What is an ESG score, how it is calculated and what does it measure?

An ESG score quantitatively represents a company's performance in Environmental, Social, and Governance (ESG) factors. It is a critical tool for investors and stakeholders to assess how well a company adheres to responsible and sustainable business practices. The following is a detailed breakdown of the components, calculation, and measurement of ESG scores.

Components of ESG Scores

Environmental (E): The environmental component evaluates a company's impact on the environment. Key considerations include its carbon footprint, energy efficiency, water usage, waste management, and commitment to environmental conservation. Companies with robust environmental practices tend to receive higher scores.

Social (S): The social component assesses a company's interactions with its employees, customers, and the communities in which it operates. Factors such as labour practices, diversity and inclusion, product safety, and community engagement are integral. Positive social impact is crucial for a higher social score.

Governance (G): Governance focuses on a company's internal structures and practices, including transparency, board independence, executive compensation, and anti-corruption measures. Strong corporate governance is essential for a higher governance score.

Calculation and Measurement

ESG scores are typically calculated by aggregating data on these three components. Each component is assessed based on specific metrics, which are then weighted and combined to generate an overall ESG score. Different rating agencies might use varying methodologies, but the core principles remain consistent: a higher ESG score indicates better performance in sustainable and ethical business practices.

The growing importance of ESG scores reflects an increasing demand for transparency and accountability in corporate conduct. Investors and stakeholders are increasingly prioritising companies that demonstrate strong ESG performance, recognising the long-term benefits of sustainability and ethical governance.

ESG ratings providers

ESG ratings providers are firms that assess equity and debt issuers based on their disclosures, which offer sustainability metrics and information crucial for determining ESG scores. These ratings often rely on highly quantitative methodologies, weighing numerous subcategory metrics derived from identified quantitative data provided by corporate issuers or sourced from other industry data. Prominent ESG ratings providers include MSCI, Sustainalytics, Bloomberg, and LSEG (Refinitiv), among others. In addition to these specialised ESG providers, traditional credit rating agencies such as Moody's and S&P Global have also ventured into ESG ratings. These providers play a critical role in the financial ecosystem by offering reliable ESG assessments that help investors and stakeholders make informed decisions based on sustainability performance.