EcoVadis welcomes the EU reaching a deal on the bloc’s first-ever set of regulations for Environmental, Social and Governance (ESG) ratings providers. The regulation introduces enhanced methodology disclosures, industry standards for managing conflicts of interest, and market supervision by ESMA (European Securities and Markets Authority).
As reliance on ESG ratings to inform investors and corporates’ decision-making increases, there’s a growing need for formal scrutiny. “We welcome the EU’s initiative introducing standardized transparency and integrity requirements. It is an important step forward for this dynamic and innovative industry. ESG ratings are no silver bullet but they play an important role in the green transition.” said our co-CEO, Pierre-François Thaler.
ESMA Given Regulatory Power
Raters wishing to operate in the EU will have to obtain authorization from ESMA, or in the case of providers based outside the bloc, an endorsement from a peer regulated in the EU.
While the primary focus of the regulation is ESG ratings used in financial markets, the regulation captures supply-chain ratings used in procurement by corporates, impacting providers in non-financial sectors. In this context, the regulation explicitly recognizes that the ESG ratings market is diverse.
As a provider of business sustainability ratings, EcoVadis will therefore have to seek ESMA’s recognition. After the entry into force, expected at the end of 2024, or early 2025 at the latest, providers will have an 18 months implementation period before registering with ESMA. In the meantime, ESMA is required to submit additional technical guidelines 9 months after the entry into force, to clarify the expectations for providers looking to be authorized. EcoVadis will proactively review its current transparency practices and management of conflicts of interest throughout this process.
More Transparency
ESG ratings products remain on the rise, in tandem with the heightened demand for sustainability data. Trillions of investment money flow into sustainable funds and products; many of these decisions depend on exactly this data. Naturally, pressure has been building to improve transparency and ensure the good conduct of the ESG ratings landscape.
The final agreed rules say that providers should publish their rating assumptions, explain whether E, S and G factors are considered separately or in aggregation, and disclose the weighting given to each factor. The text also requires public disclosure of whether providers adopt a single or double materiality lens for their assessment process, advertently promoting double materiality to align ratings with the approach to corporate sustainability reporting that the EU is taking with SFDR (for investors) and CSRD (for corporates).
“We commend the requirement to publish granular details on what a rating seeks to measure, and the methodology behind it,” said Sylvain Guyoton, Chief Rating Officer at EcoVadis. “The extent to which the details of rating practices are publicly communicated varies largely among different providers. From this perspective, the proposed disclosure scheme will likely level out information asymmetries and thus make ratings more useful."
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