What is the future of ESG (Environmental, Social and Governance)? The global craze of companies, countries, investors and regulators wanting to achieve sustainability goals based on environmental, social and governance benchmarks is now facing strong headwinds. Despite clear evidence that the world faces growing threats from climate change, rising social inequality and shaky governance, many of the actors that had been strong advocates for ESG are retreating from their stated aims. Consider these recent developments:

First, The US has (once again) withdrawn from the Paris Agreement, leading other major countries such as Indonesia to doubt the credibility of the climate targets set in Paris. Then there is growing pushback from major companies in the EU around the EU ESG Taxonomy, saying it makes them globally uncompetitive and raises their cost of capital.

More and more companies are scaling back or abandoning their ESG targets as they realise it is either too unrealistic, too expensive or politically unwise to stay the course. ESG funds, long the darling of investors, have underperformed in investment returns compared to non-ESG funds in recent years and also saw an outflow of funds; Blackrock, the “cheerleader“ for the ESG investing movement, has walked away from a number of its ESG ambitions. DEI programs in rich, mainly Western countries are coming under fire and many such initiatives are being phased out.

So, is the ESG movement over? Not really. ESG will continue to evolve in new ways despite these headwinds. In fact, in some ways these current developments could help usher in a newer, better form of ESG: call it ESG 2.0. What would ESG 2.0 look like? Here are some likely scenarios:

First, companies will continue to make investments in ESG but will measure tangible financial returns before they make these investments; these returns will include calculating the reduction in cost of funding (especially in developing countries), monetising decarbonisation efforts through carbon credits, achieving lasting operating cost reductions, and so on.

Next, regulators will shift the emphasis away from “compliance” based ESG, ie submitting reports, to “enforcement“ based ESG where bad actors will face sanctions in the form of higher taxes, fines or loss of licenses. All investors, regardless of whether they have an explicit ESG focus, will integrate ESG considerations into their investment decisions but will do so by factoring in climate, social and other externalities that directly impact the value of their investment. Then you have new stakeholder alliances involving NGOs, the media, the legal profession, and ordinary citizens will harness the power of AI and the information revolution to mount more targeted campaigns against companies that are bad actors.

In many ways, all these scenarios are already playing out. Climate lawsuits led by stakeholders against fossil fuel companies are happening with more frequency than ever in various courtrooms around the world. More and more governments are implementing carbon and other natural resource taxes. More and more “green transition“ funds are available to governments and companies for developing countries under the COP framework that are committed to meeting these goals. Investors are nervous about “climate-related bankruptcies” like Pacific Gas & Electric and are actively investing in tools to quantify such risks.

Welcome to the new world of ESG, against a daunting backdrop of a burning world! Let’s hope it succeeds this time!

About the Author

Ravi Chidambaram is the founder & CEO of RIMM Sustainability, a Singapore-based global provider of ESG software solutions for enterprises. He has many years of experience as an entrepreneur, lecturer and thought leader in both the corporate finance and sustainability field as founder of TC Capital, Adjunct Professor at Yale NUS College and RIMM. 

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