How to evaluate corporate sustainability?

How sustainable are the companies in my portfolio? What aspects can I improve to become more sustainable? How is sustainability performing in my sector?

modefinance has worked hard to develop a tool that provides clarity in the world of ESG evaluations, where there are still many uncertainties.

This has resulted in ESG Advanced, an innovative model designed for the business world that offers an in-depth analysis of the environmental, social, and governance (ESG) pillars.

ESG Advanced allows the user to choose between automating part of the responses, using internal and third-party databases, or manually entering all the information. This dual approach enables a more in-depth ESG assessment, further enriched by the transition risk model and a sector-agnostic questionnaire dedicated to the individual E, S, and G pillars, thereby including essential data that a fully automated approach cannot guarantee.

In accordance with Global Reporting Initiative (GRI) standards, ESG Advanced is suitable for both self-assessment of entities and analysis of corporate portfolios on behalf of third parties such as banks, consulting firms, and financial intermediaries.

The ESG Advanced model, integrated into modefinance’s Rating as a Service platform, Tigran, represents an advanced tool for corporate sustainability evaluation. Although the platform offers an intuitive interface and immediate access to the questionnaire, unlike the ESG Automated - completely automated - it requires a more structured process, based on the completion of multiple sections and the variety of questions presented. Each pillar analyzed, in fact, requires a detailed collection of information, with questions ranging from dichotomous (Yes/No) to multiple-choice, thus ensuring a more in-depth analysis.

As with all other ESG models from modefinance, the scoring scale of the Advanced model is structured into the seven classes described below:

The analysis includes the models of Physical Risk + Transition Risk + Advanced E + Advanced S + Advanced G

PHYSICAL RISK

The physical risk model measures the exposure of the company’s local units (such as production and storage sites) to nine types of physical risk events (storm surges, eruptions, fires, etc.). In addition to exposure to extreme physical events, which is closely linked to the company’s geographic location, the model also considers the vulnerability of assets, depending on the type of activity carried out by the company. Consequently, the final physical risk is recalibrated by taking into account a materiality factor.

TRANSITION RISK

The transition risk, on the other hand, represents the economic and financial impact that companies may face due to regulations aimed at reducing carbon emissions and promoting the use of renewable energy, primarily the “Expectations of Oversight on Climate and Environmental Risks” by Bank of Italy, as well as regulations like GRI and EFRAG.

This risk includes costs for technological adjustments, changes in consumer preferences, and market confidence. modefinance has developed a specific questionnaire to assess these impacts, allowing for automated quantification of transition risk.

modefinance’s transition risk model evaluates five sections:

• Energy consumption and mix
• Energy efficiency
• Greenhouse gas emissions
• Research and development
• Environmental impact.

Although there are five sections, the resulting evaluations amount to only four since the Environmental Impact (included as an optional section) is not part of the weighted average. However, if the user answers the relevant questions, this aspect can positively influence the final score. The assessment is based on a comparison with a sector benchmark.

ADVANCED E

Since the Advanced model also includes physical risk and transition risk, the data collected at the beginning of the analysis is automatically integrated into the Advanced E model, which encompasses four sections:

• Climate change mitigation
• Sustainable use and protection of water and marine resources
• Research and development
• Transition to a circular economy.

The score for each section is calculated based on the responses provided and the information automatically acquired. The final score is obtained from the weighted average of the sections, supplemented by the result of the Physical Risk Mitigation, a dynamic question that is activated in the final calculation phase when the physical risk falls between S4 and S7 (severe risk).

In such circumstances, the questionnaire is supplemented with an additional question to assess the company’s awareness of its exposure to extreme risks and to verify whether it has already adopted mitigation measures. If the answer is positive, the penalty associated with physical risk may be reduced or even eliminated.

ADVANCED S

Within the Advanced model, the S pillar is divided into four sections:

• Employees
• Supply Chain
• Community
• Check Controversies.

The Check Controversies section includes two specific questions regarding exposure to controversies related to privacy violations and the negative impact of business services on consumer health. The score for this section is not included in the weighted average for the final result, but it functions similarly to physical risk: if the answer is positive, it lowers the overall score, which is calculated by considering all the other questions.

Essentially, if a company is involved in incidents of privacy violations or has offered products and services that have compromised consumer health, the score for the Social pillar is reduced. Conversely, if there are no such incidents, the assessment remains unchanged. 

Moreover, similar to the Environmental pillar, there are also dynamic questions in the Social pillar. Specifically, for companies with more than 10 employees, the percentage of workers belonging to protected categories or disadvantaged individuals is requested. This question is not posed to companies with fewer than 10 employees. Similarly, the question regarding the Legal Rating is excluded for companies with revenue below 2 million euros, as, according to the guidelines of the AGCM (Italian Competition Authority), only those exceeding this threshold can obtain the Legal Rating.

ADVANCED G

The Governance pillar follows the same approach as the Environmental and Social pillars, with a questionnaire divided into three sections:

• Governance structure
• Governance responsibility
• Materiality analysis, stakeholder engagement, and CRS.

Additionally, similar to the Social section, there are extra questions to check for the presence of controversies. These are not included in the initial evaluation but are applied later as penalizing factors. These may include multiple environmental regulation violations, instances of corruption, discrimination, and non-compliance in marketing communications. Once the evaluations for each pillar are obtained, they are aggregated through a weighted average to calculate the final score.

In summary, ESG Advanced is an innovative and flexible tool for assessing corporate sustainability, designed to offer a comprehensive and precise analysis of the three pillars: Environmental (E), Social (S), and Governance (G). Compared to ESG Automated, ESG Advanced introduces a manually completed sector-agnostic questionnaire, dynamic questions, and the Check Controversies sections, thereby enriching the evaluation of sustainable business practices.

The model assigns specific scores to each section, which are then aggregated by pillar and combined into an overall score, reflecting the company’s performance against relevant benchmarks. This process helps identify critical KPIs and allows companies to actively work on weaker areas to improve their sustainability performance.

Although the questionnaire does not change based on the sector, the responses carry different weights due to specific weighting maps, ensuring a personalized evaluation tailored to the materiality of the entity being assessed.