Grey areas of ESG investing

The battle against climate change has prompted governments and companies to set ambitious goals with regard to the energy transition. EU member states, for example, have pledged to become climate-neutral by 2050. Many companies have committed themselves to similar goals. 

However, corporate targets to reach net zero emissions by 2050 could be jeopardized. In spite of the amounts of capital invested in renewable energy, fossil fuels still represent 80% of the world energy mix. Moreover, because of the recent geopolitical turmoil, European countries such as Germany and Austria have announced the reopening of old coal plants.

For investors it is important that a company in which they want to invest has access to a reliable and affordable energy supply. After all, poor access to energy is negative for business operations and could affect a company’s profitability. From an ESG perspective, this situation raises a dilemma. Ideally, ESG investors want to invest in companies that have a limited carbon footprint or are working towards the goal of net-zero emissions. For many of these companies, electrification of energy use is at the centre of their decarbonization plans. However, electric grids in most of the world are still powered by fossil fuels. This makes it very difficult for companies to become carbon-neutral in the short term.

To give an example: a large US water utility uses a lot of electricity for its business operations. More than 80% of this company’s indirect GHG emissions – also known as Scope 2 emissions – is related to pumping water. Ideally, this company would source more renewable energy to reduce these emissions. However, this can prove challenging in the short term, since 60% of the US electricity generation comes from fossil fuels.

In the long run, the situation might change for the better. Many government initiatives, both in the US and in Europe, are underway to reach climate neutrality by 2050. This also involves investments in a better energy infrastructure, where renewable energy is incorporated into the electric grid. For companies striving to become climate-neutral, such initiatives could be instrumental in reaching their climate goals in the longer term. 

¹ ESG stands for Environmental Social and Governance. It refers to investment criteria related to the environment, society and corporate governance.