Evaluation of Environmental, Social, and Governance Risks? A Critical Literature Review with Practical Implications

Abstract

The evaluation of environmental, social and governance (ESG) risks is an important yet challenging aspect of the investor decision-making process, largely attributable to the volatility of this domain. A significant proportion of these challenges arise from divergent ESG ratings, which are the consequence of absence of clarity and consistency in definitions, data, and rating methodologies. A review of the existing literature revealed that no article summarized findings related to the evaluation of ESG risks based on uniform definitions, which would help with understanding and measure development. The aim of this paper is to address ESG risks evaluation issues through a critical review of literature and deconstruction of associated issues, providing both theoretical and practical insights. The literature review began with the definition of ESG risks, which served as a foundation for the deconstruction and analysis of the ESG risk evaluation process. The findings indicate that there are numerous issues related to the evaluation process, starting with the definition of ESG, continuing through reporting and data issues, which ultimately leads to issues with the evaluation process itself. The conclusion drawn from this analysis is that usability is contingent upon the clarity of definitions and comprehension, thereby ensuring the efficacy of the ratings for investors and other stakeholders.