What ESG means
The environmental, social and governance pillars, why they matter to companies and investors, and what double materiality means.
The three letters: E, S and G
ESG stands for Environmental, Social, Governance. It describes a set of non-financial factors that can affect both a company's long-term performance and the effects the company has on people and the environment. ESG is not a single rule or a specific standard, but an analytical lens used by companies, investors, banks and public authorities.
| Pillar | What it covers | Example topics and indicators |
|---|---|---|
| E – Environmental | Impact on the climate and natural resources | Greenhouse gas emissions, energy and water use, waste, pollution, biodiversity |
| S – Social | Relationships with employees, customers, suppliers and the community | Occupational health and safety, fair pay, professional training, customer data protection, human rights in the supply chain |
| G – Governance | How the company is managed, controlled and overseen | Board independence, executive pay, shareholder rights, anti-corruption policies, audit and internal control, transparency |
Why ESG matters
For a company, ESG topics are often “hidden” financial risks: a drought can cut production, a workplace accident can halt operations, and weak governance can lead to fraud or a loss of trust among partners. Managing them carefully can lower costs, ease access to financing and strengthen the company's reputation.
For an investor, ESG information complements traditional financial analysis. It helps identify risks that do not yet appear on the balance sheet, as well as companies that are better prepared for changes in regulation, technology or consumer preferences.
- Access to capital: more and more international lenders and institutional investors ask for ESG data before granting loans or buying securities.
- Supply chains: large customers, including those in the European Union, may ask suppliers for information on emissions or working conditions.
- Risk management: extreme weather events, energy prices and regulatory changes directly affect costs.
- Reputation and talent: employees and consumers pay increasing attention to how responsibly companies behave.
Double materiality, explained simply
A topic is material if it is important enough to be managed and reported. In sustainability, importance can be viewed from two directions, hence the term double materiality.
| Perspective | Key question | Main users |
|---|---|---|
| Financial materiality | How does this topic affect the company's revenue, costs, assets or access to financing? | Investors and creditors |
| Impact materiality | How does the company affect people, the community and the environment? | Society, employees, communities, authorities, and investors too |
Useful clarifications
- ESG is not philanthropy: sponsorships are welcome, but what really matters is how the company runs its core business.
- Material topics differ from one sector to another: for a bank, governance and data protection may weigh more than water use.
- A good ESG score does not guarantee higher returns, and a poor score does not automatically mean a bad investment.
- The pillars are interconnected: strong governance makes environmental and social commitments more credible.
Key takeaways
- ESG stands for environmental (E), social (S) and governance (G), and it is an analytical lens, not a single standard.
- ESG topics can represent real financial risks and opportunities for companies.
- Double materiality combines the topic's impact on the company with the company's impact on people and the environment.
- Material topics depend on the sector, and governance gives credibility to the other two pillars.
Sustainability reporting
The main international reporting frameworks, Scope 1, 2 and 3 emissions, and the indicators used to measure ESG performance.
What a sustainability report is
ESG information becomes useful only if it is comparable, verifiable and consistent from one year to the next. That is why companies use reporting frameworks that set out which topics to disclose, how to measure indicators, and how to explain strategy, risks and targets.
A good report is not limited to success stories. It also explains where the company missed its targets, what methodology it used for its calculations and what data is still missing.
The main international frameworks
| Framework | Who develops it | Main focus | Intended users |
|---|---|---|---|
| GRI Standards | Global Reporting Initiative, an independent international organization | The organization's impact on the economy, the environment and people; organized into universal, sector and topic standards | A broad range of stakeholders |
| IFRS S1 and IFRS S2 | International Sustainability Standards Board (ISSB), part of the IFRS Foundation | Financially relevant sustainability information; S1 sets the general requirements, S2 focuses on climate-related risks and opportunities | Investors, creditors and other providers of capital |
| ESRS (in the context of the CSRD) | European standards developed with technical support from EFRAG and adopted by the European Commission | Reporting based on double materiality, applied to companies within the scope of the Corporate Sustainability Reporting Directive (CSRD) | Investors and a broad range of stakeholders |
The ISSB standards build on the structure of the recommendations of the TCFD (Task Force on Climate-related Financial Disclosures), organized into four areas:
- Governance – who oversees sustainability risks and opportunities;
- Strategy – how they affect the company's business model and plans;
- Risk management – how they are identified, assessed and monitored;
- Metrics and targets – what is measured and what goals the company has committed to.
