Authors: Carli Schoenleber, Simone Fraid, Mary Reames, Gabe John, Paulynn Cue
February 8, 2023
Establishing even deeper roots in regulatory frameworks and corporate and investor strategy, environmental, social, and governance (ESG) continued to go mainstream in 2022. Major sustainability milestones of last year include the Kunming-Montreal Biodiversity Agreement, the launch of the draft International Financial Reporting Standards (IFRS) Sustainability Disclosure Standards, the United States (U.S.) Securities and Exchange Commission’s (SEC’s) proposal for mandatory climate disclosure rules, and the passing of landmark laws like the U.S. Inflation Reduction Act and European Union (EU) Corporate Sustainability Reporting Directive (CSRD).
Along with greater normalization and formalization, ESG also encountered significant challenges. Last year found ESG at the center of a growing political backlash, while investors pulled unprecedented withdrawals from ESG funds. However, against the backdrop of accelerating climate change and biodiversity loss, these roadblocks are unlikely to halt momentum toward a more sustainable and financially resilient economy. Looking into 2023 and beyond, this article explores key trends Verdani Partners sees driving the evolution of ESG and the sustainable real estate industry.
2022 – 2023 ESG Trends
Pressure builds to deliver on net zero commitments
Preparing for climate change impacts
Biodiversity joins climate to define ESG’s environmental pillar
Ensuring equity in the green transition
Evaluating human rights across the supply chain
Polarized attitudes on ESG
Increasing complexity of ESG disclosure regulations
ESG through the lens of double materiality
Pressure builds to deliver on net zero commitments
Following a dramatic rise in corporate net zero commitments since the 2015 Paris Agreement, stakeholders are now shifting their focus to the integrity of these commitments.[i] According to the Net Zero Tracker, 41% of the world‘s largest 2000 companies have made a net zero commitment, yet more than half of these commitments amount to an announcement alone, and only a handful include detailed plans to achieve stated targets.[ii] As calls from investors to mitigate climate risks intensify, companies will need to demonstrate they can move beyond symbolic (or worse, greenwashed) net zero commitments and toward scientifically robust plans to deliver on emission reductions, as currently, the world is not on track to mitigate severe climate change — instead of a 45% reduction by 2030, the latest NDC Synthesis Report indicates the world is headed for an 11% increase.[iii]
With buildings and construction contributing 37% of global GHG emissions,[iv] bringing real estate companies' net zero commitments to fruition will be especially critical. Though the trend is already underway, in 2023 we will likely see increasing demand to include scope 3 emissions in real estate companies’ net zero commitments and plans. Representing upwards of 90% of a real estate company’s total carbon footprint, real estate scope 3 emissions often stem from leased assets, building materials, and other sources outside of a company’s operational control.[v]
Trending initiatives related to corporate net zero include Climate Action 100+, incorporation of net zero progress into ESG scoring methodologies (e.g., S&P Global CSA, GRESB), stronger alignment with target setting frameworks (e.g., SBTi, NZAM, NZAOA), and continued evolution of global standards and recommendations to guide net zero targets and programs.
Preparing for climate change impacts
After a year of blockbuster weather events (e.g., extreme heat, flooding), concerns around climate resiliency and adaptation were top of mind for asset owners, business operators, and communities worldwide. These concerns were underscored by the Intergovernmental Panel on Climate Change’s report entitled Climate Change 2022: Impacts, Adaptation and Vulnerability, which emphasized the importance of accelerating climate adaptation and resiliency measures to avoid and/or manage the greatest consequences of climate change.[vi]
"....every dollar spent on infrastructure to support climate resilience results in six dollars of savings."
The impacts of climate change are already being felt, with the National Oceanic and Atmospheric Administration reporting that extreme weather events in the U.S. alone totaled $165 billion in economic loss in 2022.[vii] Conversely, United Nations Secretary-General António Guterres has said that every dollar spent on infrastructure to support climate resilience results in six dollars of savings.[viii] Yet, MSCI reports that fewer than 25% of businesses have a climate adaptation plan.[ix] To learn how to build a climate resilience plan for commercial real estate assets, see our article here.
While it is unclear if the U.S. SEC climate risk disclosure rules will be implemented as proposed, the discussion and reporting around risk and resilience is being pushed forward by regulations and frameworks such as the Sustainable Finance Disclosure Regulation (SFDR) in Europe and the Task Force on Climate-related Financial Disclosures (TCFD).[x] TCFD is gaining traction with more than 2,600 signed supporters; however, there are still few organizations reporting on all of the framework’s disclosures.[xi] As momentum continues to build around this topic in 2023, more robust reporting from companies is likely to follow.
