Risk that won't come out in the wash

The consequences of greenwashing hit global front pages at the start of June this year when DWS’s chief executive, Asoka Wöhrmann, resigned in the wake of police raids of the fund management firm’s headquarters in connection with accusations that it had misrepresented the environmental, social and governance (ESG) credentials of its investment funds.

Interestingly, even most critics of DWS acknowledge that the firm had genuine ambitions in the ESG space. The most common interpretation of its greenwashing is that it allowed a gap to develop between ambition and reality. A world of increasing scrutiny on ESG credentials and emissions-reduction expectations is, ironically, allowing greenwashing to become more of a grey area.

“Greenwashing used to be thought of in fairly simple terms – a form of marketing spin that accentuated the good a business was doing for the environment while covering up the bad. But understanding has got more sophisticated as the market has developed. Greenwashing might not even be deliberate – it could happen by not telling the whole story about environmental performance or impacts,” explains Belinda van Eyndhoven, head of sustainability at Westpac in Wellington.

Westpac’s Auckland-based head of sustainable finance, Joanna Silver, adds: “As recently as the end of last year, the examples of greenwashing we were seeing globally were typically the more obvious, deliberate ones where there is clear intention to deceive stakeholders. More recently, we have seen examples of what might be considered ‘sins of omission’ – not just at corporate level but for funds, and products and services.”

This could mean blurring the lines between actual emissions reductions versus carbon offset purchasing, or a sleight of hand on the timeline of a company’s environmental transition. Silver says a common approach for companies that want to appear ambitious but are reluctant to commit the required capex todeliver rapid environmental change is to make long-term net-zero ‘commitments’ without a clear transition plan. Usually this is accompanied with medium-term targets that fall beyond the likely tenure of board and management, and which have little or no material interim capital commitments.

It is not that this type of more nuanced greenwashing behaviour has only recently been defined as greenwashing. It is more accurate to say that developments in sustainable finance and sustainability reporting are increasingly allowing stakeholders to identify and penalise it.

This is not just an offshore phenomenon, either. In July this year, the New Zealand Financial Markets Authority put KiwiSaver and other managed funds providers on notice for potentially overselling their green credentials. The FMA noted some “blurring of the line” on ethical investments and warned fund managers to “take the necessary care not to mislead or confuse investors with greenwashing”.

Several New Zealand fund managers have privately told KangaNews their firms are increasingly wary of making ESG claims about investment products because of fear of being caught up in the kind of scandal that has engulfed DWS.

Again, it is not necessary to be a malicious actor to end up on the wrong side of a greenwashing accusation: DWS’s incoming chief executive suggested in August that “ambiguous rules” were partly to blame for the firm’s stumbles, citing the debate over whether nuclear power should be considered a green energy source as an example.

Saying nothing is not an option. New Zealand’s progress toward a mandatory reporting regime in line with Task Force on Climate-Related Financial Disclosures (TCFD) guidelines will require adherents to make environental statements. TCFD reporting is relevant, van Eyndhoven suggests, because it is a sign of a maturing sustainability discipline. This comes with additional regulation, standards and guidance.

“Any environmental pronouncements or disclosures a business makes carry the potential for greenwashing,” she adds. “It is important to remember, though, that many mandatory disclosures relating to greenhouse gas emissions reporting under this regime need to be externally verified. This goes some way to limiting greenwashing risk. Companies are more likely to go astray in their voluntary claims than they are on the mandated side.”

Where climate risk reporting does pose a risk, van Eyndhoven continues, is where a company reports in line with External Reporting Board standards and uses the fact it is doing so as the basis of a claim to environmental credentials – but in fact its disclosed performance could be bad.

She explains: “Just because a business receives the tick for reporting in line with standards does not mean it is performing well. Poor performance is not the same as greenwashing but it can become such if misleading claims are made.”

On the other hand, the emergence of measurable and comparable ESG reporting also provides companies with an opportunity. Greenwashing risk is and will become a greater part of the mainstream risk management process, so there is little point in companies attempting to avoid the type of disclosure that brings this risk into play. Far better to seize the opportunity to be a market leader, be transparent and deepen trust with stakeholders – and enjoy the benefits.

“The competitive advantage of being able to demonstrate the extent of a business’s climate change strategy to stakeholders – customers, staff and investors – is huge,” Silver suggests. “This is especially the case in sectors with a relatively small number of players in a local economy, such as energy, property, freight, and ports and airports. When a company gets things right it raises the bar and demonstrates an edge over its competitors.”

The main means by which to combat greenwashing risk is to embrace a culture of transparency. The context is that, in the emerging reporting environment, companies increase their greenwashing risk by not disclosing things as well as by what they do disclose. In effect, it is no longer an option simply to opt out of making ESG claims.

“The answer is not to avoid disclosure and it is also not sufficient to stick to high-level disclosures,” says Kate Archer, director, sustainable finance at Westpac in Auckland. “The market needs to be able to make a call on credibility, which means transparency about how environmental risk is being tackled.”

There are material penalties for greenwashing. New Zealand’s Fair Trading Act includes specific guidance on greenwashing with institutional fines for companies and individuals found guilty of it. But the bigger penalty is likely to be in public perception, in a world with increasing focus on ESG credentials.

“Social licence is a much more fluid concept than it has been historically, and this is because of an engaged and connected stakeholder base. It becomes a case of having a privilege to operate, not just a licence. It requires trust, and this comes from authenticity and transparency,” Silver says.

She argues that it is possible to rebuild trust – one or two missteps can be forgiven if they are caught and addressed early enough. But it is better to acknowledge and clear up a mistake than to avoid disclosure. “This is because trust comes from transparency,” Silver continues. “It is a circular argument: it is easier to have social licence, and to rebuild it if necessary, if an entity starts on the right foot with a transparent approach.”

It is a learning process – for banks as much as it is for corporate entities. For instance, Silver highlights Westpac’s early decision to publish its lending exposure to fossil fuels at the same time as it disclosed its climate change solution lending. “Transparency is the key to sustainable finance and this means being open about negative as well as positive factors,” she explains.

Silver continues: “As climate change impacts increase in frequency and severity, it is inevitable that stakeholders across the economy will expect more climate disclosures and that they will be more demanding of what they receive. Since providing data entails making a claim, and claims carry the potential for greenwashing, it is critical to provide the best information – and as much third-party verified information as possible – from the start. Companies need to be on the front foot with the good and bad.”

It is the same in sustainable finance. Entities that look for reward in return for immaterial targets in sustainability-linked financing, or rely on minimal disclosures on targets or green assets, will find it hard to access sustainable finance – and, increasingly, finance of any kind. Silver says Westpac would find it hard to participate in a sustainability-linked loan that did not ambitiously address obvious and material ESG issues the borrower is facing.

She adds that sustainability and standards are evolving fast – as is the role banks play in financing the direction of travel for borrowing entities. “As a major provider of capital to New Zealand’s economy, Westpac feels pretty strongly that it has to support its customers to achieve their sustainability goals in a credible and transparent way.”