Greenhouse gas emissions: Scope 1, 2 and 3
The most widely used environmental indicator is the carbon footprint, expressed in tonnes of CO₂ equivalent (tCO₂e). The classification of emissions into three “scopes” comes from the GHG Protocol, the greenhouse gas accounting standard that is widely used, including by the reporting frameworks above.
| Category | What it includes | Examples |
|---|---|---|
| Scope 1 – direct emissions | Emissions from sources owned or controlled by the company | Burning natural gas in the company's own boilers, fuel for its own fleet, industrial processes |
| Scope 2 – indirect emissions from energy | Emissions associated with energy purchased and consumed | Purchased electricity, heat or steam |
| Scope 3 – other indirect emissions | Emissions from the value chain, upstream and downstream | Production of purchased raw materials, transportation by third parties, employee travel, use of sold products |
Indicators and a numerical example
- Environmental: Scope 1, 2 and 3 emissions; energy use (MWh) and the share of renewable energy; water use (m³); waste generated and recycled (tonnes).
- Social: number of employees and staff turnover; workplace accident rate; training hours per employee; gender pay gap.
- Governance: share of independent board members; existence of anti-corruption policies and whistleblowing channels; compliance incidents.
Key takeaways
- Sustainability reporting makes ESG information comparable, verifiable and consistent over time.
- GRI focuses on impact, IFRS S1/S2 on information relevant to investors, and ESRS, in the context of the CSRD, on double materiality.
- Scope 1 = direct emissions, Scope 2 = purchased energy, Scope 3 = the rest of the value chain.
- Intensity indicators, such as emissions per MDL million of revenue, allow comparisons across years and between companies.
- Whether a standard applies depends on the jurisdiction and on the specific requirements of lenders.
Green, social and sustainability bonds
The types of labeled bonds, the four components of the ICMA Green Bond Principles and the categories of eligible projects.
Labeled bonds: the basic idea
Legally and financially, a green bond works like any other bond: the issuer receives money from investors, pays coupons and repays the face value at maturity. The difference lies in the commitment on the use of proceeds and in the transparency the issuer takes on.
As a rule, the credit risk of a green bond is the issuer's risk, not the risk of the financed project: the investor is paid from the cash flows of the company as a whole. The exceptions are special structures, such as asset-backed bonds or project finance, where payment may depend on specific assets.
Four main types
| Type | What it finances | Key mechanism | ICMA reference guidance |
|---|---|---|---|
| Green | Projects with environmental benefits | Use of proceeds | Green Bond Principles |
| Social | Projects with positive social outcomes for target populations | Use of proceeds | Social Bond Principles |
| Sustainability | A mix of green and social projects | Use of proceeds | Sustainability Bond Guidelines |
| Sustainability-linked | General corporate purposes | Financial characteristics (for example, the coupon) depend on meeting performance targets | Sustainability-Linked Bond Principles |
The first three types are use of proceeds instruments: what matters is what the money is spent on. Sustainability-linked bonds work differently: the money can be used for any general purpose, but the issuer commits to key performance indicators (KPIs) and sustainability performance targets. If the targets are not met, the coupon usually increases.
The ICMA Green Bond Principles
ICMA (International Capital Market Association) publishes the Green Bond Principles, voluntary guidelines widely used in international markets. They are not law, but good practices that increase transparency and investor confidence. The principles have four core components:
- Use of proceedsProceeds are allocated to eligible green projects, clearly described in the issue documentation, with environmental benefits that are assessed and, where possible, quantified.
- Process for project evaluation and selectionThe issuer explains its environmental objectives, its eligibility criteria and how it identifies and manages the social and environmental risks of the projects.
