Why ESG materiality cannot be a fixed goal

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On the one hand, investors could let bad labor practices slip for a “white label” apparel manufacturer with no brand awareness and therefore little to no reputational risk. On the other hand, they can follow the principle of “double materiality” favored by the EU and the Global Reporting Initiative (GRI), which, in addition to the potential impact of sustainability factors on a company, also seeks information on social and ecological impacts.

“The danger here is that [double materiality] can be perceived as a lack of focus on investor concerns, ”they said.

The US Sustainability Accounting Standards Board (SASB) avoids this by adopting the more investor-focused definition of materiality given by the Securities and Exchange Commission. However, it ignores the fact that some non-issues can now invade the realm of materiality over time, such as how aggressive corporate tax avoidance policies have recently emerged as a central reputational and regulatory risk for investors.

The different time horizons of investors must also be taken into account. “A day trader will not worry about the possibility of stricter labor laws in five years,” they said. “A pension fund with obligations to its beneficiaries decades from now is more likely to search the horizon for structural changes in the economy and society.”

The size of an investor’s mandate can also affect their view of materiality, the two added. While a stock-picking hedge fund may favor companies that minimize their tax exposure, a universal manager who owns public companies in an economy will likely argue that avoiding one company will ultimately negatively affect its other holdings.

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