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The importance of the ESG approach for rating models

The importance of the ESG approach for rating models

When discussing corporate sustainability, the debate on ESG factors that determine the concrete commitment of companies and their reputation not only with consumers and investors but also with society as a whole is frequent. At this point, the question that arises could be: "What kind of approach do we want to have?"

Considering the high levels of turbulence and instability (economic, social, technological, climatic, and geopolitical) characterizing current competitive contexts, the exponential increase in the levels of uncertainty of present and future scenarios is evident; including the rapid changes that companies must face to avoid crises that, in some cases, can also be irreversible.

The changing landscape of rating models in the banking system 

In light of what has been said, even the rating models of the banking system should change: from backward-looking (the so-called "Basel rules" based on purely quantitative data, of an accounting and trend nature) to a forward-looking approach, useful for analyzing the health of companies and predicting potential risks to financial sustainability. To better understand the topic, or even just for an enjoyable read, the EBA circular comes to our aid, a document that highlights the evolution of future rating models that will require the incorporation of predictive variables (predominantly qualitative in nature) concerning the management, organizational, and strategic dynamics of the company.

Additionally, it’s important that the aforementioned models include the evolution of variables such as:

  • management competencies;
  • innovation capacity;
  • quality of the business model;
  • coherence between organizational structure and competitive strategy;
  • quality of industrial plans;
  • effectiveness of the approaches adopted by the company in managing ESG variables (environmental, social, governance)

In line with European regulations 

The effective management of these variables offers two advantages: complying with both increasingly stringent European regulations and meeting the demands of stakeholders. Stakeholders, in fact, significantly base their decisions on ESG variables as well as purely economic indicators. It becomes clear, therefore, how the evolution of future rating models of Credit Institutions will assess both the financial-health aspect of companies and the impact of ESG policies on society and the environment.