Biodiversity joins climate to define ESG’s environmental pillar
Since ESG was coined in 2006, climate change has unquestionably defined the framework’s environmental pillar. Yet, addressing climate change is only half the equation when it comes to safeguarding a healthy environment and economy for future generations. Biodiversity — Earth’s rich variety of species and ecosystems — supports an estimated half of the global economy,[xii] yet historically, it has been exploited and undervalued. Today, around one million species are at risk of extinction due to human activities, and in the past 50 years alone, Earth has experienced a near 70% drop in biodiversity.[xiii]
As dire as biodiversity loss has become, recent events indicate cause for optimism. At the close of 2022, world leaders at COP15 finalized the Kunming-Montreal agreement, a landmark Paris-Agreement–like commitment to protect and restore global biodiversity. Signed by nearly 200 countries, the agreement calls for the protection of 30% of marine, freshwater, and terrestrial ecosystems by 2030, along with 22 other 2030 targets.[xiv] Supported by a growing consensus that biodiversity loss presents serious financial risks,[xv] we are also seeing increasing demand from investors for companies to improve transparency on nature-related risks, opportunities, impacts, and dependencies.[xvi]
A range of frameworks, methodologies, and regulations are emerging to guide companies’ reporting and management of biodiversity data, many of which will be implemented in 2023: Taskforce on Nature-related Financial Disclosures (TNFD), Science Based Targets for Nature, the Nature Risk Profile methodology, the Global Reporting Initiative’s (GRI’s) biodiversity disclosure standards, and biodiversity impact reporting under SFDR. Unknowns remain on the ability of these initiatives to mitigate biodiversity loss, but few would dispute that biodiversity will only grow on the ESG stage for years to come.
Ensuring equity in the green transition
Greater awareness around social justice issues and an increased willingness to allocate funding to climate-related matters has led to a critical focus on creating a “just transition.” Originating from the environmental justice movement, this concept encompasses the idea that in transitioning to sustainable systems, the costs and benefits should be distributed equitably, with particular attention paid to historically marginalized communities and those disproportionately impacted by environmental issues.[xvii] As countries work towards their targets to limit pre-industrial temperature rise to 1.5 degrees Celsius or below, there are calls to engage with and consider the needs of all community members and workers who may be affected, directly or indirectly, by the transition to renewable energy and other sustainable solutions that will reshape the status quo.[xviii]
Both globally and in the U.S., several initiatives are already underway that will help bring the vision of a just transition to life. Notably, an agreement among global leaders was reached at COP27 to create a “loss and damage fund” that will support vulnerable countries that bear the brunt of climate change.[xix] Further, the U.S. Inflation Reduction Act aims to advance environmental justice through grants for community-based projects in the areas most impacted by pollution, among other justice-based provisions.[xx] Biden’s 2022 Justice40 initiative similarly aims to direct 40% of seven federal investment categories (e.g., climate change, clean energy, affordable housing) toward projects in disadvantaged communities.
Evaluating human rights across the supply chain
While human rights is by no means new, the topic has been thrust into mainstream focus in the aftermath of the COVID-19 pandemic. Due to stakeholder demand, there is now more emphasis on human rights in both voluntary and regulatory reporting frameworks. The GRI 2021 Universal Standards now include the topic of human rights, whereas before it was merely a supplemental item. Adherence to the GRI standards will help reporting organizations prepare for new international disclosure requirements involving human rights, such as the EU’s CSRD.[xxi]
"For internal operations, attention to human rights intersects with a company’s larger social engagement, which is paramount to establishing a company culture that retains top talent and maximizes employee productivity."
The topic of human rights involves an organization’s direct business operations as well as indirect activity along its supply chain. For internal operations, attention to human rights intersects with a company’s larger social engagement, which is paramount to establishing a company culture that retains top talent and maximizes employee productivity.[xxii] As transparency across ESG-related themes gain traction, corporations must also consider how human rights are respected across their supply chain. This stems from growing stakeholder demand, evidenced by the 2022 joint statement from over 100 companies, investors, and business organizations insisting that the EU incorporate mandatory human rights and environmental due diligence into the Sustainable Corporate Governance initiative.[xxiii]
Although reporting on human rights has lagged behind other ESG topics, there is strong evidence showing that companies which disclose on human rights topics have an improved understanding of their supply chain and a stronger capacity to manage related issues.[xxiv] With growing interest around the topic, it is likely that more organizations will be evaluating human rights and strengthening human rights due diligence practices so that they can align with investor expectations and promote ethical working conditions across their supply chain.
