Commodity trade: Time for legislatures to drive ESG transparency home

When Environmental, Social, Governance (ESG) first started popping up in the corporate world, it was born from a sense of socially responsible investing – which dates back decades – and wanting to do good. Back then, anything ESG (prior to the acronym being coined) was a bonus rather than an expectation or a regulatory or legal requirement. It was not until about 15 years ago that this started to change. ESG issues were first mentioned in the 2006 United Nations Principles for Responsible Investment (PRI) report comprising the Freshfields Report and the IFC’s study ‘Who Cares Wins’ - with the latter marking the first use of the term ESG.

ESG criteria was, for the first time, required to be incorporated in the financial evaluations of companies and 63 investment companies composed of asset owners, asset managers and service providers signed with $6.5 trillion in assets under management (AUM) incorporating ESG issues. To date, the signatories have multiplied by over 40 times and the AUM now sits at over $80 trillion. 

The pandemic has brought to light the importance of resilience and a stronger focus on energy transition. And with commodity-linked companies with sustainability already well woven into the fabric of their operations much more likely to secure a lower cost of capital and uphold a stronger shareholder pool, there is a significant benefit to ESG transparency which goes beyond PR. 

ESG is much more than just a desire to do good, after all. Over the past decade, governments, investors, and consumers are increasingly expecting businesses to actively manage ESG matters, which has resulted in governments introducing laws and regulations to steer this relatively nascent sector.

There has been a rise in regulatory and legislative instruments which are considered traditionally ‘soft law’ (UN guiding principles and the UN PRI, for example), alongside an uptick domestic legislation such as the requirement of businesses to disclose on matters relating to ESG, or to carry out specific actions such as mandatory human rights or environmental due diligence.

But these moves are not yet being implemented on a global scale and various governments are taking slightly differing approaches due to their historical and cultural differences within their respective legal systems, meaning that there is no one standardised set of laws. This leaves potential gaps in ESG frameworks, as it is unclear what is expected for international businesses on a level playing field. 

Considering this, there is certainly indication that further regulation is on the horizon, with a greater importance on effective multi-stakeholder engagement. By its very nature, ESG concerns how a company engages with and impacts the world – meaning that a businesses’ willingness to be transparent and open is paramount to the realisation of net zero emissions by 2050.  

But within the commodities trading sectors, ESG transparency is not necessarily something that corporates are synonymous with. Given the private and opaque nature of these businesses, a monumental shift is required if the industry is to achieve transparency in relation to ESG, which will take time and involve costs, and more importantly, willingness – something that has not yet widely materialised.  

With Trafigura having published its half-year results last week - showing an eight year high of $2.1 billion in profits - some discussion has been prompted around the company’s reluctance to go public. The trader’s success was largely down to a 19% growth in overall revenue as oil and copper prices hit strong rallies – two commodities that are both crucial to the green industrial revolution and have also received heavy scrutiny from investors in relation to sustainability. 

Responsibility no longer falls only on the producers of these commodities, and middlemen traders such as Trafigura are experiencing an increasing amount of investor, bank, and consumer pressure to be more transparent. Despite its booming business and reaping the rewards from a soaring demand for copper amid the green revolution, Trafigura has said it does not plan to go public – a move which would certainly improve its reputation and visibility.

Of course, there are not yet any contractual obligations for commodities traders to go public. But there are initiatives encouraging such openness, like the Extractive Industries Transparency Initiative (EITI), which works with producing countries and their national oil, gas and mining companies, global traders, and civil society to implement a global standard to promote the open and accountable management of extractive resources. 

The EITI has had success in the private sector, with Trafigura having signed up to the voluntary disclosure programme, followed by Gunvor and Glencore – as well as around 60 other oil, gas, and mining companies. But even the most open from that list have the transparency of fog.

The idea is that the initiative and the list of converts balloons from strength-to-strength, especially considering the undisputed benefits of transparency for all stakeholders, such as promoting greater competition, improving access to capital, and making trading more efficient. Although unless there is a contractual obligation, progress is reliant on whether companies will volunteer to attempt to adhere to specific principles - or tap sustainability-linked debt (for which cost of debt generally is said to tighten between 5%-10% of the margin if KPIs are met) more readily.

While the EITI’s advancement is a move in the right direction, it seems that in terms of ESG standards, there is only one way to go and that is towards greater regulation and the greater imposition of hard-edged penalties for non-compliance – especially if the industry is to avoid gaps left by non-standardised government approaches.  

The longstanding argument for commodity trading opaqueness – first mover advantage – largely died with the advent of the internet. Ironically, the new first mover advantage, at least in terms of cost of borrowing and customer loyalty, is ESG transparency. But self-policed ESG-linked deals have too little credibility going forward – future deals must be transparent, independently audited and be seen to generate penalties when KPIs are not met, if the commodities trading sector is to have any real ESG credibility.

Blockchain is being touted as a partial potential solution to the credibility gap, and blockchain-based commodity trading platforms, such as Komgo and Forcefield, are a start. But these are basically supply chain finance developments and will do little to enhance ESG-linked credibility unless there is a standardised legally binding framework for industry-wide ESG compliance. So again, more stringent regulation is the driver here. 

Become a TXF subscriber for unrestricted access to TXFnews.com 365 days a year

Contact us for individual and team rates by emailing subscriptions@txfmedia.com

Take a look below at a selection of exclusive subscriber articles published last week

ICC’s export finance sustainability initiative white paper due
The ICC Global Export Finance Committee’s Sustainability Working Group (ICC-SWG) is making progress, with a white paper on how the industry aims to fulfil the UN’s sustainable development agenda - in a bid to develop both ECA policy and product - due to be published this month. Findings from the recent industry-wide survey commissioned by the ICC-SWG can also be found here.....Read on here

Sullivan: ESG in trade and export finance
Mark Norris, partner at Sullivan, presents the first of a series of seminars on ESG in trade and export finance - 'Progressing from ambition to impact'.....Read on here

Energy transition in Africa - part 1: Putting energy transition into context
It is estimated that over 600 million Africans do not have access to power, a figure that is expected to increase by 40 million per year. This rapidly growing need for energy amidst a deepening climate crisis poses a problem; how will African nations meet the energy needs of its people while keeping carbon emissions to a minimum?...Read on here

IFC eyes green loan for social infra schemes in India
The IFC is eyeing a 10-year green loan (with a two-year grace period) of up to...Read on here 

World Bank launches EoI for consultants on Kenyan PPP
The World Bank has launched a call for expressions of interest (EoIs) from prospective consultancy firms to assist the multilateral’s due diligence on the...Read on here

Ruta del Sol 3 gets debt to reactivate
Yuma – the concessionaire on the 465km Ruta del Sol 3 highway PPP project in Colombia – has closed on a...Read on here 

Gammon selling stake in Vizag Port
Gammon Infrastructure Projects plans to sell up to 35% of its 78% stake in the Vizag Seaport PPP in Visakhapatnam Port, India. Gammon will be seeking....Read on here

Uralkali closes on upsized $1.25bn ESG-tied PXF
Russian potash producer Uralkali has secured a new five-year $1.25 billion sustainability-tied PXF – the first...Read on here

Madden promoted to director of MUFG's Dubai corporate advisory
Timothy Madden was promoted from vice president to director of MUFG’s corporate advisory in Dubai this month. Madden will focus on capital structure advisory, as well as....Read on here