shelby spent 6 years in the climate tech and ESG software solutions space where she brings an understanding of the complexities of working with disaggregated data and multidisciplinary teams. Connect with Shelby on LinkedIn.