ESG risks and opportunities are highly relevant as causes and drivers for positive or negative scenarios with a significant impact on a company's reputation or intangible assets. The following article deals with the relevance and assessment of ESG risks in practice. Special emphasis is placed on explaining the importance of stochastic simulation methods that enable a quantitative assessment of complex systems, such as environmental systems or social systems. The quantification of the financial impact of an environmental risk is illustrated using the currently particularly important topic of CO2 emissions. The article shows that advanced tools of stochastics and probabilistics makes our knowledge more multifaceted and diverse, but not inaccurate.
The acronym ESG stands for Environment, Social and (Corporate) Governance. General examples for the area of Environment are the amount of energy used, the share of renewable energy sources, climate change strategy and emissions. Social includes aspects such as respect for human rights, prohibition of child and forced labour, equal opportunities and diversity, workplace design and further development. The criterion Governance aims at the extent to which sustainability is structurally anchored within the company. This includes, for example, topics such as sustainability management, anti-corruption measures, environmental & quality management systems, financial sustainability and risk management systems.
In January 2018 BlackRock CEO Larry Fink proclaimed in his annual letter that, "To prosper over time, every company must not only deliver financial performance, but also show how it makes a positive contribution to society." In his latest 2021 letter to CEOs he could show that sustainability also drives better financial returns: "Over the course of 2020, we have seen how purposeful companies, with better environmental, social, and governance (ESG) profiles, have outperformed their peers. During 2020, 81% of a globally-representative selection of sustainable indexes outperformed their parent benchmarks." Fink predicted that in the near future, all investors will be using ESG metrics to determine the value of a company.
ESG risks and opportunities are highly relevant as a cause for risk scenarios, as they can have a significant impact on a company's reputation or intangible assets. In this context, it is shown that ESG risks also often have financial effects, which must be quantified as such and taken into account in the assessment of the overall scope of risk (aggregation of risk), the cost of capital and the degree of "threats to the existence" of a company.
The following article deals with the relevance and assessment of ESG risks in practice. Special emphasis is placed on explaining the importance of simulation methods that enable a quantitative assessment of complex systems, such as environmental systems or social systems.
Frank Romeike (2022): Simulation methods for quantifying ESG risks, in: Bavarian Journal of Applied Sciences, Deggendorf 2022.