It should always be a good thing if companies say they are implementing ESG practices and principles. Right? Let’s face it, though: this is the real world and in the real world, theory and reality do not always converge.
With the increasing emphasis on ESG and the need to pursue sustainable business practices, enterprises are encouraged to apprise stakeholders (including employees, consumers, and communities) of the good that their business activities are achieving. Owing to the beneficial impacts which active disclosure strategy may hold for a business’ growth prospects, companies may intentionally or negligently oversell their contribution to sustainable development.
On the face of it, companies may claim to be doing the proverbial “right thing.” The Corporate Finance Institute defines greenwashing as “when the management team within an organization (deliberately or negligently) makes false, unsubstantiated, or outright misleading statements or claims about the sustainability of a product or a service, or even about business operations more broadly”. As the word implies, greenwashing was initially only about false environmental claims.
Misrepresentation in the context of ESG criteria has since evolved. Today, there are several forms of “purpose washing”, including greenwashing. Intentional or negligent misstatements may also manifest as socialwashing (where businesses make inaccurate statements in respect of their employees, consumers or the impact on society) and governance-related statements (including comments in respect of matters such as KPIs or executive pay).
A good example of “washing” in South Africa is what Garyn Rapson, partner at Webber Wentzel refers to as “Mandela Day washing” where companies seek to market themselves and profit off the Mandela day initiative rather than really doing good and making an impact. We will hear more from him on 25 October 2022 when he speaks on the ESG and legal disputes panel at the ESG Africa Conference.
In addition to the obvious reasons companies may seek to intentionally misrepresent their ESG credentials, there are several reasons companies may negligently make statements which could amount to different forms of “purpose washing”.
Ernst Muller, Senior Associate at Herbert Smith Freehills, who will also be speaking at the ESG Africa Conference reports that “at this juncture there is no universal reporting and disclosure template which companies could follow when they report on their performance. Following the establishment of the International Sustainability Standards Board in November 2021 and the publication of general sustainability-related disclosure requirements and the other specifies climate-related disclosure requirements in March 2022, it is hoped that such a standard will be published in the near future”.
ESG ratings agencies likewise do not follow a uniform approach and the outcomes of the ratings processes are therefore seldom predictable. In many cases, ratings focus on ESG risk to the enterprise as opposed to the positive ESG impacts. Businesses which perform well, are those which are better placed to manage ESG risk. It is also worth mentioning that ESG ratings methodologies and agencies are not subject to regulatory requirements or integrity checks on those providing the ratings. Blind reliance on these ratings and claims could therefore be dangerous for investors and consumers. Similarly, unverified, false and/or misleading ESG statements result in a significant risk of major legal disputes and reputational damage for those who make them.
Pending the development of unified global reporting and rating framework, various steps are being taken to put a stop to greenwashing, particularly in the investor context. For example, the Securities and Exchange Commission (SEC) in the United States has established an ESG enforcement task force which investigates disclosures in the context of ESG funds. As Ernst Muller points out ‘in the European Union, businesses that wish to report on environmental matters must follow the requirements imposed under the Sustainable Finance Disclosure Regulation, Non-Financial Reporting Directive, the Taxonomy Regulation, and in due course Corporate Sustainability Reporting Directive. The United Kingdom’s CMA Code says that “businesses should be clear about what they are doing and how they are doing it”‘.
The growth of ESG disclosure has resulted in increased risk of exposure to lawsuits challenging the basis of disclosures or their ambition. Such lawsuits look set to become more frequent in the coming years. In these lawsuits, causes of action founding the claim for liability range from among other things delict, securities fraud, human rights violations, governments failing to adhere to their national and international legal obligations, governmental investigations of corporate conduct, and claims around disclosures relating to ESG topics. As Garyn Rapson points out, there are already multiple legal routes available on the African continent to take action against “green-washers”. The significant consequences of greenwashing are easily illustrated if regard if had to recent allegations of greenwashing by Deutsche Bank which resulted in Asoka Woehrmann, the chief executive, stepping down or the hundreds of millions of dollars of fines and penalties which Volkswagen has paid followed in Dieselgate (one of the first reported instances of greenwashing).
Absent proper regulation and a globally harmonised measurement and reporting tools, greenwashing may well end up compromising the real purpose behind ESG. Don’t let greenwashing ruin what has the potential to help the world achieve the sustainable development goals. The devil is in the detail: look at both what companies are doing but also, at what they are not doing. Until there is effective regulation in this space, focus on those companies who are truly transparent (including those who are honest enough to own up to their mistakes) and those whose focus is on their impact, not only ticking that box. And if you’re the one making the statements, be meticulous and, most of all, be honest!