The problem with ESG scores

Earlier this month Bloomberg wrote a great piece entitled “How wall Street is Gaming ESG scores’’.  The summary of the article was basically that there are vast inconsistencies between fund managers’ stated climate objectives and the reality of their investments. When one digs into how most of the largest climate funds are constructed one finds very few differences relative to major market benchmarks such as the S&P500. As much as 88% of what guides a climate fund is what you’d find in any other non-green investment portfolio.

This is a very scary insight. On the one had you have an explosion of ESG investing with sustainable bond sales potentially hitting $1trillion in 2021. On the other hand you have large and obvious green washing risks and relatively little of ESG money flows impacting areas like climate change directly.

So how does this macro-economic picture of ESG investing affect early stage investing? From the outset of setting up OnePlanetCapital we knew we had to put ESG at the core of the funds’ offer. It was the way the market was moving and it was what the IFA market wanted to talk about. However, it was also very clear that ESG had limitations when being applied to the early-stage market. At OnePlanetCapital, for example, we are very focused on climate change and environmental impact – our investments have to perform well on the environmental aspects of ESG. However early-stage business may often not be developed enough on social policy or governance issues. This is likely to be work in progress and something that the fund will mentor the business on moving forward.

Our preference at OnePlanetCapital in terms of matching climate change goals with our investments has always been to use the United Nations Sustainable Development Goals. These provide a much more objective structure for the fund to map environmental impact and social impact and is a much more useful way of looking at an early-stage company’s impact. For example, a start-up renewable energy business that may not have high ESG scores due to its maturity will impact climate action (UN SDG 13), responsible consumption (UN SDG 12), affordable energy (UNSGD 7) and likely sustainable cities (UN SDG 11). In other words, its impact will be potentially be very strong if it scales. 

ESG reporting has its place and in early stage investing it is still an important framework as you want your portfolio companies to have as much access to capital as possible and a good ESG framework will facilitate this. However when looking at impact in terms of what matters the UN SDG framework provides a much better start point in the here and now.

If you would like more information on the fund please get in touch. declan@oneplanet.capital