Developing policies and frameworks to mitigate greenwashing risks

Dinah Koehler, Director of ESG Research, FactSet

The views and opinions expressed in this article are those of the thought leader as an individual, and are not attributed to CeFPro or any particular organization.

How can financial institutions manage data requirements and limitations to mitigate greenwashing risks?

This is impossible given that corporate ESG disclosure is still primarily voluntary. European regulations are already on the books and will change the entire ESG disclosure process and related assurance procedures. In the short term, financial institutions should tell their audiences which data is, in fact, third-party verified (and by whom), and which is not. Non-verified data is highly likely to be greenwashed to some degree. At a minimum, flagging data points that a company voluntarily discloses can bring much needed transparency where mandated standards are lacking.

How can financial institutions look to understand requirements despite little guidance?

They can hire good lawyers and find experts who are familiar with regulatory regimes that govern both ESG and the risk assessment processes used to quantify the problem. Underpinning every ESG data requirement is an engineering equation (for environmental issues), a health impact (for health, safety, and chemical risk issues), or a scientific model (for climate change, biodiversity, and water risks). Without this knowledge, a financial institution is faced with too many unknowns to be able to credibly respond to emerging requirements.

Why is it important to review greenwashing beyond climate change?

Let’s first define “greenwashing.” A comprehensive definition provided by Lyon and Maxwell in 2011 is still relevant today: Greenwashing is “selective disclosure of positive information about a company’s environmental or social performance, without full disclosure of negative information on these dimensions, so as to create an overly positive corporate image.”

In other words, it applies to all levels of ESG miscommunication or “curated” disclosure on products (i.e., being organic, natural) as well as companies (i.e., establishing a net-zero goal and commitment to diversity, equity, and inclusion (DE&I). While climate change-related commitments are crucial to the transition to a clean economy, getting there requires a swathe of corporate actions, including water conservation, equity, clean air, and biodiversity. Earth systems require a systematic approach. Omitting greenwashing plans and performance on any dimension can affect planetary health.

In what ways can financial institutions effectively communicate commitments to consumers?

One way is to pair communication with performance data (i.e., show that you are walking the talk). Also, provide a clear explanation as to why a particular commitment is key to the business, an investment strategy, and/or the product’s impacts on the environment and society. Without clearly establishing the relevance of a particular commitment, the company already risks eroding credibility. Without clear performance-related data to show progress, the company can lessen trust. Finally, performance should be measured in standardized, verifiable metrics. Using bespoke, hard-to-interpret data only further undermines the company’s credibility. If a third-party auditor finds the company misleading in its communications, the company may end up in a compromised situation.

Increasing the regulatory scrutiny of sustainability claims requires verifiable data. We are seeing the actions of financial regulators across a range of jurisdictions, including the U.S. SEC, the most stringent financial regulator on the planet.

Why is it crucial to financial institutions that greenwashing is avoided?

Greenwashing can erode brand reputation and undermine the attraction of net new money and, given increased regulatory scrutiny, can increase regulatory risks. Financial institutions are being held accountable for reporting on their own ESG performance in addition to that of their investments. This is a steep mountain to climb. It can sometimes feel like regulators have put the cart before the horse by requiring investors to report true performance before fully requiring the same of the entities they invest in. To put this more succinctly, ESG-related disclosure requirements that are mandated at the country/state level need to be aggregated globally to offer comprehensive “investment-grade” ESG data at the corporate parent level. Global investors require data at a global level.