Governance - the 'G' in ESG

The assessment of how a company is governed is one of the three key factors in understanding ESG risks and opportunities. This is the ‘G’ in ESG.

The factors in this part of the ESG assessment all relate to how a company is governed; that is, how it makes its decisions, how its board of directors is established, operates and is remunerated, how it manages its risks and how it deals with the rights of shareholders.

There are many factors that make up the assessment of how a company is governed; some related to the company culture and its decision making processes but others that stray towards social factors, such as gender representation on the board of directors.

A company that is governed well works within its regulations and policies and is transparent and fair. Good governance mitigates and controls risks to avoid mismanagement, potential scandal and regulatory sanctions.

Shareholder rights are also key to good governance. Part of this picture is executive remuneration and avoidance of bribery and corruption, denuding shareholder value for the gain of individuals on the board or within the company. Avoidance of any conflicts of interest within a company shows good governance.

There is a natural conflict in many of the governance issues between whether a company is protecting shareholder interests best by simply maximising returns or by minimising governance risks. Tax strategy is one such factor, where it may make sense for a company to reduce the amount of tax paid in a jurisdiction where it is doing business but where the avoidance of tax could cause a feeling of unfairness for people living in that country; one example is the low taxes paid by Amazon in certain countries as a result of the routing of tax obligations through low tax jurisdictions.

Good governance also extends to a company’s data policy and security. Poor security measures can quickly lead to loss of data, inconvenience and financial loss to customers who entrusted their personal details.

Assessing how well a company is governed is therefore an important part of understanding its ESG risks. A well governed company will minimise their exposure to governance risks.