“Current ESG evaluation methodologies are fundamentally flawed. To achieve acutely-needed change, ESG needs to evolve to measure real world Impact.”
This is the opening statement of Tesla’s 2022 Impact Report, and in true Elon-Musk-fashion, it comes out swinging.
It attacks ESG assessments that focus on a narrow band of quantifiable metrics, which measure only the risks to a portfolio.
Instead, the report argues, we should be measuring a company’s positive impact on the world.
“Many ESG ratings evaluate: “Does this ESG issue impact the profitability of the company?” We need a system that evaluates: “Does the growth of this company have a positive impact on the world?”” says the report.
Long-time readers of OnImpact will be aware of the spectrum of approaches that exist in the world of sustainable investing. ESG has always been the baseline approach, a starting point for investors to begin integrating sustainability factors beyond the traditional financial inputs.
Impact investing on the other hand, is the gold standard. It sits at the other end of the spectrum; requiring a more thorough set of metrics, both quantitative and qualitative, and it looks beyond just portfolio risk, to explore the impact the company and its products are having on the world.
As a specialist communicator in this space, I was struck by this report, and its profound first page. It offered a rare combination of clarity and nuance (something Elon’s Tweets lack), breaking down a major problem facing financial markets, and offering some semblance of a solution.
Of course brevity doesn’t happen by accident, and there were many cooks in the kitchen for this one, including Tariq Fancy, made famous as the Blackrock-whistleblower who wrote a well publicized (but frustratingly-flawed) take-down of the fund-manager’s sustainability credentials.
And looking deeper, it seems the research went deep, with key insights taken from a 2021 article published in Bloomberg.
Yes, it doesn’t explain both sides, and it’s clearly bias to the Tesla viewpoint, but it’s powerful because it steps beyond the orthodoxy of ESG, and pushes for listed markets to do better.
Key to this is calling-out the scope 3 emissions of automakers producing petrol-powered cars. The report suggest 80 to 90% of a car’s lifetime emissions come from its fuel use, and that ESG scores rarely capture this.
“On the product front, companies should be required to use real-world data wherever remotely feasible and make it clear when estimates are provided instead of real-world figures. An example of this is vehicle “use-phase” emissions, accounting for the vast majority of lifecycle emissions. Automakers’ estimates on lifetime vehicle mileage and lifetime fuel consumption vary dramatically and almost never reflect real-world data. Automakers often have access to this data, but they don’t disclose it.” The report says.
“In the past decade, our solar panels produced more than enough clean energy to power every Tesla factory and every vehicle during that time.”
As Claudia Kwan from Inspire Australian Equities explains, ESG is a blunt instrument, and it needs sharpening.
“So often ESG is measuring the delta of a company’s impact, that is, terrible to less terrible, or bad to good, but we argue that is not good enough. An example I’ve grappled with is looking at a a sustainable packaging company and asking, if it grows as a result of an increase in e-commerce transactions, even if the company has a fully biodegradable packaging solution, does the growth of this company have a positive impact on the world? The answer is, it depends.
The challenge here, as always, is data. As the world produces more data than ever before, it becomes harder to discern which data-points are reliable, and, it’s likely the most interesting data is hidden behind ‘commercial-in-confidence’ corporate walls.
Two centuries of accounting practice have led to financial reporting being a carefully curated science. Accuracy and completeness is audited, and mistakes or omissions are punished.
However, sustainability reporting is still far behind.
There is hope in the new EU disclosure standards, as well as the development of the ISSB, but today it’s still largely left to the discretion of companies to report honestly, and of investment managers to do some digging.
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