The Importance of ESG for Banking Institutions

As 2030 is rapidly coming upon us, the adherence to the 17 SDG Goals becomes more important than ever for all institutions, especially banking institutions, commits to the SDG Goals. 2023 was the hottest year on record, and 2024 looks to be even hotter. The climate crisis is already upon us, and to halt and reverse this trend, banks need to work even harder to ensure that they can do their part to mitigate this impending crisis. This can be done through ESG Reporting, not only for their institution, but through investing and funded projects as well.

Banks are in a unique position to drive investments and funded projects to be more sustainable and adhere to the SDGs. By doing so, not only do they increase reputation and brand awareness, but position themselves to attract new clientele. One study revealed that 7 in 10 UK banking customers want to see evidence of their bank taking action to reduce their carbon emissions. This is even more significant among younger consumers; research by Bank of America revealed that 56% of Gen Z banking consumers would switch banks to one more committed to social and governance (ESG) issues. Clearly, ESG reporting allows banks to improve their business reputation and customer relationships. 

Investors are also increasingly demanding transparency. By reporting on ESG performance improvements, banks signal to investors that they can mitigate risks and generate sustainable long-term financial returns. 

Furthermore, ESG reporting uncovers hidden risks and opportunities to reduce carbon emissions and increase efficiency, providing a framework for, as well as equipping banks with the tools to confront the complexities of scope 3 emissions.

What is ESG?

ESG stands for Environmental, Social, and Governance, in its simplest form. A more succinct definition would be Environmental, Social, and Governance reporting for investors.  ESG is the next evolutionary step from CSR reporting, in that it provides strategies that an organization will take to increase their sustainability profile making them more responsible stewards of the planet.

ESG refers to the environmental, social, and governance factors that investors measure when analyzing a company’s sustainability efforts from a holistic view.

Many companies publish ESG reports in alignment with ESG reporting frameworks, standards, regulations, or investor expectations to demonstrate transparency and disclose the environmental, social, and governance factors that contribute to the overall risks and opportunities involved with a company’s operations. The types of data included can vary from greenhouse gas emissions to labor practices, workforce diversity, executive compensation, and more.

The “E” in ESG means the environmental responsibility companies have, including energy use and how they manage their environmental impacts as stewards of the planet. Some examples of environmental issues are:

• Carbon emissions
• Energy consumption
• Climate change effects
• Pollution
• Waste disposal
• Renewable energy
• Resource depletion

The data disclosed in the social responsibility portion of ESG covers a wide range of topics from how companies are fostering people and culture to diversity statistics and community impact. Some examples of social topics are:


• Discrimination
• Diversity
• Human rights
• Community relations


Governance in ESG covers how companies are directed and controlled—and how leaders are held accountable. Increased transparency into corporate governance is quickly becoming an expectation. Some example topics related to governance include:

• Open configuration options
• Executive compensation
• Shareholder rights
• Takeover defense
• Staggered boards
• Independent directors
• Board elections
• Political contributions

New opportunities for the financial services industry

The essential opportunity for financial services firms is in catalyzing and accelerating the transition to a new economy, one based on ecosystems that satisfy fundamental human needs and wants while also tackling urgent societal challenges that demand new solutions.

Traditional economic structures are giving way to a consumer-led economy where capabilities are organized around core human needs and wants. Unlike the traditional industry value chain, where the customer sits at the end of a line of B2B relationships, these new arrangements place customers in the center. The overlapping value webs surrounding them will deliver on human needs more directly and powerfully than ever before.

Societal challenges consistently change and create new threats. These issues also offer tremendous opportunities for the financial services industry to play an impactful (and profitable) role.

Navigating potential future shocks

The road ahead will not be a smooth one, and the financial services industry will need to prepare for inevitable shocks that arise over the next 10 years. Some of the most credible and impactful challenges include climate adaptation, additive manufacturing, the changing role of work, and reducing inequality. These shocks aren’t mutually exclusive, however; many of them may emerge over the coming decade, and the materialization of one may spur the development of others. This makes it even more urgent for industry leaders to prepare for all of them.

Taken together, these opportunities and shocks present a daunting list. From an ESG perspective, none of them should be considered in isolation from each other. Instead of thinking of managing ESG in vertical silos (E, S, or G), leaders should shift to a multidimensional view to examine the risks and opportunities present in all three areas and across the broader jobs to be done.

Ways that ESG Reporting benefits banks.

Reduce costs

A McKinsey report found that cutting carbon emissions and reducing waste helps lowers operating expenses and can affect operating profits by 60%. The research also shows a significant correlation between resource efficiency and financial performance. So while committing to ESG might seem like a substantial investment with no financial return, banks that score higher on ESG show higher ROI.

Improve value proposition

Tackling ESG challenges will require your bank to innovate. Whether through climate credit cards or carbon tracking, businesses can create value by differentiating existing products or creating new green products/services.

Enhance brand reputation

Customers increasingly value banks that take steps to reduce their environmental impact. Research shows that64% of consumers would choose, switch, avoid or boycott unethical brands. So, ESG reporting can communicate to conscious consumers your company’s dedication to environmental and social issues, boosting brand reputation. 

