S&P Global Ratings is planning a number of initiatives about how we assess environmental, social, and governance (ESG) factors across all sectors globally. Here, as part of our commitment to transparent communications, we lay out our plans, the indicative timeline, and reminders about key concepts--such as how ESG factors influence creditworthiness, the importance of materiality, as well as where to find our views about an entity's ability to manage ESG risks and opportunities.
At S&P Global Ratings, we analyze ESG factors in two separate ways:
- 1. As part of our analysis of credit ratings, and
- 2. As part of our ESG-specific evaluations and opinions.
1. Credit ratings provide a forward-looking opinion about creditworthiness, focused on an entity's capacity to meet its financial commitments when they become due.
Here, we take ESG factors into consideration, alongside all other credit factors, when we consider they are relevant to and have or may have a material influence on creditworthiness. We published the request for comment, "Environmental, Social, And Governance Principles In Credit Ratings," on May 17, 2021, to formalize and restate--in a single article--our existing analytical approach to capturing ESG factors in credit ratings. Accordingly, we do not expect the criteria, as proposed, to affect any existing credit ratings. The comment period closed on June 17, 2021, and we expect to publish the criteria this month after considering the comments we received. Later in 2021, for corporates, infrastructure, banks, and insurers, and, in 2022, for other sectors, we expect to release ESG credit indicators for entities and transactions. ESG credit indicators reflect our qualitative assessment about whether ESG factors have a neutral, positive, or negative influence on the key components of our credit rating analysis, as we announced on April 21, 2021, with the publication of "S&P Global Ratings Proposes Additional Transparency On ESG Factors As Drivers Of Credit Ratings." ESG credit indicators are not a measure of relative ESG performance. (This is measured separately through the ESG Evaluation, see below.) Through the release of our ESG credit indicators, S&P Global Ratings aims to clearly explain the relevance of ESG factors to our credit analysis, by isolating the credit influence and separating these out from other business and financial credit factors.
2. Outside of the context of ESG in credit ratings, our ESG Evaluation is a forward-looking assessment of an entity's ESG impact on broader stakeholders, including its relative performance and ability to prepare for future risks and opportunities. We analyze how an entity is exposed to ESG issues along its value chain and its ability to manage through future disruption. An ESG Evaluation is neither a credit rating, nor a measure of credit risk, nor a component of our credit rating methodology. We also offer Sustainable Financing Opinions. These include Second Party Opinions (SPOs), which assess whether a framework or transaction documentation aligns with certain third-party published sustainable finance principles and guidelines identified by the issuer. These SPOs may be on green, social, sustainability, or sustainability-linked financial instruments. Our Sustainable Financing Opinions also include Transaction Evaluations (TEs), which are opinions that reflect our assessment of the potential relative environmental benefit of the funded green or resilience projects on a scale of 1-100.
The concept of materiality is important to both credit ratings and our ESG-specific evaluations and opinions, but in different ways. The influence on creditworthiness of ESG factors, where relevant and material to credit, is the focus for credit ratings analysis. In contrast, the primary focus of the ESG Evaluation is stakeholder materiality, that is, impacts and dependencies of ESG factors on all stakeholders (including those within the entity).
Some ESG impacts, which are material to stakeholders, may generate risks and opportunities that are already or have the potential to become material to creditworthiness in the future. ESG issues are complex to analyze and are rapidly evolving in nature. In some cases, a risk or strength that we currently consider immaterial to creditworthiness can later become material. This could happen, for example, if new information becomes available, or if a policy or legal change imposes new or higher costs, such as for carbon dioxide and other greenhouse gas emission, on the obligor.
Other divisions of S&P Global, separate from S&P Global Ratings, provide other types of ESG assessments. S&P Global Ratings frequently receives questions about the "S&P Global Corporate Sustainability Assessment." The CSA, as it is also called, is an annual evaluation of companies' sustainability performance and management practices, prepared by S&P Global Sustainable1--not S&P Global Ratings. The CSA is the main input for the S&P Global ESG Score.
