Private sources of sustainable finance

ESG Regulations

INTRODUCTION

Traditionally, investors' primary concerns have been the potential rate of return and the
dangers associated with the investment that is being made. Profitability served as a yardstick
to assess a business's success. However, the idea has spread beyond only income and risk in
recent decades. The ability of the company's financial elements, its contribution to
environmental sustainability, and the welfare of the community in which it operates can all be
used to gauge its performance (Dina Hastalona, 2021). The concept of this investment was
developed, giving rise to the term "socially responsible investing," or SRI, which is
frequently used to refer to this type of investment. Because of this ESG can have a number of
beneficial consequences on a company's commercial performance, its use for the organisation
is crucial to its existence. (Li et al., 2018) states the quality of ESG disclosure has an impact
on a company's profitability, and ESG disclosure has a positive relationship with a company's
value. The incorporation of ESG into the company's operations will boost business
performance and have a positive effect on the performance of the company's stock.

(Hao Liang, 2020) mentions that the Corporate management and investor portfolio decisions
take into account environmental, social, and governance (ESG). The Environmental (E)
component specifically assesses a company's influence on the natural ecosystem. For
instance, this includes its emissions (such as greenhouse gases), the effective use of natural
resources during production (such as energy, water, or materials), pollution and waste (such
as oil spills), as well as innovative initiatives to eco-design its goods. The relationship
between a corporation and its employees, clients, and society is covered by the social (S)
component. As a result, it covers things like the company's efforts to keep loyal employees
(e.g., employment quality, health and safety, training and development), satisfied customers
(e.g., producing high-quality products and services that keep customers safe), and being a
good neighbour in the communities where it operates. The term "Governance" (G) refers, on
the one hand, to the customary corporate governance practises that force management to
operate in the long-term shareholders' best interests. A well-functioning board (e.g., one with
an experienced, varied, and independent composition), well-designed executive
compensation policies, and avoiding unethical behaviour like fraud and bribery are just a few
examples of how to protect shareholder interests.
ESG MEASUREMENT: PRESENT APPROACHES AND LIMITATIONS

Various ESG rating companies gather and compile a variety of data about a company's ESG
performance, including that firm's own disclosures, third-party reports (from NGOs, for
example), news articles, and proprietary research obtained through company interviews and
surveys. The results of this information include an overall ESG score as well as distinct E, S,
and G component scores. ESG ratings are frequently industry-adjusted (i.e., the ESG
performance of a firm is assessed relative to all companies within the same business sector
globally) and are typically given to publicly listed equities included in important global
equity indices.

KLD (now known as MSCI ESG STATS, with over 3,000 US firms), MSCI Intangible Value
Assessment (now known as MSCI ESG, with over 7,500 worldwide companies), and others
have developed some of the most popular ratings. Bloomberg, Morningstar, FTSE Russell,
Thomson Reuters ASSET4 ESG (now Refinitiv ESG, with 7,000+ global companies),
Sustainalytics Company Ratings (with 11,000+ global companies), FTSE4Good, ISS ESG
(Ethix), Oekom Corporate Ratings, GES International, Vigeo Eiris, S&P ESG Index, and
Trucost (including data from Carbon Disclosure Project), etc. It should be noted that biases in
ESG ratings may be caused by factors such as (1) size (larger companies may receive better
ESG reviews because they can devote more resources to preparing and publishing ESG
disclosures and controlling reputational risk); (2) geography (higher ESG assessments may be
given to companies based in regions with higher reporting requirements); and (3) industry
(normalising ESG ratings by industry can lead to oversimplifications). ESG ratings may be
retroactive and fail to recognise how a company may be genuinely trying to improve its
sustainability record, which is another problem.

Since different methodology and input are used by different ESG score providers, the ESG
scores of a same company may vary greatly among ESG databases. The ESG ratings' validity
is called into question because there is only a 0.3 correlation between ratings from different
sources. The poor correlation stands in contrast to credit ratings, where S&P and Moody's,
the two major providers, have a correlation of roughly 0.99. In (Chatterji, 2016) study its
describe the unexpected lack of consistency between social ratings from six reputable raters.

The authors explain the discrepancy in ESG ratings by pointing out the absence of a standard
definition of social responsibility and consensus on measurement methodologies. (Berg,
2019) By breaking down the gap in ESG ratings into its scope, measurement, and weights,
you can delve deeper into the cause of the conflict. 53% of the overall divergence can be
attributed to "Measurement" divergence, which occurs when raters use different indicators to
measure the same ESG attribute. Furthermore, 44% of the difference is caused by scope,
meaning that different raters include different features, and 3% is caused by varying weights,
meaning that different raters assign different weights to the separate components of the final
score. The idea that there is even debate over unquestionable facts that may be verified by
consulting public documents may surprise you.

