Measuring ESG to understand value in infrastructure investments

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Measuring ESG to understand value in infrastructure investments

3 minutes
May 30, 2020 11:26 am

There is growing recognition in the industry and academic field alike that an effective analysis of ESG is fundamental to understanding the value of an infrastructure company. But in order to understand why ESG matters for infrastructure, we first need to understand why infrastructure has value.

The ambition of the research on ESG at EDHECinfra is to map a well-defined set of measurable and robust ESG characteristics and metrics to a “general theory” of the value of infrastructure investments. Only then can ESG play its part in the investment decisions investors have to make.

Infrastructure assets have social, economic and financial value. In other words, infrastructure assets have value because they are useful, socially acceptable and financially viable (at least from a cost-recovery perspective to ensure adequate maintenance, which conditions the other two pillars of value).

Our first task is to develop an intellectual and technical framework to document the links between the ESG characteristics of infrastructure companies and their three different pillars of value.

A second, transversal perspective is to look at Environment, Social and Governance characteristics as families of risks and impacts. Impacts (i.e. growth creation, improvement in living conditions, safeguarding resources, protecting the environment etc.) and risks (i.e. climate change, likelihood of penal regulation etc.) posed by ESG issues to infrastructure companies directly determine the usefulness, social acceptability and financial viability of infrastructure assets.

This second dimension distinguishing between impacts and risks is the where ESG and investment management meet. But it can only be documented properly in relation with the above theory of value of infrastructure assets, otherwise it is not clear why certain data points should matter more than others, if at all. The intersection of a theory of value with a framework to capture information on risks and impacts is the cornerstone that defines the materiality of ESG for infrastructure.

This intellectual foundation is often what is missing in ESG standards and reporting. Over the years, several tools and standards have been developed support the incorporation of ESG metrics into infrastructure asset analysis. In a forthcoming paper, we review 17 commonly used tools, standards and guiding frameworks and sifted through approximately 700 metrics that they employ to measure and proxy ESG indicators.

Unsurprisingly, we find much heterogeneity in the way ESG is defined, measured, reported and scored.  Further, the metrics captured are biased, focusing on almost only on reporting some kind of impact while shedding little light on the risks that arise from ESG. Specifically, 93% of reviewed metrics focus on impacts while only 7% capture risks.

To address these issues, the EDHECinfra ESG research program is developing several initiatives (with the support of Natixis):

  • A taxonomy of ESG impacts and risks relevant for infrastructure companies, mapping each component back to a theory of infrastructure value (usefulness, social acceptability and financial viability).
  • An ESG meta-standard: a database that maps and categorises the 700 metrics we reviewed in line with the taxonomy. The meta-standard is structured in a manner allowing the mapping of data to reviewed measures, making the meta-standard ‘inter-operational’ within all existing ESG tools and standards.
  • A series of scalable data collection projects using deep-learning techniques to create a global, coherent and consistent data feed of asset specific characteristics that can inform the assessment of the ESG impacts and risks, populate standards and explain how ESG drives value in infrastructure companies.

In a forthcoming paper, we will describe the first results of these initiatives and draft a roadmap that combines these initiatives into our project: documenting the materiality of key ESG characteristics for all infrastructure, everywhere. We firmly believe that being able to uniformly quantify individual metrics of the ESG universe will translate to developing comparable ESG scores of infrastructure companies and can allow the benchmarking of individual infrastructure assets to support current and future policy and investment decisions.