5.8 Challenges in the sustainability ratings’ industry

There are a number of pressing questions derived from the growing ESG disclosure and ratings momentum. One of these questions is what is the role of raters to improve the companies’ ESG disclosure? In particular, how can sustainability indices and sustainability rating agencies contribute to advancing this agenda? How can companies, investors, Governments and market regulators be involved? And finally, how can raters promote sustainability reporting and the development of an international sustainability reporting policy (also, should we seek such a policy)?

There is no globally accepted set of rating principles, as there is no global accepted set of sustainability reporting principles. Learning from the ratings practice, there are, however a number of commonly identified points for improvement. These were identified by research providers as SustainAbility and organizations as the PRI, GISR and the SSE Initiative.

First , One Size Does Not Fit All. As reported by SustainAbility (Rate the Raters Phase One) it is difficult and not very useful to compare companies from different sectors and geographies on the same set of criteria. Ranking organizations in different industries, geographies and sizes against a common set of criteria is a challenge and would likely not lead to meaningful results, as these organizations will likely face a different set of key issues. Flexibility of the standards may accommodate some of the most relevant particularities of different industries. In response to this challenge more ratings are currently emerging, addressing specific issues, on specific geographies, sectors and industries (e.g. FT Sustainable Banking Awards and the Asian Sustainability Rating).2

Second, there is a multiplicity of ESG ratings and ESG research providers.3 SustainAbility found approximately 100 sustainability raters administering questionnaires to companies worldwide. Investors are challenged to select the ratings most suitable to their investment needs. This has triggered the development of tools and information requests by investors to respond accurately to their data needs. Investors also add to the reporting burden of companies.

Third, the multiplicity of ESG ratings and research providers results in the spamming of questionnaires and other requests for information from companies. Companies struggle with replying to all requests of the raters and research providers, even when the information requested is not material to their businesses and when it does not contribute to improving their business model and practices. They do it to avoid a low score and consequently a bad reputation result. Similarly to companies, investors also struggle to understand the ratings, as the same company may be scored a sustainability leader by one rater and a laggard by other.4 Information duplication is a burden not only to companies but also to investors, as it limits the access to relevant and material information.5

Fourth, incomplete information may increase the risk of publishing inaccurate information. Transparency is also part of the key ingredients for a robust and trusted rating. Credit ratings often use only public available information. Maybe it would make sense to use a questionnaire e.g. DJSI. Companies refer that through engagement raters could get to know the business better and understand which issues are material to the company. On the other side, sometimes raters try to engage with the companies but for lack of time (given the high number of raters requests) or even interest the raters do not receive a reply from the companies and release the information as they have it (SustainAbility, Rate the Raters Phase Two, pp. 12). This could be overcome with the public disclosure of the sources of the information gathered by the raters (SustainAbility, Rate the Raters Phase Three, pp. 20). In SustainAbility’s survey (Rate the Raters Phase Two pp. 14) 92% of the respondents ranked objectivity/ credibility of data sources as the most relevant for determining the credibility of a rating, followed by the rater’s disclosure of its methodology (88%).6 Approximately a quarter of the ratings disclose no information publicly on their methodologies or approaches and a majority make only partial disclosures (SustainAbility, Rate the Raters Phase Two, pp. 10), others release this information only to the companies they rate.7 This is because the raters too value their business methodologies as key to their competitive position. They have to balance their interest in keeping a competitive position in the ratings’ market while being able to publish accurate and reliable data if they want to be seen as a credible and trusted rater.

In order to save time to companies when responding to many raters’ questionnaires and enquires, raters send draft reports to the companies so they only need to revise and complete. Another method is cross checking of information between raters (e.g. GS SUSTAIN uses Bloomberg information to spot check some of its data), (SustainAbility, Rate the Raters Phase Three, pp. 19).8

To overcome the challenge of publishing accurate and truthful data, raters look for external verification or assurance of their research process (e.g. DJSI, EIRIS, Oekom, Vigeo) (SustainAbility, Rate the Raters Phase Three, pp. 29).9

Fifth, the raters must manage their conflicts of interest. SustainAbility defines conflict management as how well a rater avoids and manages potential conflicts of interest in the ratings process.10