- Management of proceedsThe net proceeds are tracked separately (in a sub-account, sub-portfolio or through an equivalent internal mechanism), and the issuer states how it temporarily invests any amounts not yet allocated.
- ReportingThe issuer publishes up-to-date information on the use of proceeds, at least annually until full allocation, as well as on the expected impact of the projects.
Eligible project categories
The ICMA principles provide an indicative, non-exhaustive list of green project categories. They include:
- renewable energy (for example, solar or wind farms);
- energy efficiency (building renovation, equipment upgrades, smart grids);
- pollution prevention and control;
- sustainable management of living natural resources and land use (including sustainable agriculture);
- terrestrial and aquatic biodiversity conservation;
- clean transportation (electric, public and non-motorized transport);
- sustainable water and wastewater management;
- climate change adaptation;
- circular economy adapted products, production technologies and processes;
- green buildings certified to recognized standards.
For social bonds, typical categories include affordable basic infrastructure, access to essential services such as healthcare and education, affordable housing, employment generation (including through SME financing), food security and socioeconomic advancement and empowerment.
Key takeaways
- Green, social and sustainability bonds are defined by their use of proceeds; sustainability-linked bonds are defined by performance targets tied to their financial characteristics.
- The credit risk of a standard green bond is, as a rule, the issuer's risk.
- The Green Bond Principles have four components: use of proceeds, project evaluation and selection, management of proceeds, and reporting.
- The ICMA principles are voluntary and recommend a green financing framework and an external review.
- Eligible categories include renewable energy, energy efficiency, clean transportation, water, green buildings and the circular economy.
Issuing a green bond
The practical steps of a green bond issue: the financing framework, the second-party opinion, allocation of proceeds, and allocation and impact reports.
Preparation: from strategy to a project portfolio
A credible green bond starts from the company's strategy, not from a desire to obtain a label. Investors will ask how the financed projects fit into the issuer's overall environmental objectives and whether the rest of its business contradicts the green message.
The first concrete step is to take stock of existing and planned projects that could be eligible: investments in renewable energy, energy efficiency, water or clean transportation. For each project, you estimate the cost, the timeline and the measurable environmental benefits.
The steps of an issue
- 1. Internal decision and project teamManagement approves the initiative and sets up a team from finance, sustainability, legal and operations. It is decided who determines project eligibility (usually an internal committee).
- 2. Identifying eligible projectsProjects that match the green categories are selected and the required amount is estimated, including any refinancing of completed projects, with a disclosed look-back period.
- 3. Drafting the green financing frameworkThe document is drafted to explain the eligibility criteria, exclusions, management of proceeds and the impact indicators that will be reported.
- 4. External reviewAn independent reviewer analyzes the framework and issues an opinion on its alignment with market principles and the credibility of the environmental benefits.
- 5. Issue documentation and approvalsThe prospectus or offering document is prepared, with a reference to the green framework, and the approvals required by the capital market legislation applicable to the issuer are obtained.
- 6. Placement with investorsThe issuer and intermediaries present the issue to investors, explaining both the credit profile and the green projects.
- 7. Allocation of proceeds and reportingProceeds are tracked separately and allocated to projects, and the issuer periodically publishes allocation and impact reports.
External review and the second-party opinion
Under the voluntary principles, an external review is usually not mandatory, but it is strongly recommended: for many investors, its absence is a red flag. The most common form is the second-party opinion (SPO), an opinion issued by an institution with sustainability expertise that is independent of the advisers who prepared the framework.
| Type of review | What it provides | When it usually happens |
|---|---|---|
| Second-party opinion | Assesses the framework's alignment with the principles and the relevance of its environmental objectives | Before the issue |
| Verification | Confirms, against set criteria, aspects such as allocation of proceeds or impact data | Before or after the issue |
| Certification | Attests compliance with a recognized external standard | Before and often after the issue |
| Scoring or rating | Assigns a score or grade to the framework or the issue, using its own methodology | Before or after the issue |
After issuance: allocation and impact
The issue does not end once the money is received. Investors follow two types of reports: the allocation report, which shows how much money went to each project category and how much remains unallocated, and the impact report, which shows the environmental results achieved or expected, together with the calculation methodology.
