Environmental, Social, and Governance (ESG) ratings providers could have their own regulatory regime depending on the outcome of a parliamentary consultation.
The proposal
Since the end of March, HM Treasury has been debating whether a regulatory regime should be introduced for providers of ESG ratings.
It would be a “first of its kind” globally, with the Government estimating that over the next three years more than $33.9 trillion of global assets under management will be considering ESG factors.
ESG ratings are defined as an assessment of Environmental, Social, and Governance (ESG) matters that drive financial market investment decisions.
It is hoped that a regime would ensure good conduct within the ESG ratings market and improve transparency, as stated by the Chancellor back in December 2022.
Gov.uk describes the proposal as; “The core policy proposal set out in this consultation is that the following activity is brought into regulation: the direct provision of an assessment of environmental, social, or governance factors to a user in the UK, where the assessment is used in relation to a specified investment in the RAO, unless an exclusion applies”.
Regime summary
A Government report titled ‘Greening Finance: A Roadmap to Sustainable Investing’ recognises the use of ESG ratings/data in the UK and how it’s rapidly growing. This is what the Government wants to create a regulatory framework for.
Greening finance and HM treasury’s aims for the economy are currently guiding the Government's decisions on ESG ratings, data, and how the regime will ultimately work.
It is critical that ESG information is reliable as ESG ratings assess each firms’ management of ESG risks, impacts, and opportunities.
Furthermore, an ESG framework would help the Government achieve their Net Zero target in 2050 by supporting sustainable financial investments.
The official Government website states “If regulation for ESG ratings was to be brought forward, it would be for HM Treasury to introduce legislation to amend and expand the regulatory perimeter.
“This is expected to be done through an amendment to the RAO, which would require firms brought into the perimeter to become FCA authorised and to meet specified Threshold Conditions”.
What are ESG ratings?
ESG ratings span across multiple areas and can be implemented in a number of ways. For example, ESG ratings can analyse a company’s impact on wider ESG matters (such as carbon contributions and air quality impact) or assess an entity’s management of ESG risks (like flooding) and opportunities (such as clean technology).
ESG providers keep track of evolving regulations and industry standards related to sustainability and responsible business practices.
They provide guidance to companies in the property and construction sector on meeting compliance requirements.
Staying updated on ESG metrics and expectations helps businesses align with regulatory changes and stay ahead of emerging sustainability trends.
Many compare ESG ratings to credit ratings as they are both extremely influential however, unlike credit ratings, ESG ratings are intrinsically multidimensional.
Despite their rise in popularity, many have been quick to voice their concerns. These include questions surrounding methodologies and objectives, interactions between entities and providers, and conflicts of interest which could affect market confidence.
How does this affect the property and construction industry?
ESG providers influence the property and construction industry by shaping investment decisions, promoting sustainable practices, managing risks, ensuring regulatory compliance, driving market demand, and fostering collaboration within the sector.
Investors rely on ESG ratings and reports provided by these organisations to make informed investment decisions. A favourable ESG rating can attract capital and financing, while a poor rating may deter investors.
Additionally, ESG assessments highlight potential risks such as environmental contamination, labour violations, or reputational damage. Companies can use these insights to identify and mitigate risks, improving long-term sustainability and resilience.
Where ESG providers set benchmarks and criteria for sustainable practices, the property and construction industry must adhere to these standards to maintain a positive ESG rating.
This encourages companies to adopt sustainable building materials, energy-efficient designs, waste reduction measures, and environmentally friendly construction techniques.
ESG reporting also promotes transparency, allowing stakeholders to evaluate a company's sustainability performance.
These assessments and ratings incentivise companies to prioritise ESG factors, leading to a more sustainable and resilient built environment.
Increasingly, investors, tenants, and consumers prefer sustainable and socially responsible buildings. ESG providers' assessments can highlight a property's green features, energy efficiency, or its positive impact on local communities.
Companies that prioritise ESG considerations can enhance their reputation, attract socially conscious clients, and potentially command higher prices for their properties.
What's next?
The consultation for the proposed regulatory regime for ESG providers comes to an end on the 30th of June.
We will provide an update on the outcome of the consultation when more information has been announced.
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