Sustainable Banking and Financial Analysis:
Evaluating ESG Factors for Long-term Success
Environmental, Social, and Governance – or ESG for short, is a significant topic that affects companies of every sector at all levels around the world.
In fact, over time, the significance of ESG has grown and increased exponentially – especially in recent years, with innovations and technology creeping up, digitalization, etc. In fact, as time passes, ESG is becoming a rather crucial part of the corporate strategy of any organization – banks included. This is crucial because of the constant and stringent checks on the regulations, cut-throat competition, and constant technological disturbance.
Investors always want the best – so they demand greater accountability from businesses in terms of their environmental impact, social responsibility, governance, and signifying the need for absolute transparency of these factors.
The triad of ESG factors can be understood, only if there is a precise definition for each factor – for instance, Environmental factors require firms, and institutions to evaluate their ‘carbon footprint’ and energy efficient initiatives that might impact the surrounding environment; Social factors relate to relations with the employee in terms of diversity policies and good labor practices, and governance focuses on board composition, executive fee structures, etc.
Given that long-term success is the ultimate goal via ESG factors, a careful and effective evaluation of such factors must be kept in check – this can be done by employing metrics like sustainability evaluations, financial performance indicators, appraisals, etc.
ESG Factors: The Future of Financial Sector
With constant new trends emerging and capturing markets and the general public – some of the most desirable trends include ethical labor, ethical manufacturing practices, and committed action. Consumers, investors, and business leaders love this – and as a result, more companies seek to satiate these financial interests and desires with socially conscious concerns.
Banks and other financial service companies are one key industry that aims to align their services and operations in harmony with ESG metrics and standards. In fact, for such companies adding ESG factors into consideration isn’t just ‘the right thing to do’ – it is a business necessity.
Where banks and financial analysis is concerned, ESG factors are a set of standards that are used to check, review, and evaluate the ethical implications and sustainability of any business decision or investment made by the bank. This can be broken down as:
Environmental factor: This includes the factors that affect the environment, for instance, carbon footprints, energy usage, conservation of natural resources, water consumption, and management of waste. This basically includes the company’s dedication to reducing adverse impacts on the environment. The company aims to actively mitigate environmental dangers such as climatic changes and maintain a positive impact on the environment at large.
Social Factor: These involve the impact left on society in general, for example, labor standards and human rights, employee welfare and safety, customer satisfaction, community engagement and inclusion, etc. As you can see, this is a human-centric factor where the commitment of a company toward creative positive social impacts through ethical practices remains at the forefront. Consumer trust, loyalty, management of complaints, and disputes all form part of social factors in the ESG framework.
Governance factors: These relate to a company’s governing and administering structure; they include accountability, compliance, board composition, executive compensation, risk management, etc. It is concerned with making sure that responsible leadership promotes transparency and accountability at all levels of operations and services. This is rather important if a company wants to increase its stakeholder’s confidence in its operations.
The Importance of ESG Factors in Banks and Financial Services:
Financial institutions have the unique ability and competence to use influence to make positive changes for both the planet as a whole and the people living in it – therefore, by implementing ESG factors, several companies are able to do a ‘good deed’ for the greater good, whilst also maintaining their profitability. In the investing, banking, and insurance industries – companies are able to do this via sustainable practices, supporting social causes, and fostering governance. By doing so, a company has the advantage of leaving a positive impact on its consumers and investors.
Here is the importance of implementing ESG factors:
Better brand reputation: Financial institutions that prioritize the ESG factors are obviously given a competitive advantage over those that don’t – this is because such companies are perceived as responsible and ethical. As social and environmental issues build, only those organizations that respect such factors will be able to sustain a good brand image.
Easy access to investing Capital: Investors actively search for companies that like to ‘go green’, and adhere to ESG factors – they are more likely to invest in such companies, in comparison to those companies that don’t follow ESG operations and factors. Thus when analyzing the financials, an ESG-adhering company has a stronger chance to conquer, unlike a non-ESG-adhering one.
Higher customer loyalty: Almost every customer values social and environmental responsibility and that is the reason why they prefer doing business with a company that aligns with their perspectives and values – thus implementing ESG factors into a bank’s operations would lead to higher customer loyalty in the long run.
Lower Risk: Banks that don’t follow the ESG factors are putting themselves at a competitive and financial risk in the long term – there is only so much time a company can run without access to investors, customer loyalty, etc. On the other hand, banks that place ESG factors in the forefront, are better positioned to manage risks associated with the environment, and social issues.
Best ESG Practises for Long-Term Success: Value Creation
Thanks to the key benefits of ESG factors, banks and other financial institutions (and other companies!) have taken it in their stride to incorporate such factors into their decision-making processes. These are called ESG management practices and they aim to improve the accuracy, consistency, and transparency of ESG data.
New levels of Growth: A company following strong ESG propositions has the advantage of tapping new markets and expanding the existing ones. Such companies are given access, approvals, and fresh opportunities to reach top growth.
Cost Reductions: Companies that follow ESG factors and take them into consideration also have the benefit of cost reduction. By executing ESG effectively, a financial institution like a bank will be able to operate easily by combating and mitigating rising overhead expenses (raw-material costs, cost of consumption of water etc.)
Reduced legal implications: A strong ESG proposition allows banks and other financial institutions to achieve greater legal freedom and ease of regulatory pressure in comparison to ones that don’t follow it.
How ESG Factors Affect the Financial Analysis of A Company: ESG Investing and Financial Performance:
The financial analysis of a company refers to the streamlined process of evaluating the viability, stability, and profitability of any business, or project. However, there are situations where the financial analysis of a company may be positively or adversely affected due to implications and challenges. Where ESG factors are concerned, the financial analysis is greatly impacted – this is because such factors are beneficial for investment and decision-making.
ESG Investing = Lower Risk and Higher Returns
In some cases, it is shown that ESG investing roughly translates to Higher risk-adjusted returns but this may not always be the case. In fact, ESG investing affects the financial analysis of each company differently.
Overall, where banks with ESG adherence are prominent, there is a reduction in volatilities as compared to ones that don’t adhere to ESG. It is mentioned that by following ESG practices, companies have a much lower risk factor – measures for comparing risk-adjusted returns show interesting insights.
Conclusion
With ESG factors and practices leading the way towards sustainability, banks are off to a good start. However, this cannot be done alone via financial services. If companies want to address the challenges, then they have to take it into stride to follow a full-on role whereby they act as leaders to collaborate with policymakers, civil organizations, technology-based companies and other sectors across the economy, globally. Clubbing in the strengths, and mitigating the challenges, the banking sector can move forward for a better and more sustainable future with a top-notch financial analysis.
References
How ESG investing affects financial performance | Blog post | PRI (unpri.org)
What Is ESG Investing? – Forbes Advisor
ESG in Banking: The Future of the Financial Sector | Snowflake
ESG framework | McKinsey
Beyond Financial Performance: How ESG Factors Impact Companies and Investments (iriscarbon.com)
ESG in the Financial Services Industry | Deloitte US