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The ABCs of ESG: Evaluating the Environmental Practices of a Company

The ABCs of ESG: Evaluating the Environmental Practices of a Company

Matthew Griffith, CFA, Senior Research Analyst & Brent Williams, CFA, Senior Research Analyst

You may have heard of ESG investing, but what is it really? ESG investing focuses on identifying companies that have strong Environmental, Social, and Governance ratings. While, on the surface, the Environmental component may seem to be the most straightforward and easy-to-understand category for ESG investors, we believe it is helpful to illustrate all of the major factors considered in this important area. In this part of our Perspectives series on ESG investing, we focus on the “E.”

The carbon footprint of a company factors heavily into its Environmental rating — both the amount of carbon generated as a result of a company’s operations, as well as the carbon impact of the company’s finished goods or services. For example, a company in the oilfield services industry (which provides tools, data, and analysis for energy producers) may emit little to no carbon in the creation and sale of its technology, but its services do have a carbon footprint given their end-use in helping to produce oil and gas. On the other hand, a large telecommunications company may emit carbon as it builds and manages its nationwide infrastructure, but the service it sells (cellular coverage) results in negligible emissions of carbon.

There are several other factors considered in Environmental analysis that go beyond carbon. Pharmaceutical companies have the benefit of little to no carbon footprint in both the way their treatments are produced and in the way they are administered; however, these companies are evaluated by how they handle other types of emissions from the creation of their medicines, and also by how they handle the disposal of special waste. Other major Environmental considerations that impact a broad-range of companies are: the usage of natural resources (notably land and water), energy consumption, and the treatment of animals. Companies are also evaluated by how well their suppliers handle the above-mentioned issues. This additional focus on suppliers incentivizes companies to work with partners that also consider their impact on the Environment.

The Environmental risks faced by a company can vary significantly from industry to industry. For example, the Environmental risks of doing business as an insurance company are much less compared to those faced by an oil refiner. However, in our opinion, it doesn’t necessarily mean that investors who invest in ESG should only invest in a narrow subset of industries with low Environmental risk or low overall ESG risk. This can lead to a lack of diversification and introduce other risks to an investor’s portfolio.

An increased focus on ESG investing is pushing companies to be more attentive to how they impact the world around them. By factoring ESG into portfolio construction, an individual investor has the ability to direct his or her investments towards companies that strive for excellence and push their industry peers to improve as well. At D.A. Davidson, we manage investment strategies that own stocks of leading ESG companies, while also considering how they all fit together within a diversified portfolio.

Additional Perspectives pieces on ESG can be found here. For more information, contact a D.A. Davidson financial advisor.

Source: Sustainalytics

Information contained herein has been obtained by sources we consider reliable, but is not guaranteed and we are not soliciting any action based upon it. Any opinions expressed are based on our interpretation of the data available to us at the time of the original publication of the report. These opinions are subject to change at any time without notice. Investors must bear in mind that inherent in investments are the risks of fluctuating prices and the uncertainties of dividends, rates of return, and yield. Investors should also remember that past performance is not necessarily an indicator of future performance and D.A. Davidson & Co. makes no guarantee, expressed or implied to future performance. D.A. Davidson & Co. is a registered broker-dealer and registered investment adviser that does not provide tax or legal advice. Investors should consult their financial and/or tax advisor before implementing any investment plan. Copyright D.A. Davidson & Co., 2019. All rights reserved. Member SIPC.


Research, ESG