GROWTH OF SUSTAINABILITY IN EQUITY MARKET

Investors are increasingly using sustainability-related indices to help them make investing
decisions in the equity markets, as seen by the ESG ratings for India. Globally, a large
number of indices function under the sustainability umbrella, and the majority of them are
utilised as signalling or evaluation instruments. They must meet a number of fundamental
requirements, such as transparency, accountability, and objectivity, in order to be taken
seriously as investment allocation instruments. In India, a number ESG indices have been
used with varying degrees of success:

1. In January 2008, the S&P ESG India Index was introduced. Investors can use the
index as a tool to include sustainability performance in their investment selections.
The largest 500 firms listed on the NSE were used to choose the 50 Indian companies
that make up the index. This selection procedure involved two stages.
2. Launched in July 2013, the MSCI India ESG Index is a capitalization-weighted index
that features companies with strong ESG performance in comparison to industry
peers. Large and mid-cap Indian enterprises make up this group. Investors looking for
a broad, diversified sustainability benchmark with a relatively low tracking error to
the underlying equity market can consider this index.
3. By identifying the most important climate change risks, as well as their sensitivity and
responsiveness elements, the S&P BSE CARBONEX, which was introduced in
November 2012, aims to give equity investors a cost-effective means of managing the
risks related to global warming. It adopts a strategic perspective on an organization's
dedication to climate change adaptation. With the constituent weights updated in
accordance with the firms' relative carbon performance as defined by the level of their
GHG emissions and mitigation programmes, the index evaluates companies from the
S&P BSE 100.
POLICIES AND REGULATIONS IN PRIVATE SUSTAINABLE FINANCE

Over the past ten years, the sustainable financing market in Asia has grown dramatically.
Green finance has received the majority of attention, but more lately, the market for social
finance has also started to grow. At the national level, a number of different nations have
created legislative objectives and innovations aimed at expanding the market. At the regional
level, Asian Development Bank has played a significant role.

The policies taken in India relating to ESG are follows,

1. The equity segment accounts for 75% of the market for sustainable financing, with
DFIs controlling foreign investment. Green bonds accounted for $8.6 billion of the
$30 billion market for sustainable finance in 2017.
2. In order to combine domestic and foreign sustainable funding in new social venture
funds, the Securities and Exchange Board of India introduced a new category of fund
in 2012 called the Alternative Investment Fund.
3. The Priority Sector Lending Rules were established by the Reserve Bank of India and
mandate that all banks lend at least 40% of their total funds to certain areas, including
housing, education, and agriculture.
4. The Indian Companies Act, which was implemented in 2013, mandated that all big
firms adopt a CSR policy and allocate at least 2% of their average profit over the
previous three fiscal years to CSR initiatives.
5. A fund called the Inclusive Innovation Fund, which the government assisted in
launching in 2014, aims to invest 20% of its proceeds in companies that create jobs
for the underprivileged.
6. 2018 saw the introduction of the National Guidelines on Business's Economic, Social,
and Environmental Responsibilities. India started a $1 billion outcomes fund for
education in 2019 after the success of the Educate Girls DIB.
7. Through the issuance of taxable bonds, tax-free bonds, and pooled financing, several
municipalities and utility companies in India have issued bonds that have raised about
INR 12,316 million (USD 205 million) to far. Pooled Finance Development Fund
Scheme Problems
a. The weighted average cost of capital is higher.
b. A strict escrow account system
c. Municipalities lack a framework for procedural direction.
 8. Tata CleanTech Capital Limited (TCCL), India's irst 'green bank', is a private non-
bank inancial company set up with support from the IFC,and has mobilised US$700
million from an initial investment of US$130million.

(United Nations Environment Programme, 2016) explains that triggers for funding tied to
sustainability are also being created through stock exchange reporting requirements. In the
past, quarterly earnings and other short-term performance metrics have been the primary
emphasis of company valuations. However, measurements for the long term, such the
effectiveness of energy consumption and the stability of corporate governance procedures,
are intended to be deconstructed by indices and ratings that evaluate sustainability
performance. Investors with long-term goals can benefit from a company's sustainability
valuation. One could argue that since most retail investors depend on the financial markets to
maintain and grow the value of their cash holdings over time, they tend to invest with long-
term horizons by default.

REFERENCE

Li, Y., Gong, M., Zhang, X. Y., & Koh, L. (2018). The impact of environmental, social, and
governance disclosure on firm value: The role of CEO power. British Accounting Review,
50(1), 60–75. https://doi.org/10.1016/j.bar.2017.09.007

Liang, Hao and Renneboog, Luc, Corporate Social Responsibility and Sustainable Finance: A
Review of the Literature (September 24, 2020). European Corporate Governance Institute –
Finance Working Paper No. 701/2020, This paper will appear in the Oxford Research
Encyclopedia of Economics and Finance. http://dx.doi.org/10.2139/ssrn.3698631

Chatterji, A.K., Durand, R., Levine, D.I. and Touboul, S., 2016. Do ratings of firms
converge? Implications for managers, investors and strategy researchers. Strategic
Management Journal, 37(8), 1597-1614.

Berg, F., Koelbel, J.F. and Rigobon, R., 2019. Aggregate confusion: the divergence of ESG
ratings. Working paper available at SSRN: https://ssrn.com/abstract=3438533

United Nations Environment Programme (2016). Delivering a Sustainable Financial System