Polarized attitudes on ESG
The “ESG backlash” or “anti-ESG movement” that is being driven by conservative factions has become a common topic in the mainstream media. Several state governments as well as members of the U.S. Congress are driving actions to reduce the influence of ESG, claiming that ESG is part of a “woke” agenda that its proponents “could never hope to achieve at the ballot box.”[xxv],[xxvi],[xxvii] ESG also faces criticism from investors, corporations, and commentators who argue that it detracts from corporate earnings and is not consistently measurable.[xxviii] Others argue that companies are knowingly overstating their ESG commitments to mislead investors and the public, a practice known as “greenwashing.”[xxix]
This backlash is countered by the continued growth of ESG as an investment and business strategy. As fund manager BlackRock’s CEO Larry Fink recently noted, financial inflows are outpacing anti-ESG outflows by a margin of 100/1.[xxx] As growing demand from investors, consumers, and employees for ESG programs is driving change in management and operations, 82% of senior leaders report that salaries and/or bonuses are linked to ESG targets, and many indicate that integrating ESG into company culture is increasingly important.[xxxi] ESG is also a key theme for institutional investors focusing on real assets; 93% of institutional investors consider ESG when making decisions on real assets, and 17% of those consider ESG to be a critical factor.[xxxii]
Demand for ESG talent is also increasing, with 76% of employers hiring in one or more areas across ESG roles.[xxxiii] Further, 96% of companies on the S&P 500 published sustainability reports covering the 2021 publication year.[xxxiv] This growth in ESG indicates that investors and businesses still consider “[a]ppropriate oversight of sustainability considerations” as necessary to support “durable, long-term value creation.”[xxxv]
Increasing complexity of ESG disclosure regulations
Regulation will remain a key topic for sustainability-minded companies and investors in 2023. Globally, the number of ESG regulatory initiatives jumped by ~37% from 2021 to 2022 and is expected to keep rising (Figure 1).[xxxvi] Key regulations include the EU Taxonomy, SFDR, and CSRD in the EU and the proposed climate-related disclosure rules from the U.S. SEC, among others. As implementation of these regulations begin to make waves across the global economy, best practices and industry leaders will emerge, pushing the envelope toward greater ESG transparency, performance, and risk management. We will also see the complexity of the regulatory landscape increase as implications for companies in multiple jurisdictions expand; companies should prepare by undertaking an ESG regulatory mapping exercise across the company and its supply chain. As regulations increasingly acknowledge the importance of companies’ value chains, companies will also need to pay closer attention to the sustainability practices and carbon footprint of their partners and suppliers.
Figure 1. ESG Regulatory Initiatives in 2021 and 2022
Climate has thus far dominated the ESG regulatory focus, yet 2021 and 2022 poll results from Just Capital found the number one ESG issue the American public cared most about wasn’t climate change, it was employees and people.[xxxvii] As such, there is growing scrutiny on companies’ human capital management (HCM) that is shaping new regulations in markets where ESG has a strong foothold. The EU Commission, U.S. SEC, and Singapore are raising the bar on disclosure requirements for public companies regarding their HCM practices and performance. Namely, these include the CSRD in the EU,[xxxviii] human capital disclosure rules for public companies from the U.S. SEC,[xxxix] and recommended Core ESG Metrics from the Singapore Exchange.[xl] HCM regulations require the disclosure of factors like a company’s organizational development practices, programs and benefits, upper management demographics, and employee engagement, retention, and development strategies. In 2023, companies should also be on the lookout for more disclosures related to climate goals, political spending, supply chain, workplace EEO-1, board diversity, cybersecurity, director qualifications, and other HCM topics.
To learn more, the current landscape of ESG disclosure regulations and standards is described in Verdani Institute for the Built Environment’s white paper “Navigating ESG Reporting Frameworks: A Comprehensive Guide,” published in August 2022.
