ESG scores and ratings: What they are, why they matter
For sustainability-minded organizations, ESG scores are the true north that guides boards and shareholders toward stronger environmental, social and governance (ESG) practices. These scores are a key way third-party rating and reporting organizations measure companies' efforts; they’re also an important tool to compare one organization’s ESG performance to another’s.
Is a company failing to meet compliance obligations for environmental impact? Are diversity, equity or other governance issues putting the company at legal or reputational risk? ESG scores and ratings are a quantitative way to answer these questions, eliminating the complexity of evaluating a company’s ESG activities.
Just as corporate boards should stay abreast of evolving ESG standards and frameworks, they should also be aware of what goes into an ESG score and why they're important to investors and stakeholders. These scores can be a significant factor in attracting capital and maintaining transparent stakeholder communications on ESG.
In this article, we'll cover:
- What ESG scores and ratings are
- Who calculates ESG scores
- What is a good ESG score?
- ESG scoring criteria
- Who is using your ESG score, and how
- How using technology can improve your rating
What are ESG scores?
ESG scores are a measure investors can use to gauge a company’s performance on ESG issues and its exposure to ESG-related risks. They are calculated against a set of ESG metrics and may be expressed on a number scale or through a letter ranking system.
Just like a credit score communicates a consumer’s ability to pay back debt, ESG scores communicate how effective an organization’s ESG strategy is. ESG reports and ratings are important comparison tools for value-minded investors, asset managers, financial managers, and other stakeholders measuring a company's ESG performance over time and against their market and industry peers.
ESG scores themselves and the surrounding context fill in the picture of a company's performance on environmental, social and governance issues. According to the Harvard Law School Forum on Corporate Governance, such reports “often form the basis of informal and shareholder proposal-related investor engagement with companies on ESG matters.”
Why do ESG scores and ratings matter?
A company's performance on ESG issues — from cybersecurity to climate change to diversity, equity, and inclusion — is becoming an increasingly important factor for stakeholders and investment decisions. A good ESG score is an invaluable piece of that puzzle, helping organizations:
- Anticipate future risks and opportunities
- Adopt longer-term strategic thinking
- Prioritize long-term value creation over short-term gains
As such, the consequences of a substandard score can be momentous. Research increasingly shows that companies that adhere to ESG principles are lower-risk investments and more resilient over time.
For that reason, forward-thinking boards stay knowledgeable about their company's ESG issues and activities, the various third-party organizations evaluating their efforts, and their ESG scores.
Who calculates ESG scores?
Several third-party providers calculate ESG scores — including agencies and research and analysis firms — that evaluate companies on ESG performance. These organizations determine independent ESG scores that inform investment decisions and comparisons against peers.
Common ESG rating agencies & firms
At present, more than 600 agencies issue ESG scores. Some of the most common are:
- Bloomberg ESG Data Services, which offers ESG data for more than 11,700 companies in 102 countries
- Corporate Knights Global 100, an annual global ranking of corporate sustainability performance by Toronto-based magazine Corporate Knights
- Sustainalytics ESG Risk Ratings, designed to help investors identify financially material ESG risks for more than 12,000 companies
- Dow Jones Sustainability Index Family, headlined by DJSI World, which represents the top 10% most sustainable companies among the largest 2,500 in the S&P Global BMI
- Thomson Reuters ESG Scores, which measures ESG performance across 10 themes for more than 6,000 companies globally
- RepRisk, which uses artificial intelligence and machine learning to compile coverage of ESG risk assessment for more than 160,000 public and private companies
How are ESG scores calculated?
Providers differ in almost every approach to ESG scoring, from the formulas they use to determine ESG ratings to how they weigh individual factors to how they publish their results.
ESG scores criteria
Most ESG reports, and ratings consider all three ESG categories: environment, social and governance.
Environmental scoring factors range from a company's greenhouse gas emissions to its treatment of animals. Common evaluation criteria include metrics on:
- Climate change
- Soil and water contamination
- Renewable energy
- Environmental policy
Social scoring factors examine a company's business relationships with employees, suppliers, partners, shareholders, and other groups throughout the supply chain' for instance:
- Are workers in factories abroad treated ethically?
- Do employees earn a living wage?
- Are facilities regularly inspected and safe to work?
- Can employees take leave when they are sick or for other personal reasons?
Social scores may also reflect charitable contributions, customer interactions, community impact and policy influence.
Finally, governance scoring criteria evaluate legal and compliance issues and board operations as part of the ESG score:
- Does the company abide by all local, state and federal laws?
- Does board composition represent diverse backgrounds and perspectives?
- How does executive and non-executive compensation compare to the company's peers?
Many ESG scores take industry context into account. Corporate Knights, for instance, only scores companies based on performance indicators that are relevant to their industry.
Collecting ESG data
Some agencies do not rely on companies to provide data for their ESG scores. Corporate Knights, for example, only utilizes publicly available data. RepRisk goes so far as to intentionally exclude company self-disclosures, analyzing information from public sources and stakeholders.
Other agencies involve companies from the outset. Companies that Dow Jones invites for possible inclusion in its Dow Jones Sustainability Index (DSJI) World listing must complete a questionnaire. Bloomberg sources data through CSR reports, public sources, and direct company contact — penalizing companies that are missing data with a lower rating.
What is a good ESG risk score?
A good ESG risk score depends on the agency that issues the score. The methodology, scope and coverage for each can vary significantly. Bloomberg and Corporate Knights rate companies on a 100-point scale, for example, with a score of more than 70 considered good. Thomson Reuters assigns a score between 0 (worst) and 1 (best) with a corresponding letter grade. RepRisk measures companies on the RepRisk Index (0 to 100) and provides a RepRisk rating (AAA to D).
Is a low ESG score good?
A low ESG score is relatively poor. Though the scoring and rating scales vary between agencies, a score below 50 is bad, while a score above 70 is considered strong.
Is a high ESG score good?
Yes, a high ESG score is good. Organizations scored 70 or above have strong ESG programs, while those with scores below 50 have room for improvement.
How to find a company’s ESG score
Some ESG ratings and reports are publicly available. The DJSI, for example, releases world and regional indices on top-performing companies annually.
Other ratings and reports, such as those by Bloomberg and RepRisk, are created for investors about companies they want to invest in.
Some organizations allow companies to verify data before sending ESG scores to investors and — in the case of RepRisk and Dow Jones — provide companies feedback on how they can improve their scores and ESG performance.
Who uses ESG scores and why
Investors use ESG scores to incorporate environmental, social and governance in their investment decisions. Many investors will see a high ESG score as an indicator of that organization’s potential, particularly that it's leveraging ESG to boost financial performance and limit risk. A lower score, on the other hand, may signal to investors that an organization is either uninterested in ESG or doesn’t know how to address it effectively.
In either case, ESG scores have become the “don’t pass go” of impact investing. That makes them mission-critical for boards who want to remain competitive in a business landscape increasingly interested in sustainable and socially conscious operations. Keep in mind, though, that this isn’t to be confused with greenwashing, which is the practice of talking the ESG talk without really walking the walk.
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