EU policymakers are promoting a green recovery. A public-private agency rating companies’ climate performance would help keep it on track, argue Steven Tebbe and Laurent Babikian.
Steven Tebbe is managing director at CDP Europe, an organisation aiming to make environmental reporting and risk management a business norm. Laurent Babikian is director for investor engagement CDP Europe.
EU leaders are clear that the long-term economic response to the coronavirus crisis should use the European Green Deal framework, which targets climate-neutrality by 2050.
This ambition is needed, as our future economic prosperity depends on it. Stimulus packages for companies should include green conditions, such as targets to cut emissions or earmarking capital for low carbon projects. Oxford research says a green recovery offers the best economic returns for public spending.
These activities need to be well tracked. Funds can be targeted best if companies are transparent and have plans aligned with the EU’s objectives.
But a quiet battle has been waging in the market for this non-financial data – and it may be problematic for steering the green recovery. The EU must act boldly to ensure it can judge companies’ actions according to the criteria it needs.
Different data, different prices
This battle can be explained by the gap in the value of financial and non-financial data, and competition to monetise it while regulation lags.
Financial data is valuable. Businesses spend $50 billion a year on audits with the big four global accounting firms, while the oligopoly of credit rating agencies book revenues of $10 billion rating creditworthiness and risk.
The cost of non-financial data is comparatively low, long considered niche by investors. But increasingly seen as financially relevant, demand for data about how companies perform on ESG is growing fast. During our economic recovery, it will be key for holding companies accountable for public money.
Growth and consolidation in the ESG data market
This price gap between financial and non-financial data is being corrected. Payments for it have tripled recently, according to capital market consultants Opimas, and were forecast to top $750 million this year before the crisis. It’s down to growth in sustainable investing, which increased by $8 trillion between 2016-2018.
Financial data houses are betting that ESG adds to traditional revenues and have engaged in a burst of dealmaking for European non-financial experts. S&P acquired Trucost in 2016 and the ESG arm of RobecoSAM late last year. Moody’s bought European agency Vigeo Eiris in 2019, and MSCI now owns Swiss firm Carbon Delta. Morningstar, too, recently finalised its acquisition of Sustainalytics.
These moves are easy to understand. Climate goals require markets to massively redirect capital towards lower carbon technologies. Pre-crisis, the EU said its target needed €180 billion per year in extra private investment. The corporate sector must double its low carbon spending, a recent CDP & Oliver Wyman report has estimated.
This existing financing gap, paired with green recovery demand, means that the range of instruments setup for ESG investing must expand. Standardised data is needed for those and the big raters are betting on providing it.
EU policies have done much to develop this market. Though the best quality data is still disclosed voluntarily, reporting is now mandatory for the EU’s 6,000 biggest firms. New regulations to define investments’ greenness and set requirements for labelling low carbon benchmarks and bonds are coming in, and can be used to identify job-boosting low carbon investments during this recovery.
These policies will lead to more sustainable investment, and more pressure on companies to disclose better non-financials. Investors, facing rules of their own, are becoming more vocal and targeting firms like Amazon, Exxon and BP who consistently fail to report.
But though Europe has helped drive a boom in better non-financial data, its monetisation by private raters may not serve its interest.
Ensuring data serves the long-term public interest
There are two reasons to favour public non-financial data. Because it tracks and drives progress to reduce emissions, it should not be rated privately, where methodologies may be less transparent or as aligned with policy objectives.
Second, non-financial risks are complex and unprecedented. Long-term climate risks may not always align with financial risks. The societal benefits of limiting and adapting to global warming might not be rated best by experts in shorter-term financial risk.
This is particularly as EU leaders support companies through this crisis. They must insist on transparency about how companies plan to deliver the low carbon economy the EU wants.
Europe can address this. Last year, a report for the French Ministry of Finance suggested a non-financial standard-setter. The European Commission has now announced it will build on current best-practices and create European standards.
This is supported by those seeing non-financial data as key for faster climate action. But the next step would be for the EU to assure accountability to its long-term targets by scoring data, too. For the data to best serve the public interest, it could setup a public-private environmental rating agency and score companies according to its new standard.
Being public, this can buffer investors from the risk of the ‘issuer-pay’ model being applied to non-financial data, the problems with which were debated during the financial crisis.
Public European institutions have a moment to lead the world by making bold changes to how non-financial data is collected and handled. As it sets out on a green recovery, it must not pass up the opportunity while it exists.