ESG through the lens of double materiality
While not a new concept, attention and formalization has been galvanizing around the concept of “double materiality,” which moves beyond the financial criteria associated with conventional materiality and adds consideration for a company’s impact to the environment and society.[xli] Financial materiality, while useful in considering how ESG topics impact a company’s bottom line, falls short of investor and government interest in better understanding how companies’ operations, supply chain, etc., affect the broader world.[xlii] With ESG reporting requirements becoming more complex, bringing a more complex lens to materiality is a natural alignment.
As with many ESG trends, the EU is a considerable driving force, with double materiality to be required in the EU’s upcoming CSRD and associated European Sustainability Reporting Standards (ESRS).[xlii] The European Financial Reporting Advisory Group, responsible for creating the ESRS, defines impact materiality (non-financial) as “pertain[ing] to the undertaking’s material actual or potential, positive or negative impacts on people or the environment over the short-, medium- and long-term time horizons.”[xliii]
This drive for accountability in companies’ non-financial impacts is also being reflected in GRI’s 2021 Standards, which many companies will begin using in their 2022 corporate responsibility and ESG reports.[xliv] As the leading global sustainability reporting standards framework, GRI’s endorsement of double materiality will have a significant impact in accelerating the transition to the new guidance. The IFRS Foundation is also considering inclusion of double materiality in its sustainability disclosure standards going forward.[xlii]
Conclusion
ESG continues to be accepted as a tool to drive value, mitigate risks, and meet stakeholder demands. While challenges remain, in 2023 we expect ESG to progress further toward credibility, formalization, and positive global impact.
It goes without saying that the economic transition toward sustainability is underway, and the stakes have never been higher. To remain competitive in the greening economy, it is essential that companies follow industry best practices, comply with regulations, and comprehensively integrate sustainability throughout their business model and strategy. Leading companies of the future will go even further to innovate beyond compliance obligations, set and achieve ambitious ESG targets, and appeal to a wider range of stakeholders.
Among other priorities, for commercial real estate, this means staying on track toward net zero targets, increasing accountability for scope 3 emissions, evaluating biodiversity and human rights impacts across the supply chain, preparing for forthcoming regulations and standards, and remaining flexible as ESG expectations evolve.
About the Authors
Carli Schoenleber
Carli is a Content Writer for Verdani Partners and the Verdani Institute for the Built Environment (VIBE), where she is leading efforts on VIBE’s sustainable built environment book series. Carli has a decade of experience in the sustainability field, working across diverse roles in environmental communication research, environmental planning, marketing, and wetland science. She holds a BS in Environmental Science, Policy, and Management from the University of Minnesota and a MS in Forest Ecosystems and Society from Oregon State University.
Simone Fraid
Simone is a Communications Manager at Verdani Partners. In her role, she supports annual report drafting for clients, manages Verdani marketing efforts, and provides writing and editing support to the wider Verdani team. She holds a BA in Public Relations from the University of Oklahoma, a certificate in Sustainable Business Practices, and is accredited as a LEED Green Associate and TRUE Advisor.
Mary Reames
Mary is an Associate Communications Director for Verdani Partners, drafting high-quality ESG communications and educational materials for Verdani’s 13 national and international client portfolios. Mary has a long history in the ESG industry, having worked as an environmental attorney for the City of Chicago and as a sustainability consultant and LEED-EB contracted reviewer. She holds a BA in Sociology/Anthropology, a BS in Sustainable Business Management, and a JD with a concentration in Environmental Law.
Gabe John
Gabe is a Communications Manager for Verdani Partners. He fosters client stakeholder engagement through the creation of awareness campaigns, brand language, and annual reports. He also helps craft Verdani's thought leadership, developing articles on key topics in the ESG and sustainability space. Gabe holds a BS in Environmental Science from UC Davis.
Paulynn Cue
Paulynn is the Chief Communications Officer for Verdani Partners, bringing over 20 years of experience in sustainability and ESG, business development, communications, design, and regenerative development. She has been instrumental in shaping Verdani’s programs since 2014. Paulynn studied architecture at Carnegie Mellon University, advertising at New York University, and environmental design at Parson’s School of Design, and has worked with leading organizations such as Gensler, World Building Institute, and the Intergovernmental Renewable Energy Organization Sustainable Development Commission.
