KUALA LUMPUR: With companies’ environmental, social and governance (ESG) practices generating more investor interest, there is also a growing need for better clarity on the impact of ESG-related risks on various business segments.
According to Deloitte, the business context for ESG impact has been evolving rapidly.
This has made it challenging for corporate executives to translate global megatrends such as climate change, resource scarcity and population growth into tangible risks and opportunities for their business to manage.
“ESG impacts are generally longer-term in nature and in many cases, beyond the direct control of a company.
“This makes the linkage of ESG impacts to business value even more challenging. But methods of accounting for sustainability performance are advancing to meet this challenge,” it said.
To provide investors with better clarity, Moody’s Investors Service recently updated its environmental heat map – a risk assessment of various corporate sectors to reflect evolving ESG standards.
The report is especially relevant for Malaysian investors, considering that some of the country’s biggest export earners – from glove makers and palm oil producers to electronics manufacturers – have come under the spotlight for ESG-related issues.
These include the likes of Top Glove Corp Bhd, FGV Holdings Bhd and Sime Darby Plantation Bhd, which have been accused of questionable labour practices.
Moody’s in its report highlighted that climate events, the need to exploit natural resources (including land and water) and potential changes in greenhouse emission regulations expose these companies to moderate environmental risks.
“A number of food production companies, including palm oil, fruit grower and aquaculture businesses, remain dependent on water availability to maintain constant production levels. However, food production is likely to receive priority in water usage,” it said.
Nevertheless, companies within this sector have to actively manage these risks through measures such as diversification, production technology and financial derivatives.
“In addition, given the essential nature of food ingredients, companies are typically able to pass through resulting higher costs to customers,” it said.
In view of future carbon emission regulations that will lead to an increase in costs, Moody’s also raised the airline industry’s overall environmental risk to “high” from “moderate.”
“Passenger airlines, particularly larger carriers, remain well-positioned to meet challenges for at least the next five years.
“Many carriers will increase investing to modernise their fleets starting in 2022, supporting the expected modest annual improvement in the global fleet’s fuel efficiency.”
It added that the extent of competition across an airline’s international network will influence its ability to pass higher costs on to passengers.
“Market prices for offsets will become more transparent with growing demand, potentially lowering the current wide range of carbon offset costs across the globe.”
An analyst said ESG is becoming an increasing focal point for investors, especially within the airline industry. “As such, it is imperative for players within the airline industry to reduce their carbon footprint and improve their overall ESG score,” he said.
However, this can be challenging in light of Covid-19-related headwinds still being faced by the global aviation industry.
According to TA Securities, the outlook for the aviation industry is expected to remain lacklustre in the near term, as a resurgence of the Omicron variant is having a dire impact on international travel.
“While this has stalled the recovery of the aviation sector, there is a silver lining that the hospitalisation and death rates are still relatively low.
“Thus, we expect air travel activities to gradually ramp up as governments lift various travel restrictions after progressive booster vaccinations. Coupled with resilient domestic leisure demand, this will fuel Capital A Bhd (formerly known as AirAsia Group Bhd) and Malaysia Airports Holdings Bhd’s earnings recovery throughout 2022.”
Separately, Moody’s said it was reducing the overall environmental risk for automotive suppliers to “moderate” from “high.”
“Suppliers have less exposure to carbon transition risk than their automaker customers. Their customer diversity mitigates risk exposure to any one automaker and many auto parts are used in both traditional combustion engines and alternative fuel vehicles.”
However, Moody’s rated the overall environmental risk for automobile manufacturers at “very high”, given that the stricter carbon dioxide emission requirements and fuel economy standards are the sector’s main sources of environmental risk.
“Over the past two years, automotive manufacturers have taken mitigating action in terms of developing and successfully launching new, more carbon friendly models, especially battery electric vehicles (BEVs) and plug-in hybrid electric vehicles (PHEVs).
“Some countries have additionally offered sales incentives for the purchase of low-carbon vehicles, such as BEVs or PHEVs. These programmes are typically limited but will help automakers to increase volumes of new BEVs and PHEVs in the early phase after the product launch.”
On the local front, an analyst said the introduction of the duty exemptions for BEVs under Budget 2022 showed that Malaysia was on the right track towards reducing carbon emissions for its automotive industry.
“The duty exemption will help to spur more BEV cars in the country and also promote the ESG agenda for local automotive players.”
During the tabling of Budget 2022 last October, the government announced that it would provide full exemptions on import and excise duties and sales tax, as well as road tax (up to 100%) for BEVs.
Individual income tax relief of up to RM2,500 will also be given on the costs of buying, installing, leasing or repayments of BEV charging facilities.
According to the latest data by the Malaysian Automotive Association (MAA), a total of 508,911 vehicles were sold in 2021. Of these, only 274 units comprised EVs.
While no projection has been given, the MAA is confident that sales of EVs for 2022 “will be a lot higher”, especially in light of the tax exemption.
Separately, Moody’s raised its overall environmental risk for beverage manufacturers to “moderate” from “low”. “Companies, particularly alcoholic-beverage producers, rely on specific ingredients, some of which are difficult to obtain or substitute.”
Additionally, Moody’s also raised natural capital risks to “moderate” from “low” for tobacco companies and restaurant operators.
An analyst pointed out that local tobacco companies and breweries had very high ESG standards. “There is always a mistaken assumption that these companies don’t take their ESG agenda seriously.
“However, they are all making great strides in this area and are constantly winning accolades for their corporate social responsibility initiatives,” he said.
For the banking sector, Moody’s said financial institutions faced below-average risks from environmental issues, given the indirect nature of their primary exposures through investment and lending decisions.
“However, the transition to a low-carbon economy poses increasing business risks for banks because they face mounting pressure from customers, investors and regulators to meet broader carbon transition goals, given their role as capital providers.
“Although environmental risks may be significant for some of the banks’ exposures, the impact on their overall credit profile is typically tempered by portfolio diversification.”
According to PwC Malaysia’s 2021 survey on ESG readiness in the Malaysian banking sector, the industry still has room for improvements. “The level of awareness is encouraging but banks are not without their challenges when it comes to implementing ESG.”
PwC said overcoming the challenges involved in operationalising ESG requires a holistic approach.