Environmental, Social and Governance (or ESG) frameworks are intended to provide standards and guidance for how companies should integrate the risks and opportunities arising from ESG factors into their operations at all levels.
Despite its prominence in impact investing, there is no single globally or locally acknowledged set of ESG standards. ESG investing takes on different forms and strategies, and isn’t directly linked to the UN’s SDGs, though certain ESG frameworks and standards intersect with the SDGs significantly. Globally, the influence of ESG broadly defined has been growing, shaping the landscape of investing not only in developed economies, but also emerging markets.
The pressure from asset owners (e.g., pension funds, institutional investors) who’ve committed to ESG frameworks like the UN Principles for Responsible Investment, and the increase of regulatory requirements have given rise to a clear movement towards increased adoption of ESG frameworks.
But for organisations in the Global South, can implementing these frameworks be a risk or opportunity?
With the sponsorship of FMO and the Swiss Capacity Building Facility (SCBF), Shining Rock Ventures launched an inquiry into this question. The aim was to explore this in a well-defined subset of companies, specifically financial institutions operating in the Global South or emerging markets – right in the heart of where organisations like FMO and SCBF finance development initiatives that have a big impact.
Developing countries are disproportionately affected but are also part of the solution
Despite the world’s richest 10% producing over half of global carbon emissions, it is the poorest 50% of the world’s population (estimated at over 3.1 billion people) that are placed at greatest physical risk by the climate crisis, including the potential not only to lose all of their often limited assets and livelihoods, but also their lives.
Most international ESG frameworks have been developed from a Northern-facing perspective, reflecting the priorities experienced there – in particular, a deepening focus on mitigation as a priority in the ‘E’ standards, at the possible risk of insufficient attention to adaptation and resilience considerations. There are concerns that as nations respond to the climate crisis, ESG frameworks do not fully grasp the realities and complexities of the Global South, leading to their potentially unintended exclusion from investment opportunities (such as emerging technology innovation for climate resilience, or broader and deeper access to vulnerable communities). This could, for instance, lead to these investment opportunities being classified as “high risk” or “out of compliance.”
As part of this inquiry, Shining Rock Ventures interviewed leaders from 32 financial institutions (FIs) from across the Global South, ranging from banks to fintechs to microfinance institutions, as well as non-bank FIs. The interviewees represented a diverse range of institutions, from smaller FIs with under 50,000 clients to those with over a million. These interviewees their insights through technical surveys, webinar interactions, and one-on-one interviews.
- There is a general consensus that ESG standards and frameworks are increasingly important, despite being primarily driven by international investors. It’s worth noting that there is still a lack of consistency even amongst investors (i.e., impact-focused) with similar priorities);
- Larger, especially listed, commercial banks have stronger capacity to fulfil the ESG compliance requirements than smaller entities. They still demonstrate some gaps in understanding and the readiness needed to manage risk and compliance, as well as identify portfolio opportunity, across the broader emerging ESG space (especially within the ‘S-related’ or Sustainable Development Goals-oriented universe of standards);
- Respondents indicated a wide range of views on whether the frameworks constitute more a risk or more an opportunity, with the median answer close to the middle i.e., they consider them to be a risk and an opportunity;
- There is a consistent gap between levels of self-assessed ESG knowledge, and actual knowledge, based on the brief subject-matter questionnaire;
- Nearly all respondents are interested in further learning and capacity strengthening around ESG.
Even though the study focused on ESG risk and opportunity, institutions differed in their perspectives on which was dominant. For example, larger commercial banks were significantly more focused on the compliance risk aspects of ESG, and also more likely to be proactively investing in their internal preparations for additional compliance standards.
Meanwhile, ‘impact-oriented’ regulated banks and microfinance institutions (MFIs) reflected a much greater awareness of and emphasis on reporting related to Sustainable Development Goals (SDGs) and aligned standards and measures. Across the board of Southern financial institutions, the findings showed that they consistently prefer incremental approaches to the early adoption of emerging frameworks, such as areas of measurement and consideration around climate adaptation and resilience efforts.
One thing is clear – the perceived complexity and lack of coherence and cohesion among emerging standards across the ESG spectrum are barriers to informing financial institution leaders on how best to engage with and advocate for them.
While there is some controversy around ESG investment and management, this trend seems to currently be more prevalent in the Global North than the Global South, participants in the study being generally more positive about the impact of ESG frameworks.
How do Global Southern financial institutions expect ESG management frameworks to affect them soon—as risk or opportunity?
On the one hand, those interviewed found that the frameworks might be:
- costly to implement,
- could change the nature of impact, and
- could be superficial if adopted too rapidly.
However, they could also provide opportunities such as:
- new revenue and markets,
- funding for portfolio development,
- creating incentives for new partnership approaches, and so on.
The report therefore concluded that these FIs see ESG management as a mix of both risk and opportunity, overall.
What are the next steps?
There are initiatives that could increase the likelihood of positive impacts from enhanced awareness of and capacity to engage with the emerging ESG frameworks. This includes knowledge-building, proactive institutional action, and advocacy and policy-level engagement. Doing so through intentional engagement will contribute to shaping international frameworks—as well as their regional and local implementation.