Credit Assessment Scorecards with ESG Credit Metrics

ESG risks have historically been perceived as taking place over the long term, so they will not materially impact an issuer’s cash flow and funding ability. There is increasing evidence, however, that ESG factors can affect credit risk^[1] and investment performance^[2] in the shorter term. ESG factors have often been intangible and building a more quantitative ESG framework can be a complex process for credit analysts. Accessibility and reliability of data and the modeling of relatively new risks are important to enhance the dependability of ESG factors in credit assessment.

In addition, consistent disclosure of information by companies could assist analysts in performing credible peer analysis on ESG credit risk factors.

Scorecards with ESG Credit Metrics are enhanced Scorecards that explicitly include ESG credit risk factors. These factors are considered in detail alongside the traditional credit analysis formalized in the Scorecards, enabling users to reflect the impact of material ESG factors on credit risk while working through the regular credit assessment process.

For each of the three ESG dimensions (environmental, social and governance), key ESG credit risk factors are those that can materially influence the creditworthiness of an entity and for which there is sufficient visibility and certainty. Key ESG credit risk factors can have a negative or positive impact on credit risk, however, not all ESG factors correlate to ESG credit risk factors. For example, cement producers’ negative environmental impact is not generally considered credit negative.

ESG credit risk factors can be considered in several areas within the Bank and Corporate Scorecard framework, including management and governance, country and industry risk, competitive position and cash flow/leverage, as shown in Figure 1.

Figure 1: ESG Credit Risk Factors in Areas Within the Corporate Scorecards