Evolution or revolution?

By Pat Sharman, Country Managing Director, UK

Awareness of climate change in company boardrooms is changing and there is a growing focus on climate risk, which is enhancing the flow of information. Asset owners and asset managers now have access to more reliable data on ESG and climate risks and are slowly expanding their information requirements to biodiversity risk. More asset owners and asset managers are establishing net zero targets.

These are all signs of strong evolutionary change. However, are we doing enough?

To begin with, it’s really encouraging to see that the availability and reliability of data on ESG and climate risks has improved over the last five years. This partly reflects a greater focus by companies on corporate social responsibility, which has driven more reporting on environmental, social and governance factors. It also reflects more

demand for ESG data from asset owners and asset managers, driven by regulation and client expectations.

When it comes to climate data, a slightly different picture emerges. According to our sustainability data partner, Clarity AI, only about 17% of publicly listed companies report their direct emissions – around 6,500 companies globally. On the face of it, this appears low but the devil is in the detail.

In a nutshell, these 6,500 companies emit about 74% of scope 1 emissions of the full universe of public companies worldwide, which number between 40-45,000.

It means we have a good percentage of the data that actually matters, although as an industry, we are still a bit more challenged in getting our hands on scope 3 emissions data.

Reporting companies account for three quarters of Scope 1 emissions

Source: Clarity AI: Out of 40-45,000 listed companies, ~17% report their CO2 Scope 1 emissions. Despite representing a small fraction, those ~6,500 companies account for 74% of Scope 1 emissions of the full universe of listed companies

Getting your hands on good data is just the starting point. Interpreting the data and using is correctly is just as critical and this is where education is key. For example, when looking at carbon emissions, intensity-based targets don’t guarantee absolute emissions reductions. If a company’s emissions intensity decreases but its production volume increases at a larger rate, its absolute emissions may still increase. That’s why absolute emissions-based targets are more transparent. In a nutshell, we need to apply our own thinking and logic when reviewing data.

Sometimes, it’s looking at the data and asking these questions: Is it consistent with industry standards? Is it aligned with the emissions of similar companies? And is it plausible for a company of a given size and growth pattern?

Furthermore, what’s still confusing for many is the variability of data between the different sustainability reporting providers – there is no single version of the truth. The latter is what I hope we’ll move to over the next five years, which is more than just an evolutionary change, coupled with more alignment in regulations between asset owners and asset managers on sustainability reporting.

Taking action on net zero

For me, perhaps the biggest opportunity for the industry is to demonstrate the path to net zero alignment. Many asset owners and asset managers have outlined their ambition to achieve net-zero by 2040 or 2050. This requires three important steps.

First, we need more evidence-based reporting, preferably yearly, and the necessary criteria, to articulate how net-zero goals are being achieved. Criteria may include ‘net zero aligned’ and ‘net zero aligning’, ‘emissions performance year on year’, ‘full disclosure of material emissions’ and whether or not investee companies have fully developed low-carbon plans.

Moving to net zero also requires a strong level of collaboration between asset owners and asset managers. Asset owners have very specific goals when it comes to areas like climate risk and net-zero commitments and this translates into their stewardship and engagement policies. If asset owners hold mutual funds, there needs to be more alignment with asset managers on stewardship and engagement. This also means asset owners taking a more active role by asking their asset managers how companies they are investing into, either directly or through a mutual fund, are prepared for the transition to net zero, and reviewing if these plans are integrated into each company’s business strategy.

Finally, net zero plans need to be incorporated into regular communication to end investors or pension scheme members. We are already seeing some good examples of this amongst asset owners and asset managers. It fosters transparency and trust, which are important virtues when it comes to reporting on sustainability-led objectives.

Where next?

What’s increasingly clear is that the topic of sustainability is growing and evolving quickly. Only recently, the World Economic Forum cited biodiversity loss and ecosystem collapse as the fourth largest global risk behind climate-related risks over the next ten years. Managing biodiversity risk will become another factor that asset owners and asset managers have to consider and frameworks, such as The Task Force on Nature Related Financial Disclosures, along with additional data requirements around nature, will need to be considered.

A final word: Education is an accelerator

As a final thought, I would like to highlight the importance of education. I think as an industry, we’ve been too inwardly focused on trying to make the case for how we are addressing ESG and climate risks. I often wonder if we have lost sight of the information needs for end investors, pension scheme members and financial advisers.

As an industry, it’s important for us to really demonstrate through data and information how we are committed to addressing climate risk and the transition to net zero – and of course, mitigating biodiversity loss.

This will also greatly improve transparency and help build trust and engagement with these cohorts, who are relying on us to make the right choices. And then, collectively as an industry, we need to agree on a metric for good.