Key takeaways
- A credible green bond starts from the company's strategy and a clear portfolio of eligible projects.
- The green financing framework publicly describes the criteria, selection, management of proceeds and reporting.
- The second-party opinion assesses the framework's alignment with market principles before the issue.
- After issuance, allocation and impact reports are published together with the calculation methodology.
- Failing to honor green commitments creates reputational risk even when the bond is paid on time.
ESG from the investor's perspective
ESG investment strategies, ESG ratings and their limitations, and the signs that help you recognize greenwashing.
ESG investment strategies
There is no single way to “invest ESG.” Investors combine several approaches depending on their goals: reducing risk, aligning the portfolio with personal or institutional values, or achieving measurable impact.
| Strategy | How it works | Example |
|---|---|---|
| Negative screening (exclusion) | Removes certain sectors, companies or practices from the investment universe | Excluding tobacco producers or companies involved in serious human rights violations |
| Positive screening (best-in-class) | Selects the companies with the best ESG performance in each sector | Choosing the most energy-efficient companies in an industrial sector |
| ESG integration | Systematically includes ESG factors in financial analysis, alongside traditional indicators | Adjusting cost estimates for future energy prices or drought risk |
| Thematic investing | Focuses on sustainability-related themes | A portfolio focused on renewable energy or water |
| Impact investing | Intentionally seeks measurable social or environmental impact alongside a financial return | Financing affordable housing projects and reporting the number of families who benefit |
| Shareholder engagement | Dialogue with management and voting at general meetings to improve practices | Asking for emissions reduction targets |
ESG ratings and their limitations
ESG ratings are assessments issued by specialized providers that try to summarize a company's ESG performance or exposure to ESG risks in a score or grade. They are useful as a starting point, but should be used with caution.
- Different methodologies: providers choose different topics, weightings and data sources, so the same company can receive very different scores.
- What exactly is measured: some ratings assess ESG risk to the company, others the company's impact on the world; the two are not the same.
- Incomplete data: many scores rely on information reported by the company itself or on estimates.
- Size matters: large companies with dedicated reporting teams may get better scores simply because they publish more information.
- Scores are not credit ratings: a high ESG score says nothing directly about the issuer's ability to repay its debts.
Greenwashing: how to recognize it
- Vague terms such as “eco-friendly,” “nature-friendly” or “climate neutral,” with no data and no methodology.
- A focus on a small, visible project while the core business remains highly polluting and has no transition plan.
- Very long-term targets with no interim targets, allocated budget or designated owners.
- No external review, or allocation and impact reports that are late or missing.
- A fund's name suggests a green theme, but the portfolio holds few assets related to that theme.
- Emissions offsetting presented as the main solution instead of actual emission reductions.
An investor checklist
- Clarify your goalDo you want to reduce risk, avoid certain sectors or achieve measurable impact? The right strategy depends on your answer.
- Analyze the credit firstWith a green bond, the label does not replace analysis of the issuer's financial position, the maturity, the coupon and the liquidity.
- Read the green documentsCheck the financing framework, the second-party opinion and the eligible project categories, including exclusions.
- Follow the reportingCheck whether allocation and impact reports are published on time, with concrete figures and an explained methodology.
- Look at the big pictureCompare the financed projects with the issuer's strategy and core business, and do not rely on a single ESG rating.
Key takeaways
- ESG strategies include negative and positive screening, ESG integration, thematic investing, impact investing and shareholder engagement.
- Impact investing requires intention and measurable impact, not just exclusions.
- ESG ratings differ between providers because of their methodologies, and they do not replace credit analysis.
- Greenwashing can be recognized by vague claims, missing data, the lack of an external review and gaps between message and content.
- A green label complements, but does not replace, financial analysis of the issuer.
Educational material only. It does not constitute investment, legal or tax advice. Numerical examples are hypothetical.