References
[i] Fankhauser et al. (December, 2021). The meaning of net zero and how to get it right. [ii] Net Zero Tracker (June, 2022). Net Zero Stocktake 2022. [iii] United Nations (October, 2022). 2022 NDC Synthesis Report. [iv] United Nations Environment Programme (November, 2022). 2022 Global Status Report for Buildings and Construction. [v] S&P Global (August, 2022). More real estate firms are embracing climate targets. [vi] IPCC (February, 2022). IPCC Sixth Assessment Report, Summary for Policymakers Headline Statements. [vii] NPR (January, 2023). Extreme weather, fueled by climate change, cost the U.S. $165 billion in 2022. [viii] United Nations (October, 2019). For Every Dollar Invested in Climate-Resilient Infrastructure Six Dollars Are Saved, Secretary-General Says in Message for Disaster Risk Reduction Day. [ix] MSCI (2023). ESG and Climate Trends to Watch for 2023. [x] Urban Land Institute (2022). ULI Global Sustainability Outlook 22. [xi] UL (n.d.). The Taskforce for Climate-Related Financial Disclosures: Progress, challenges, opportunities and solutions for firms. [xii] World Economic Forum (January, 2020). Nature Risk Rising: Why the Crisis Engulfing Nature Matters for Business and the Economy. [xiii] World Wildlife Fund & ZSL (2022). Living Planet Report 2022 Building a Nature-positive Society. [xiv] United Nations Environment Programme (December, 2022). COP15 ends with landmark biodiversity agreement. [xv] World Economic Forum (2022). The Global Risks Report 2022. [xvi] Morgan Stanley (October, 2022). Biodiversity Loss and the Implications for Investors. [xvii] Just Transition: A Framework for Change (2023). [xviii] World Economic Forum (June, 2022). Why a just transition is crucial for transformative climate action. [xix] United Nations (November, 2022). COP27 Reaches Breakthrough Agreement on New “Loss and Damage” Fund for Vulnerable Countries. [xx] U.S. White House (August, 2022). FACT SHEET: How the Inflation Reduction Act Builds a Better Future for Young Americans. [xxi] European Parliament (October, 2022). Sustainable economy: Parliament adopts new reporting rules for multinationals. [xxii] Gallup (April, 2017). Employee Engagement vs. Employee Satisfaction and Organizational Culture. [xxiii] Business and Human Rights Resource Centre (February, 2022). More than 100 companies and investors call for effective EU corporate accountability legislation. [xxiv] Workforce Disclosure Initiative (April, 2021). Workforce Disclosure in 2021: Trends and Insights. [xxv] Greenbiz (November, 2022). 'Lawyer up': Republican rhetoric over ESG escalates. [xxvi] ESG Today (August, 2022). Texas Places BlackRock, Credit Suisse & UBS on Divestment List for “Boycotting” Fossil Fuel Companies in Anti-ESG Backlash. [xxvii] Fox Business (December, 2022). Exclusive: Republicans introduce legislation to thwart ESG-related SEC disclosure demands. [xxviii] McKinsey Sustainability (August, 2022). Does ESG really matter — and why? [xxix] Forbes (August, 2022). Greenwashing And ESG: What You Need To Know. [xxx] ESG Today (January, 2023). Larry Fink Says BlackRock Inflows Are 100x Anti-ESG Outflows Despite Political Backlash. [xxxi] PwC (2022). Paying for good for all: Global research into ESG and reward beyond the boardroom. [xxxii] Aviva Investors (January, 2023). Real Assets Study 2023: Sustainable real assets in the spotlight. [xxxiii] ManpowerGroup (n.d.). The search for ESG talent. [xxxiv] Governance & Accountability Institute (2022). 2022 Sustainability Reporting in Focus. [xxxv] Blackrock (2023). Blackrock Investment Stewardship Global Principles. [xxxvi] ClearBridge Investments (January, 2023). 2023 ESG Outlook: Greater Scrutiny on Companies and Sustainable Investments. [xxxvii] CNBC (September, 2022). The one ESG issue that Americans agree isn’t politically polarizing. [xxxviii] Council of the EU (November, 2022). Council gives final green light to corporate sustainability reporting directive. [xxxix] Bloomberg Law (October, 2022). How to Respond to SEC’s Focus on Human Capital Disclosures. [xl] Singapore Exchange (December, 2021). Starting With a Common Set of Core ESG Metrics. [xli] GRI (May, 2021). The double-materiality concept Application and issues. [xlii] Bloomberg (September, 2022). What New ESG Approach ‘Double Materiality’ Means — and Why JPMorgan Is a Fan. [xliii] EFRAG (November, 2022). Draft European Sustainability Reporting Standards: ESRS 1 General Requirements. [xliv] GRI (May, 2022). Human rights is at the heart of corporate transparency.
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