The CSA provides scores for more than 10,000 companies from around the world with a focus on a company's sustainability practices, performance on sustainability metrics, and awareness of upcoming ESG issues. It is used as a foundational framework for our analytical work throughout S&P Global's divisions. The ESG Evaluation provided by S&P Global Ratings is a more qualitative ESG opinion, focused on the company's long-term preparedness for ESG risks and opportunities and management responses out into the future, while using ESG data inputs and responses collected in the CSA questionnaire as a starting point.
Neither the S&P Global ESG Score nor the ESG Evaluation are inputs to our credit ratings analysis. Given S&P Global Ratings issues both ESG Evaluations and credit ratings, when an entity has both a credit rating and an ESG Evaluation, information that is received from either assessment may be used to inform the other.
ESG Insights In Credit Ratings
S&P Global Ratings distinguishes between ESG factors that are relevant and material to creditworthiness, which we refer to as ESG credit factors, and those that are not. Therefore, in assigning and reviewing credit ratings, we focus on the materiality of ESG factors to creditworthiness, including those that may become material to creditworthiness over time. If an ESG factor is unlikely to impact creditworthiness, it will not be material to the credit rating. However, low-likelihood but high-impact ESG issues may be relevant to our credit ratings analysis.
The concept of materiality features prominently in our request for comment, "Environmental, Social, And Governance Principles In Credit Ratings," published on May 17, 2021, which formalizes and restates--in a single article--our existing analytical approach to capturing ESG factors in credit ratings. For example, we would include the impact of ESG factors in credit ratings, such as the future costs of carbon dioxide and other greenhouse gas emissions, waste, and other pollution, if we deem them to be material to the analysis and if we have sufficient visibility about how those factors will evolve or manifest.
When we refer to an ESG factor becoming material to creditworthiness over time, it's important to note that our long-term issuer credit ratings are not time bound; they are by definition long term. There is a common misconception that ratings are anchored to a time horizon of two to three years. Our approach is nuanced, typically informed by an entity's or transaction's past performance as well as our financial forecasts. These forecasts generally include quantitative information two to three years into the future, where we can more accurately make financial forecasts.
Beyond this horizon, if we determine that visible and material ESG factors are affecting or will affect credit quality, we will include them in our credit rating analysis upfront--under qualitative considerations. Despite our focus on credit materiality, not everything can be quantitatively modelled. Qualitative analysis has been and will remain a key component of our credit rating analysis because of its importance in capturing less easily quantifiable factors.
During November to December 2021, we intend to publish ESG credit indicators for individual companies in the corporate, infrastructure, banking, and insurance sectors, and in 2022 for other asset classes. We propose to disclose and systematically explain the degree to which material ESG factors are influencing credit ratings, with the aid of a 1-5 scale from positive to very negative for each dimension: environmental, social, and governance (see table 1). Note that the ESG credit indicators are not a measure of ESG or sustainability performance but will help transparency efforts as they delineate and highlight which ESG factors are material and, therefore, are influencing creditworthiness.
|Planned Range Of ESG Credit Indicators|
|Influence on credit rating analysis||Environmental credit indicator||Social credit indicator||Governance credit indicator|
|Source: "S&P Global Ratings Proposes Additional Transparency On ESG Factors As Drivers Of Credit Ratings," published on April 21, 2021.|
Below is an example of ESG credit indicators for an entity where environmental and governance factors negatively influence our credit rating analysis. E-4 indicates that environmental factors (climate risk, in this case) have a negative influence on key analytical components of our credit rating analysis for that entity, while G-3 shows that governance factors (transparency, in this case) have a moderately negative influence. S-2 indicates that social factors are on balance neutral for our rating analysis.
More information about ESG in credit ratings can be found in our monthly newsletters, see, for example the September 2021 issue here.
