Redefining ESG Evaluation – Moving From Ratings to Shapes

When it comes to ESG performance evaluation, both companies and investors need a simple way to gauge how they are doing, but at the same time grapple with the limitations of the traditional rating approaches. These ratings might have become an institutionalised part of investment decision-making, but their inconsistent and unclear results can cause a lot of challenges.

Bear in mind that this is an industry that is now going to be heavily regulated. For example, new UK law to do this will be fast-tracked. The ratings industry is “largely unregulated sector that wields broad influence over trillions of pounds’ worth of investments” a recent FT article highlighted.

With ESG considerations ascendant, the search is on for a rigorous, top-to-bottom framework that can accurately capture a company’s ESG standing and effectively convey its strengths to the outside world. This is where the concept of “shapes” can be introduced as a promising alternative to the conventional ratings.

The Challenges of Standard ESG Ratings

ESG ratings have been convenient for investors in the past, simplifying the difficult task of evaluating different investments at the same time. These ratings are a shorthand way to assess ESG performance across portfolios – making it easier to make strategic asset allocation decisions.

The problem is that the reliability of these ratings is often questionable because of the “black box” approach in their methodologies. This is because the underlying data, weightings and calculations are typically not transparent which leads to inconsistencies in comparing scores across different rating agencies.

The situation is equally problematic from the company’s perspective. The responses to numerous questionnaires and having to provide extensive data to rating agencies are both time-consuming and frustrating. These companies frequently find that their ratings aren’t accurate reflections of their true ESG performance.

Along the same line, reducing complex and diverse data into a single score can muddy important nuances – leaving executives unsure of how to improve their ratings while aligning their actions with their sustainability goals.

Introducing the Concept of Using Shapes to Capture ESG Performance

To address these problems, we suggest a shift from ratings to shapes. Unlike the usual ratings that reduce ESG performance to a simple score, shapes offer a more visual and data-backed representation of a company’s ESG activities and their impacts.

The Shapes approach uses the brain’s innate pattern recognition capabilities, providing a more comprehensive understanding of ESG performance. Humans are just better at understanding visual patterns than they are at being able to spot anomalies and insights in reporting data.

One of the ways we’ve made use of this approach for clients is in the mapping of activities and expenditure to frameworks like the SDGs. This involves collecting detailed financial and non-financial data, linking it to the specific ESG activities and visually showing the relative focus and impact they have. The resulting shape is not a judgment: instead, it’s a factual depiction of the company’s ESG performance and shows their areas of strength as well as spaces for improvement.

Have a look at some of our real-world user stories here to see this in practice.

Practical Implementation and Benefits

Using the shape-based approach means taking several practical steps.

First, companies will need to gather and categorise their expenditure and activity data. Mapping this data to the SDGs or other relevant frameworks means they can create a visual representation of their ESG contributions. This shape gives executives a clearer image of whether their current actions are aligning with their strategic sustainability goals.

One of the biggest advantages of a shape-based approach is scalability. As it relies on actual financial data linked to specific actions, it can be applied to larger and more diverse investment portfolios. In addition to that, it enables the integration of multiple data sets, including non-financial ones, creating a more holistic view of ESG performance.

There are even more practical benefits to the shape-based approach for executives and ESG practitioners.

• More clarity: Shapes add a more transparent and understandable representation of ESG performance, leading executives to make more informed decisions.
• Actionable insights: Visualising the link between expenditures and ESG impacts with shapes means that areas, where companies can adjust strategy and allocate resources, are highlighted.
• Comparative analysis: Shapes allow for better comparisons of ESG performance across companies, sectors and peers. This equals more accurate benchmarking and competitive analysis.
• Dynamic tracking: As shapes change over time, they allow companies to track their progress and make continuous improvements to their ESG strategies.

Moving from ratings to shapes could be a significant step forward in how ESG performance is evaluated, both for institutional investment value chains and the companies they invest in.  This approach has the potential to overcome the limitations of traditional ratings, providing a clearer and more actionable understanding of a company’s ESG contributions.

By adopting a shape-based approach, companies and investors can unlock more value, improve their strategic decision-making and ultimately drive more meaningful and sustainable impact.

About Unifi

At Unifi, we get out of bed to help our investor and company clients make significant strides forward in how they are shaping sustainable futures – but to also unlock ways of doing that profitably. We engage in a platform-enabled consulting model that streamlines the process for our clients and provides a set of data workflows, interactive dashboard sets and reports that help translate strategy into action and in turn provide the monitoring, reporting and decision-useful outputs that deliver on organisational intent to operate more responsibly.