ESG (Environmental, Social, and Governance) has become a pivotal framework for assessing corporate responsibility, sustainability, and investment opportunities. As both businesses and investors adopt ESG principles, understanding the key terminology becomes essential for navigating this growing domain.
Breaking down ESG terminology
1. Carbon footprint
A carbon footprint measures the total greenhouse gas (GHG) emissions associated with a company’s activities, both direct and indirect. It is quantified in terms of carbon dioxide equivalents (CO2e), which allows different gases such as methane (CH₄) and nitrous oxide (N₂O) to be compared based on their global warming potential.
- Direct emissions: Emissions from sources owned or controlled by the company (e.g., fuel combustion in company vehicles or facilities).
- Indirect emissions: Emissions from purchased electricity, steam, heating, and cooling consumed by the company.
- The term carbon footprint is often extended to include the entire lifecycle of a product, considering emissions from production, use, and disposal.
Reducing the carbon footprint is central to Environmental responsibility in ESG, and it’s typically tracked using GHG protocols, particularly the Greenhouse Gas Protocol.
2. Scope 1, scope 2, and scope 3 emissions
The Greenhouse Gas (GHG) Protocol categorises emissions into three distinct scopes to help organisations measure, manage, and report their carbon footprint.
- Scope 1: Direct GHG emissions from owned or controlled sources. For example, emissions from the company’s facilities, vehicles, or manufacturing processes. These are emissions that a company has direct control over.
- Scope 2: Indirect emissions from the generation of purchased electricity, steam, heating, and cooling consumed by the reporting company. Although these emissions occur at power plants, they are indirectly linked to a company’s activities through its energy consumption.
- Scope 3: Indirect emissions that occur across the value chain, including both upstream and downstream emissions. These can include emissions from business travel, product transportation, waste disposal, and even the emissions generated by customers using the company’s products. Scope 3 typically represents the largest portion of a company’s carbon footprint and is often the most challenging to track and reduce.
Scope 1, 2, and 3 emissions are critical for comprehensive ESG reporting, as they provide a full view of a company’s environmental impact and its efforts to reduce carbon emissions across its operations and supply chain.
3. Triple Bottom Line (TBL)
The Triple Bottom Line (TBL) is a sustainability framework that evaluates a company’s commitment to three critical pillars: People, Planet, and Profit.
- People: This refers to the Social aspect of ESG, focusing on the company’s impact on human welfare, including labour practices, diversity, equity, inclusion, and community development.
- Planet: The Environmental component of ESG, assessing how a company manages its natural resources, reduces emissions, and addresses climate change.
- Profit: The Governance aspect of ESG, examining a company’s financial performance and its commitment to sustainable economic growth. This pillar emphasises long-term value creation rather than short-term financial gains.
The TBL approach advocates that organisations should be accountable not only for financial outcomes but also for their social and environmental impacts, aligning corporate goals with broader societal values.
4. Greenwashing
Greenwashing is a term that describes deceptive practices where a company falsely claims to be environmentally friendly or sustainable in order to attract consumers or investors. This may involve superficial or misleading marketing, such as using eco-friendly logos without supporting evidence or making vague, unverified claims about environmental impact.
The rise of greenwashing has made the need for rigorous ESG disclosures and standards even more critical. Investors are increasingly relying on third-party auditors and rating agencies to ensure that companies are genuinely implementing sustainable practices rather than merely capitalising on the “green” trend.
5. Net Zero
Net zero refers to the balance between the amount of greenhouse gases emitted and the amount removed from the atmosphere. Achieving net zero means that any carbon emissions produced by a company must be offset through activities like carbon sequestration, reforestation, or the adoption of carbon-neutral technologies.
The transition to net zero is central to global climate commitments, with many countries and organisations pledging to reach net zero by 2050. Companies are increasingly setting their own net zero targets, often aligned with the Science-Based Targets Initiative (SBTi) to ensure their efforts are scientifically credible and in line with international climate agreements like the Paris Agreement.
6. ESG disclosure and reporting standards
ESG disclosure refers to the practice of publicly reporting on a company’s ESG practices, policies, and performance. Various standards and frameworks help companies structure their disclosures and ensure consistency and comparability across industries.
- Global Reporting Initiative (GRI): One of the most widely used frameworks for sustainability reporting, offering detailed guidance on reporting across all three ESG pillars.
- Sustainability Accounting Standards Board (SASB): Focuses on the financial materiality of ESG factors, providing sector-specific standards for disclosing ESG information that could influence financial performance.
- Task Force on Climate-related Financial Disclosures (TCFD): Provides recommendations for companies on how to disclose climate-related financial risks, focusing on governance, strategy, risk management, and metrics related to climate change.
- Integrated Reporting (IR): A framework that encourages companies to report on both financial and non-financial performance, highlighting how value is created over time through ESG factors.
7. Social Impact Metrics
Social impact metrics are used to assess a company’s effectiveness in addressing societal challenges and creating positive outcomes. These metrics are crucial for evaluating the Social pillar of ESG and can include:
- Labour practices: Metrics related to workforce health, safety, fair wages, and employee rights.
- Diversity, Equity, and Inclusion (DEI): Statistics that measure the diversity of a company’s workforce and leadership, as well as the fairness of opportunities within the company.
- Community engagement: Quantitative and qualitative data on the company’s contributions to local communities, charitable giving, and volunteer efforts.
- Product safety and quality: Metrics that assess the safety and ethical sourcing of products and services provided to consumers.
These metrics help stakeholders understand the company’s social responsibility and its impact on both internal and external stakeholders.
Navigating the ESG landscape
The technical terminology surrounding ESG offers a deeper understanding of how sustainability, ethics, and governance intertwine to influence corporate and investment decisions. Whether through Scope 1, 2, and 3 emissions, Net Zero goals, or advanced ESG reporting standards, the landscape is evolving rapidly. As businesses and investors continue to embrace ESG principles, a comprehensive understanding of these terms and standards is essential for making informed decisions that drive both long-term value and positive societal impact.