ESG-Specific Evaluations And Opinions
In addition to assessing the impact of ESG factors in credit ratings when relevant and material to creditworthiness, we consider the impact of ESG factors more broadly in our ESG Evaluation. The ESG Evaluation gives a forward-looking, cross-sector, relative, and fundamental analysis of an entity's capacity to manage ESG risks and opportunities in order to operate successfully. Regardless of current credit materiality, the ESG Evaluation considers impacts and dependencies on the environment and society across the value chain (for a wide range of stakeholders) and the entity's capacity to manage risks and opportunities through future disruption. The ESG Evaluation is not a credit rating, measure of credit risk, or component of our credit rating methodology.
Our definition of stakeholders in the context of the ESG Evaluation goes beyond shareholders to include the local community, government, regulators, policyholders, voters, citizens, members, as well as employees, lenders, customers, and suppliers of the entity itself. A high ESG Evaluation assessment indicates that an entity should be relatively less prone or better able to address ESG-related disruption and relatively better positioned to capitalize on ESG-related growth opportunities than entities with lower ESG Evaluation assessments.
As part of the ESG Evaluation, we first establish an ESG profile for a given entity, which assesses the exposure of the entity's operations to potential but observable ESG risks and opportunities, as well as how the entity is mitigating these risks and capitalizing on these opportunities. Secondly, we assess the entity's long-term preparedness, namely its capacity to anticipate and adapt to a variety of long-term plausible disruption events. Please go here to see our analytical approach for ESG Evaluations.
Other Sustainable Financing Opinions, which are also neither related to credit ratings nor connected to the ESG Evaluation, include Second Party Opinions. These assess whether a framework or transaction documentation aligns with certain third-party published sustainable finance principles and guidelines identified by the issuer. These may be on green, social, sustainability, or sustainability-linked financial instruments. Our Sustainable Financing Opinions include Transaction Evaluations, which are opinions that reflect our assessment of the potential relative environmental benefit of funded green or resilience projects on a scale of 1-100. Please go here for our "Analytical Approach: Sustainable Financing Opinions," Aug. 25, 2021.
Our ESG-specific insights and opinions are summarized in our monthly ESG Sustainable Finance Newsletters. (By way of example, see the September 2021 issue here.)
Creditworthiness And ESG Capabilities
External stakeholders regularly ask us about the linkages between creditworthiness and ESG capabilities. Strong creditworthiness does not necessarily correlate with strong ESG characteristics and vice versa. That is why it is important for market participants to consider whether they want to view ESG factors through either a credit or stakeholder lens. Each provides a different set of ESG insights. Of course, they can choose to consider both views.
Take, for instance, an entity that has relatively weak environmental characteristics because of its exposure to climate transition risks but strong, relatively stable revenues, earnings, and cash flow, as well as minimal future financial commitments. We could view this entity as relatively creditworthy when we believe there is a strong likelihood that the obligor will continue to have sufficient resources to meet its minimal financial commitments in full and on time.
On the other hand, an entity that provides a product or service we see supportive of positive ESG considerations, such as low-emission renewable energy wind turbines, and whose social and governance standards are neutral, could have relatively weak creditworthiness if its revenue, profitability, and available liquid resources are low and unstable relative to high, fixed future financial commitments. That's because, in this scenario, it's reasonably likely the entity would not have the resources to meet its financial commitments in full and on time and, therefore, could default on those commitments. This default risk would be independent of the entity's favorable ESG characteristics.
Toward A Well-Rounded ESG Picture
S&P Global Ratings continues to remain committed to providing a breadth of analytics related to environmental, social, and governance factors. Depending on the ESG focus of market participants, we expect the distinct yet complementary range of our insights and opinions in this area to provide a well-rounded ESG picture.
Writer: Rose Marie Burke. Digital Design: Tom Lowenstein.
This report does not constitute a rating action.
|Primary Credit Analyst:||Bernard De Longevialle, Paris + 33 14 075 2517;|
|Secondary Contacts:||Gregg Lemos-Stein, CFA, New York + 212438 1809;|
|Lapo Guadagnuolo, London + 44 20 7176 3507;|
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