Attract and retain employees

Young workers are driven to find jobs that align with their values. In fact, research shows that 76% of Millennials consider a company’s social and environmental impact before accepting a job offer. Therefore, a strong ESG proposition can help companies attract and retain quality employees and increase motivation by instilling a sense of shared purpose.

Gain investment

Investors are looking for ways to generate returns from socially and environmentally responsible companies, so disclosing data about your company’s impact is a sure way to attract interest from investors. Companies that don’t disclose this data can be seen as high risk.

Access to capital

Increasingly, individual and institutional investors actively search for companies that adhere to ESG factors and avoid those that don’t. As a result, financial firms that incorporate ESG considerations into their operations have more access to capital.

Competitive advantage

The finance industry is a competitive one. Operational alignment with ESG factors is a key differentiator, allowing financial institutions and financial services companies to set themselves apart from competitors and become leaders in the growing field of sustainable finance.

Innovation

Banks that prioritize ESG are more likely to drive innovation and develop new products and services that address environmental and social challenges. By supporting the transition to a low-carbon economy and promoting social inclusion, banks can help to create a more sustainable and equitable future. For example, a bank that issues green bonds or sustainable investment products can help to finance renewable energy projects or other environmentally beneficial initiatives, potentially at better rates. Similarly, a bank that offers financial services to underserved communities can help to promote financial inclusion and social equality.

Green bond issuance

Green bond issuance offers several benefits for banks, such as accessing a growing pool of socially responsible investors, improving their reputation as sustainable financial institutions, and supporting the transition to a low-carbon economy. The growth of the green bond market has been impressive, with a record-high issuance of $269.5 billion in 2021, up 4.6% from 2020. The cumulative issuance from 2007 to 2021 surpassed $1.5 trillion, with the US, China, and France being the largest issuers. The increase in green bond issuance is driven by investor demand and regulatory measures promoting sustainable finance.

Some Factors to consider for banks

Strategy

• How does the Bank compare to peers?
• How is the Bank going to meet its public net zero commitments?
• Are the products offered ready from an ESG perspective?
• Is the ESG incorporated in the target operating model?
• How is a Bank engaging with its clients and their transition strategies?

Operational effectiveness

• Is the Bank aware of ESG matters across its organization, including processes, systems and controls?
• Does the functional decision-making take ESG matters into account?
• Is ESG considered while developing products and services?
• Are ESG risks and opportunities integrated in procedures and policies?
• Is the Bank taking advantage of the opportunities that IDE policies can bring?

Regulatory compliance and reporting

• Is the company ready to cope with existing and upcoming regulatory requirements?
• What are the gaps that can already be identified?
• Is the company measuring, reporting and disclosing non-financial ESG information that is critical to understanding both strategic intent, risks and opportunities?
• Who in the Bank is responsible for ESG at functional and
  Board levels?

How can banks pursue ESG?

With sustainable finance gaining momentum around the world, banks are developing strategies to embed ESG factors into their lending and investment decisions.

• Negative Screening – Excludes or avoids transactions not aligned with environmental, social, and ethical standards. Currently the most popular technique used for ESG asset management. Negative screening criteria often include issues like weapon manufacturing, tobacco sales, or production of fossil fuels.
• Positive Screening – Selects corporate borrowers that score highly on ESG factors relative to their peers. Positive screening criteria may include best-in-class screening, companies, and sectors with higher ESG scores compared to their peers.
• Risk of Investment – incorporate ESG issues in financing decisions to better manage risks and improve returns.
• Thematic Investing – Prioritizes companies or projects aimed at positive social or environmental change, e.g., climate change, gender equality, prioritizing low carbon initiatives.
• Active ESG Engagement – to engage with clients on reducing their carbon emissions and to develop innovative solutions to support clients’ efforts to reduce emissions.
• Sustainable Finance Frameworks – frameworks that outline banks’ ESG lending and investment practices and processes, and often align with well-established international standards.

Conclusion

Banks have a unique opportunity to accelerate climate action and lead the necessary change to meet our global climate goals. This type of leadership starts with transparency.

Banks that want to lead the way, need to get ahead and disclose their carbon emissions. The financial institutions that succeed in doing so, will reap the rewards. 

How PSCG can help

PSCG professionals can support banks facing those ESG challenges. From assessment through to assurance, they are skilled at implementing complex, multidisciplinary programs of work.

PSCG can help banks with:

• ESG maturity assessments and benchmarking/strategy.
• ESG governance and target operating model transition frameworks.
• Decarbonization strategies, climate risk stress testing and including scope 3 emission capture and reporting.
• Tooling and customization of ESG data collection and reporting.
• Risk management; integration of ESG risks, i.e. full consideration of the ESG risk drivers and impact relationships with known risk types (taxonomy/risk inventory/risk strategy), integration into the existing risk and model landscape, selection of risk assessment tools, involvement in reporting and forecasting processes— consideration of ESG factors in business and capital planning (via scenario or sensitivity analysis).
• ESG assurance services.

Pearce Sustainability Consulting firm (PSCG) was named the Best Sustainability Consulting Firm 2023 – California by Wealth & Finance International. We can help form a strategy for your company to measure and manage your impacts to align your organization’s SDG Goals. Schedule a meeting today.