Sustainalytics’ ESG Risk Ratings issue – Carbon-Products and Services – refers to a company’s management of the energy efficiency and/or GHG emissions of its services and products during the use phase. This does not include carbon risks related to financial services, which are considered within MEI.17 ESG Integration-Financials.
Carbon as an Impact of Product and Service Use
According to estimates from the World Resource Institute, over 70 percent of global GHG emissions are associated with the production and use of energy. This includes emissions from activities like heating and cooling, transportation, manufacturing and other industrial processes. Companies who generate revenue from these activities – such as those who build vehicles, aircrafts, appliances, or other types of machinery – are accountable for carbon released during use by consumers, and as a result may face risks from these emissions.
As a result of these trends, incidents relating to the carbon impacts of products and services have begun occurring worldwide, driven by legal and regulatory challenges against companies with particularly high carbon product or service portfolios, along with reputational risks associated with these offerings. Examples of incidents include lawsuits from subnational governments against emitting companies over the physical impacts and costs of climate change, along with NGOs or government reports identifying gaps or misalignments in the transition strategies of companies.
Assessing the Unmanaged Risk of Carbon – Products and Services by Industry
Sustainalytics’ ESG Risk Ratings on this issue combines the risk a company cannot manage due the nature of its business model and the quality (or lack thereof) of its management practices. Across Sustainalytics’ comprehensive research universe (coverage of over 4,500 entities), the Carbon – Products and Services MEI is material for approximately 650 companies, spanning 15 industries and 21 subindustries. Companies involved in oil and production (in addition to coal extraction) face the highest unmanaged risk to this MEI, as identified in the figure below. This is followed by companies
(Source: Sustainalytics, June 2022)
Despite well documented evidence of the relationship between these offerings and climate change, the carbon impact of many of these products and services remain high. To reduce emissions, governments worldwide have begun implementing regulatory limits to curb emissions in key sectors. For instance, in commercial transportation, the carbon impact of vehicles (including passenger cars, trucks and buses) is being addressed through higher fuel economy requirements and the push towards electric vehicles (EVs). In other emitting sectors such as oil and gas – one of the most significant contributors to global GHG emission releases – product related emissions are being addressed through clean fuel standards and other similar policy instruments. Using our ESG Risk Rating framework, investors can clearly see which companies are most exposed to this important and growing issue and how well they are managing their related risks.
As global carbon budgets are tightened, companies that are not managing their carbon risk, or aligning to low carbon business models, will face increasing exposure to regulatory frameworks and associated operational costs. Strong management and reduced exposure to carbon issues, can help to reduce carbon risk and enhance the future resiliency of companies.