The Crucial Role of Governance in Mitigating the Risk of Greenwashing

How ESG criteria help combat Greenwashing

In recent years, there has been a significant surge in the demand for sustainable products and services. Consequently, numerous companies strive to position themselves as environmentally friendly, although not all of them truly live up to their claims. This phenomenon, commonly known as greenwashing, occurs when a company misleadingly portrays itself as environmentally responsible, which can result in a loss of trust and potential harm to both consumers and the environment. In this context, it is essential to acknowledge the relationship between governance and greenwashing, and to establish robust frameworks to ensure the reliability of corporate environmental, social, and governance (ESG) claims. Prioritizing the “G” in ESG is a significant way of mitigating risks and fostering trust among stakeholders.

Let us delve into how a company may unintentionally fall into the trap of claiming to be environmentally conscious while, in reality, they engage in deceptive practices. It is important to note that this behavior is not always malicious or intentional. In some cases, the people who perform the audits do not have the necessary knowledge to validate these claims. Several companies profess compliance with self-established standards and lead consumers to believe that they adhere to environmentally friendly practices based on their reputation as prominent brands. However, the reliability of the environmental, social, and governance (ESG) data provided in firms’ sustainability reports is often unaudited. If the disclosed ESG information is not reliable, a company’s greenwashing behavior can hinder the integration of ESG factors into investment decisions. It must also be acknowledged that, with the rise of greenwashing, companies face the increasing risk of encountering legal issues.

The misinterpretation of ESG criteria and the lack of a unified framework often cause companies to make superficial commitments rather than genuinely adhering to sustainable practices. In order to address this issue, it is imperative to establish a framework for governance professionals to build “greenwash-proof” organizations. This framework should encompass robust due diligence processes, independent audits, and clear guidelines for ESG reporting and disclosure. Companies must have internal controls in place to verify the accuracy and reliability of their ESG claims. Additionally, regulatory bodies and industry associations play a vital role in establishing industry-wide standards and monitoring compliance. By implementing such a framework, governance professionals will be able to ensure that their organizations are genuinely committed to sustainability and thus avoid the pitfalls of greenwashing. This approach would foster trust among stakeholders and enable informed investment decisions.

Research has demonstrated that the governance of individuals, procedures, and structures within a firm is more important than country-level factors for avoiding greenwashing. This highlights the crucial role of governance professionals in steering their organizations towards greater accuracy and transparency in their environmental claims. They have the responsibility to establish robust mechanisms and frameworks that ensure reliable ESG reporting, effective risk management, and adherence to sustainable practices.

As many governments are facing an impasse in addressing climate change, there is a growing belief that corporations must take action. Rather than solely assessing financial performance, proponents and policymakers advocate for evaluating companies based on their dedication to wider movements, such as the Sustainable Development Goals (SDGs) or the promotion of diversity, equity, and inclusion. This perspective seeks to foster alignment between businesses and these global objectives, while emphasizing the increasing responsibility of firms in addressing pressing environmental and social challenges.

Why Should We Prioritize the “G” in ESG?

Today, companies who make misleading claims about their ESG credentials will find themselves in the crosshairs of regulators, as well as consumer watchdogs like the Advertising Standards Authority, which take greenwashing very seriously.

Governance often receives less attention than the environmental (E) and social (S) components of ESG. However, with the increasing expectations for firms to demonstrate their ESG commitments and provide credible evidence to regulators, watchdogs, and courts, governance becomes crucial in mitigating the risk of greenwashing. In fact, governance will play a leading role in driving environmental (E) and social (S) initiatives. While this presents a great opportunity for companies, they must exercise caution not to take advantage of the lack of public knowledge. Ensuring that this opportunity does not turn into a threat requires ethical practices and standards.

Building Reliable ESG Oversight: 10 Key Actions and Beyond for Sustainable Success

Develop comprehensive policies aligned with recognized international standards to address environmental, social, and governance aspects.

Establish effective oversight committees, designate ESG leaders, and ensure stakeholder participation in decision-making processes.

Define achievable goals and regularly monitor progress using appropriate performance indicators.

Assess compliance with ESG policies through independent audits and involve external experts when necessary.

Communicate ESG performance transparently through regular and publicly accessible reports that comply with recognized standards.

Involve employees, customers, suppliers, communities, and shareholders in ESG oversight, consider their concerns, and gather feedback.

Conduct comprehensive assessments of environmental, social, and governance risks and their potential impacts.

Put in place specific policies, practices, and procedures to prevent or reduce negative impacts.

Educate employees and relevant stakeholders on ESG risks and how to address them through training programs and awareness campaigns.

Regularly monitor risks, adapt controls, and track effectiveness to address changing circumstances.

By implementing these procedures, organizations can strengthen the reliability of their ESG oversight and ensure it is conducted effectively and responsibly. This contributes to building a strong reputation and generating trust among internal and external stakeholders. The significance of ESG-related concerns is steadily increasing among consumers, particularly Millennials and Generation Z/iGens. These groups attach great importance to various socioeconomic factors, such as environmental protection, climate change mitigation, poverty alleviation, and the promotion of diversity based on race, gender, and sexual orientation.

This expanding consumer base holds considerable influence and actively makes purchasing and investment decisions based on ESG considerations. They, along with investors, employees, and society as a whole, expect companies to go beyond mere compliance with legal requirements. Instead, they demand a genuine commitment to sustainability leadership, which entails actively contributing to the UN Sustainable Development Goals (SDGs) and incorporating sustainability principles into the entire business model.

Furthermore, ESG criteria have gained popularity among investors as a way to assess companies’ financial risks, particularly concerning environmental practices. As a result, global ESG regulations are becoming stricter, with initiatives such as the EU’s Sustainable Finance Disclosure Regulation (SFDR) and the European Sustainability Reporting Standards (ESRS). The adoption of ESG regulations is increasing globally, as we can see, with the #EU at the forefront in terms of comprehensiveness.

In light of these factors, the question of “Why ESG, why now?” holds significant relevance. It is driven by a combination of shifting consumer values, investor demands for responsible investment options, and the tightening regulatory landscape. Embracing ESG principles is not only a prudent business decision but also a moral imperative in today’s society. By integrating sustainability into their strategies, companies can position themselves as leaders, drive positive change, and contribute to a more sustainable future for all.