A strong enabling environment can integrate ESG into infrastructure investments

As the impact of global climate change grows, so have private sector concerns about the negative impact of infrastructure projects on socio-economic-environmental ecosystems. The integration of environmental, social and governance (ESG) factors into infrastructure projects provides an opportunity for investors to reduce environmental and social risk and demand changes in ESG practices that promote investment in innovative, sustainable, and resilient infrastructure. This change in industry mindset is driven by investors who are hungry for assurances about the integrity of ESG implementation in infrastructure projects they’ve invested in. Increasingly, ESG considerations have evolved to become more than corporate social responsibility window dressing and ‘greenwashing’ of projects.

Involving ESG into decisionmaking

Integrating ESG into infrastructure decisions requires a systematic and verifiable governance (implementation) approach of a projects ability to reduce environmental and social risk alongside long-term value for investors.

The adoption and implementation of ESG factors in infrastructure projects is driven by a collective, and preferably voluntary, implementation of social and environmental considerations through improved governance and monitoring and reporting of compliance with ESG values. This requires adherence to prescriptive actions by infrastructure project proponents and investors who are then held accountable for financial returns and well as social and environmental stewardship. Thus, ESG factors are applied with the ultimate objective of accountability that measures projects or rates them, against criteria related to sustainability and societal impact. To ensure that this happens, the collection of ESG data should be encouraged by oversight organisations not only at the corporate level but also at an infrastructure asset level.

A recent example is the European Union (EU) ESG taxonomy that lays out conditions for ESG implementation and accountability. In addition, the U.S. Securities and Exchange Commission  recently announced that ESG accountability will be an important requirement and that its conditions should be monitored.

Mitigating greenwashing

Although billions of dollars are flowing into infrastructure projects that are implementing ESG factors, there are still skeptics who think that many of these projects are undermined by greenwashing - the process of conveying a false impression or providing misleading information about how a company's products are environmentally sound.

To combat greenwashing and mitigate ESG risks, there is a call for additional regulatory governance of infrastructure projects, and mandatory reporting, to test that stakeholder declarations of sustainability are accurate.

To mitigate actual greenwashing, as well as perceptions, full and consistent infrastructure project disclosure of ESG performance must be part of any project implementation that purports to be ESG compliant. This means that tangible project environmental impacts are identifiable and auditable - this will strengthen disclosure accountability.

ESG funds are expected to achieve a threefold jump in assets by 2025 and responsible investors want change so that the adoption and implementation of ESG factors is verifiable. Although it should be voluntary, there is a view that due to greenwashing, self-verification through the disclosure of information leads to unreliable reporting of actual compliance, which results in genuine ESG intentions by investors’ not being met. This is especially important when a project’s bankability is elevated through inaccurate favorable assessments of infrastructure projects. It is promising to see actions underway that help regulators to require the application of certain standards. This includes the EU’s taxonomy for sustainable activities, OECD guidance on strengthening ESG practices, and the Abu Dhabi Investment Authorities ESG policy, which is focused on public-private partnerships.

Integrating ESG is a challenge

While there is a move towards climate change mitigation and achievement of the United Nations sustainable development goals, the public sector can’t do it alone. It needs the participation of private investors to finance sustainable infrastructure projects that embrace ESG factors.  Preliminary evidence from GI Hub’s Infrastructure Monitor shows sustainable investments perform better than the overall infrastructure sector. Yet, despite progress made over the last 20 years, challenges remain that hinder the effective implementation of ESG best practices. These challenges include the absence of legal frameworks, data inconsistencies, the lack of comparable ESG criteria and assessment methodologies, and the impacts of global conflicts on the integrity of ESG funds.

A way forward

For ESG to be effectively integrated into infrastructure investments, it is necessary to strengthen the enabling environment. Specific policies to bolster ESG principles can assist this, for example:  

• Ensuring that implementation of ESG governance best practices, KPIs and policy are internationally acceptable and comparable standards are standardised and adopted by global investment institutions and development banks.
• Setting ESG targets that have tangible implementation timelines and accountability reporting.
• Adopting project contract monitoring policy and accountability reporting through mandatory annual ESG compliance reports.
• Creating a collaborative coalition of public and private sector partners who can initiate reforms, knowledge sharing and information dissemination.
• Incentivising ESG project innovations during the procurement stage through preferred bidder selection evaluation criteria.

Improved global practices and the implementation of policies that are harmonised internationally will most certainly improve ESG compliance, accountability, and mitigate greenwashing of infrastructure project’s ESG ratings.

This and related topics are analysed in GI Hub's Infrastructure Monitor 2021 report and ongoing series of Infrastructure Monitor data insights.