Emerging power of ESG in quoted companies’ analysis
March 6, 2023108 views0 comments
BY SOLA ONI
Sola Oni, an integrated communications strategist, Chartered Stockbroker and Commodities Broker, is the Chief Executive Officer, Sofunix Investment and Communications. You can reach him at email@example.com
It is settled in securities analysis and portfolio management that every investment is a trade-off of risk and return. An investor’s ultimate goal is to maximize return and minimize risk. The higher the risk, the higher the return and vice versa. This explains why speculators have a high risk appetite. Their portfolio is top-heavy with assets such as equities, commodities, high yield bonds and even real estates. These assets have a significant degree of price volatility. Conversely, investors with low risk appetite would rather populate their portfolio with asset classes such as series savings bonds, short-term certificate deposit, Treasury Bills, corporate bonds, dividend-paying stocks, preferred stocks and money market funds, among others.
In my piece titled: “Investors should watch out for Red Flags”, published in this column on March 2, 2020, I identified some key issues that an average investor should consider before buying into shares of a company. It is fundamental to have an insight into the quality of management of such a company. He should analyze the trends of the company’s earnings to identify instances of shrinking profit margins and decelerating sales growth among others. An investor does not need to be an expert in technical and fundamental analysis to make an informed investment decision. This is why he needs an investment doctor called a stockbroker or broadly, securities trader. It is a costly gamble for anyone who has no knowledge of operations of a stock market to embark on portfolio construction. Share prices of companies that fail the minimum test of investment are vulnerable to volatility. Many investors have lost their life savings to investment by impulse. These are investors who have no investment objective. They do not know their risk tolerance, not to mention time horizon.
Given the dynamics of changes in the global economy, there is a new trend of risk aversion strategy that enables an investor to beam their lens on the risk profile of a company ahead of an investment decision. In 2005, the United Nations and Swiss Federal Department of Foreign Affairs published a report titled, “Who Cares Wins”. The 59-page Report contains recommendations by the financial industry, on the need to integrate environmental, social and governance issues (ESG) in “analysis, asset management and securities brokerage”.
By deploying ESG to investment analysis of a company, it helps an investor to have a helicopter view of the company’s future in order to minimize risk. This is a major component of sustainability which in a simple language means meeting one’s present needs without compromising the future. Since the 2005 Report of the United Nations, ESG had begun to gain traction as a framework used by savvy investors to evaluate an organisation’s performance against specific criteria. Application of ESG is not done by only investors in a company, customers and employees. This is an ideological shift, whereby the success of a company transcends profitability. It is also measured by how the organisation supports and sustains the environment where the business operates.
According to the Deloitte Center for Financial Services, in 2025, it is estimated that 50 percent of all professionally managed investments in the United States will be ESG- mandated assets. There is a divergence of opinion whether ESG and sustainability are the same. This is because both highlight the importance of the environment, social and governance setting of a business.
But Jane Courtnell in June 2022 wrote a definitive piece titled “ESG Reporting: How does it differ from Sustainability Reporting?” According to her, ESG and sustainability have similarities and differences when she posited that:
“The term ESG seems to act as a synonym for sustainability, yet the interchangeable use of these two terms is incorrect. ESG and sustainability are both strategic considerations for businesses, executive teams, and investors. They both share the same goal of improving a company’s business practices to boost profits and win favour from investors, customers, and regulators – while safeguarding the environment and supporting communities. The main difference between ESG and sustainability is the stakeholders each address. ESG is a concept used by investors, giving them a framework to assess a company’s performance and risk. As an investment framework, standards have been set by lawmakers, investors, and ESG reporting organisations.
“Sustainability, on the other hand, has a broader stakeholder focus, accounting for employees, customers, and shareholders. In contrast to ESG, sustainability standards incorporate scientific input. ESG seeks the identification and ranking of undertakings that show desirable characteristics, which are broader than what’s considered in sustainability – these characteristics extend to directors’ pay, diversity of stakeholders, treatment of workers, community engagement, and health and safety issues (plus more). The distinction between ESG and sustainability is subtle but important.”
From the submission of Courtnell, it is obvious that the reporting style of ESG and sustainability are not the same. It is pertinent to note that an ESG report aims at exposing a company’s risk profile to investors. It is mandatory for a company to provide a copy of its governance and code of ethics in the annual report. New regulations are underway to simplify environmental data because it is tricky. But the data is desirable for ESG.
Every quoted company has an obligation to improve on its ESG. It has become a major benchmark for investors in analysing a company’s risk profile. ESG has significant implications on investor confidence in a company. Nigerian Exchange Group Plc (NGX), publishes an annual sustainability report. The 42-page Sustainability Report in 2022 chronicles its key activities and that of the three subsidiaries in the areas of sustainability from January to December, 2021.
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