Regulatory pressure, consolidation mark evolution of ESG data industry

THE burgeoning environmental, social and governance (ESG) data sector looks set to get even bigger.

According to Opimas, a management consultancy based out of the United States, the global market for ESG data surpassed US$1 billion for the first time in 2021, and may be heading beyond US$1.3 billion by the end of this year, given its impressive 28 per cent annual growth rate over the past five years.

Dale Hardcastle, expert partner and director at Bain & Co’s Global Sustainability Innovation Center, said that the total ESG market offers a roughly US$2 billion opportunity, out of which 40 per cent would be in the core data and research segment.

Vivek Lath, partner of McKinsey & Co, said that the total investible market of ESG data is growing at least between 20 and 25 per cent year-on-year, although he did not specify the market size.

Regulations fueling growth

Industry players and analysts cite regulatory pressures as the main demand driver for ESG data, whether it’s towards greater scrutiny on ESG ratings, or pressure on companies and investors to have better monitoring and disclosures.

Other demand drivers include the scaling up of advanced data to enable forward-looking models; the integration of financial and ESG data; as well as portions of investor-paid ESG ratings to potentially become issuer-paying, said Hardcastle.

Another factor is the expansion of data coverage into emerging markets and private companies. Traditional rating agencies are still largely reliant on public disclosures by listed companies, opening up opportunities for ESG-focused startups to gain a foothold.

Online portal ESGenome, which was recently launched by the Singapore Exchange (SGX) in collaboration with sustainability reporting startup World Wide Generation, is currently focused on sustainability reporting for listed companies for now.

But SGX head of research and products Chan Kum Kong said that the plan is to also build a database of private-company information. “The network effect of this database will grow incrementally because once we have that public plus private, your banks, your private equity, your venture capitalists can start to come in and use this. Then the network effect on users comes on,” he said.

Potential risks

While tighter regulations are a big driver of demand, they are also a major source of risk for ESG data market players.

McKinsey’s Lath said that changing regulations and new standards could lead investors to change their boundary markers and influence the data that they need to collect.

“Companies which are in this domain, they really need to think about, ‘How do I keep on evolving my value proposition?’” he said.

The political backlash against ESG, primarily among Republicans in the United States, as well as the emerging phenomenon of “greenhushing” — where companies and investors prefer not to implement any green strategy or disclose any commitments or actions taken out of fear of being accused of greenwashing — are two other emerging risks, said said Daniel Klier, chief executive of sustainability data platform ESG Book.

How this market would evolve

The ESG data space has seen some consolidation in recent years, such as the acquisition of Sustainalytics by Morningstar in July 2020. Some believe this trend will continue to some degree.

Manjula Lee, chief executive officer of World Wide Generation, told The Business Times that she has received acquisition offers for the company she founded “many, many times” but has declined all of them.

New entrants may find it hard to break into the space as regulations force consolidation and create larger incumbents.

Jack Lin, president of Asia-based ESG data platform MioTech, said that large amounts of capital and lead time are needed to develop a credible solution and build a database, and it would be a challenge for new entrants to overcome.

The high barriers to entry also come from customer stickiness, noted Lath, as companies or investors encounter high switching costs after they have already started with one solution provider.

However, Derrick Liao, chief operating officer of Nexus FrontierTech, believes that most of the consolidation will take place in the upstream portion of the ESG data value chain, which involves the streamlining of data collection and reporting and the harmonising of standards.

While the ESG data space for public market ratings is relatively saturated and not many startups are able to enter to compete with established brand names such as MSCI and Sustainalytics, Hardcastle believes the private market ratings space is still in early stages of development.

Klier noted that the market may also be pushing towards having each player provide more integrated solutions.

“Customers are very confused if they have to bring too many different sources together. So I think the ability to create a category champion is differentiating and defining... I think that’s going to be the competitive advantage,” he said.