ESG: the risks of digitisation & the downside of shortcuts

Charles Radclyffe, EthicsGrade CEO, asks what external factors are needed alongside financial reports & projections to better model future ESG performance

Charles Radclyffe is CEO at EthicsGrade and a member of Project ESG at The Payments Association. Throughout his career, he has consulted on emerging technology for financial services, advising on how to develop a strategy of ethical implementation of AI, automation and robotics, as well as contributing to the field through events speaking, his podcast and blog.  

What are the environmental harms of big tech?

The social harms of big tech are clear, thanks to the Cambridge Analytica controversy (where Facebook was accused of colluding with a start-up allegedly paid to manipulate voters leading to potentially change the outcome of elections around the world) – but what of the environmental harms? And is digitalisation really an ESG factor? Let’s explore…

Exploring ESG

Although ESG has only been widely written and spoken about in recent years, the discipline began a quarter century ago as some investors started to realise that while taking shortcuts on corporate governance might convey short-term benefits, it was a practice that in the long-term was highly destructive of capital value.

Similarly, it was realised that firms who factored in environmental harms and mitigated them, outperformed their peers, as did those who had a strong sense of social justice integrated within their operations. This is the origin of so-called materiality assessments – the extent to which an organisation is exposed to risk by a particular factor. An example would be a casino operator on the Miami shoreline compared to its equivalent in central Paris. If ocean levels were to rise by half a metre in Florida, it might have some impact on footfall – but at two metres greater, it would be existential. For the Parisian operator – neither scenarios would have much consequence. However, this singular understanding of materiality is problematic – it doesn’t account for the harm caused by the company. 

Another example is that of a chemical company and the issue of river pollution. While dead fish might not be a financial factor that the chemical company needs to consider in its input workings, if you consider the risk of the chemical company causing pollution – then indeed it might be a highly material factor, and financially too, if you consider the risk of litigation and regulatory intervention.

So, this is the crux of ESG: what are the external factors (broadly laid out along lines of environment, social, and governance), which need to be layered on top of the company’s financial reports and projections to better model its future performance?

Perhaps, most importantly, it’s data that all of us care about (although are unlikely to pay for) to understand the alignment of organisations to causes we follow, whether that be environmental harm mitigation, the promotion of social justice, or the implementation of best-practice towards corporate governance.

What are the ESG risks of digitalisation? 

For Facebook (now Meta – a business about the monetisation of metadata), the initial impact of Cambridge Analytica, according to Bloomberg, was 15% in the short-term and 58% over a long-term view. Highly material for investors, in other words.

‘But Facebook’s business model isn’t our business model,’ I hear you cry. Yes, but this category of harm applies across all companies embarking on digitalisation – as evidenced by International Distribution Services plc (aka Royal Mail) who were unable to provide any international distribution services over the 2022/23 New Year owing to a cyber-attack; or British Airways, which negotiated down a record GDPR fine for data privacy violations in 2018; or TSB’s £48m fine for IT system failures (on top of nearly £300m of losses relating to an outage in 2018).

And now, with the advent of artificial intelligence (AI), the EU is poised to introduce a regulation, which will consider the high-risk impacts of algorithmic systems such as in credit scoring and HR. Every company has an HR system that is likely to use algorithms either in performance reviews, or for hiring. But how misogynist or racist are such algorithms? That’s an ESG risk that your investors and customers will be trying to assess. Also, the EU’s Circular Economy Action Plan is evidence that e-waste is rising up the agenda, so that questions such as which devices does your app support, and thus the role you play towards planned obsolescence come into focus.

This is on top of questions such as the efficiency of your code from an electricity usage perspective. We all know the debate about proof-of-work versus proof-of-stake in relation to blockchain consensus mechanisms, but did you know that a recent study found that using Microsoft Teams was 2.5 times less efficient than an equivalent call in Zoom? And that virtual backgrounds would use up to 18% more energy than simply tidying your bookcase?

“Just because we’re tech, doesn’t mean we’re green”

It’s been once again proven that taking shortcuts in corporate governance is disastrous from a capital value perspective – to name Wirecard and FTX as just two examples. While these were examples of companies being badly run, not necessarily technology being badly implemented, what they did reveal was how many ESG analysts simply overlooked the risks because they were tech companies. 

And that is a risk to us all, just because we’re in tech, doesn’t mean we’re green.

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