The ESG Rating Paradox: A System that Measures Everything but Impact

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Pre Reading (Recommendation)

Before exploring this article, I strongly recommend to reading research journal made by Brian Tayan with topic "ESG Ratings: A Compass without Direction" at Harvard Law School Forum on Corporate Governance dated August 24, 2022, using this link: ESG Ratings: A Compass without Direction

My sincere thank you to Pak Andi Kadir from HHP Law Firm who shared this thought-provoking public article.

Introduction

The Environmental, Social, and Governance (ESG) rating system has become a dominant force in shaping corporate responsibility and sustainable investment. Yet, despite its widespread adoption, research, including insights from Harvard Law School on Corporate Governance, has revealed fundamental flaws that undermine its credibility. ESG ratings, intended as a benchmark for ethical business practices, often fail to reflect real-world sustainability performance. Instead, they have evolved into an assessment tool that prioritizes perception over substance, rewarding companies for disclosure rather than tangible action. The disconnect between ESG scores and actual impact has led to corporate greenwashing, misleading investors and regulators while allowing unsustainable business practices to persist. If ESG ratings are to become a legitimate force for change, they must undergo a fundamental transformation from a compliance-driven framework into an impact-based system that measures sustainability in meaningful ways.

Conflicting ESG Scores: A Crisis of Credibility That Misleads the Market

The lack of standardization in ESG rating methodologies has created widespread confusion, making it difficult to determine whether ESG scores genuinely reflect corporate sustainability performance. Unlike financial credit ratings, where agencies align in their evaluations, ESG scores for the same company can vary dramatically depending on the agency’s assessment criteria. This divergence undermines the credibility of ESG as a decision-making tool for investors, stakeholders, and policymakers who rely on these scores to drive sustainable investment. Without a unified rating framework, companies can exploit inconsistencies by selecting agencies whose methodologies favor their industry or reporting style, turning ESG ratings into a branding exercise rather than an authentic measure of ethical business practices.

The inconsistency in scoring also raises concerns about fairness in capital allocation, as investors often prioritize companies with higher ESG scores without questioning the validity of the rating. This creates an uneven playing field where businesses with superior reporting strategies, but minimal sustainability action receive preferential treatment over those making meaningful environmental and social improvements. Without standardization, ESG rating will continue to be an unreliable tool that distort market dynamics rather than advancing sustainability.

The Illusion of Progress: Why Disclosures Does Not Equal Sustainability

The emphasis on disclosure rather than action has turned ESG ratings into a game of optics, where companies are rewarded for how much they report rather than the impact of their initiatives. A business that produces an extensive sustainability report with ambitious pledges and carbon neutrality goals may receive a high ESG scores, even if its actual practices continue to harm the environment or exploit workers. Meanwhile, another company actively transitioning to renewable energy, improving labor conditions, or investing in circular economy models may receive a lower score simply because it does not engage in extensive ESG reporting.

This skewed incentive structure encourages businesses to focus on external perception rather than internal transformation. Companies with greater resources can manipulate the system by hiring consultants to craft sophisticated ESG narratives, while smaller firms genuinely committed to sustainability may struggle to gain recognition. By prioritizing disclosure over real-world performance, ESG ratings fail to drive the kind of change they were designed to promote, making sustainability an exercise in storytelling rather than a measurable corporate responsibility.

Sectoral Bias: Penalizing the Industries That Need Sustainability the Most

The current ESG rating system disproportionately favors companies in low-impact industries while penalizing those in sectors that are essential to global infrastructure but face greater sustainability challenges. A technology firm with a low carbon footprint may receive a high ESG score without making any substantial efforts to improve sustainability. Conversely, an energy or manufacturing company investing heavily in carbon capture technology, renewable energy, or sustainable supply chains may still receive a low rating simply because of the nature of its industry.

This structural bias discourages high-impact industries from making ambitious sustainability commitments, as they see no immediate benefit reflected in their ESG scores. Instead of evaluating companies based on their ability to transform their operations for a sustainable future, ESG scoring models apply a one-size-fits-all approach that fails to account for sectoral challenges and progress trajectories. Without adjusting for industry-specific realities, ESG ratings will continue to undermine efforts by high-impact sectors to transition to greener operations, limiting their willingness to invest in long-term sustainability strategies.

The Overlooked ESG Potential of the Facility Management Industry

The facility management industry represents a significant but often overlooked opportunity to bridge ESG gaps, particularly through its influence on social inclusivity and environmental sustainability. Unlike industries where ESG efforts are primarily focused on internal operations, facility management extends its impact beyond corporate boundaries, directly shaping workplaces, public spaces, and communities. Despite managing thousands of workforces across various industries and maintaining millions of square meters of built environments with commitment by always using green chemical substances, less water consumption, and responsible resource management integrated in day-to-day facility management operations, the ESG potential of facility management is frequently underrepresented in ratings, failing to recognize its unique contributions to both social and environmental sustainability.

Inclusivity and Employment Risk: Social Responsibility Beyond the Corporate Walls

One of the greatest strengths of the facility management industry lies in its ability to foster inclusivity and manage employment risk on a massive scale. As one of the largest employers globally, the industry provides economic opportunities for workforce from diverse socio-economic backgrounds, including vulnerable and underrepresented groups, women, and people with disabilities. By upskilling with green vocational skills development, implementing fair wages, structured “moving up” career progression, and robust workplace safety and wellbeing policies, facility management companies can drive social equity in ways that many corporate ESG strategies fail to achieve.

The impact of facility management extends beyond direct employment. Companies in this sector play a critical role in ensuring ethical labor practices across supply chains, enforcing high standards for subcontractors and service providers. Unlike corporations that merely audit their suppliers for ESG compliance, facility management companies are actively involved in day-to-day operations in site level, making them uniquely positioned to uphold ethical employment standards in real-time, not merely transferring these workforce employment risk to another subcontractors and act solely as managing agents. This real-world application of social responsibility should be a major ESG scoring factor, yet it remains absent in existing rating models.

Circular Economy in Facility Management: A Sustainability That Benefits Customers More Than Corporations

Beyond its social contributions, the facility management industry also plays a vital role in driving the circular economy, often delivering more environmental benefits to customers than to the corporations providing these services. Unlike manufacturers that seek to optimize their own supply chains, facility management companies help customers transition to sustainable operations through waste reduction, resource optimization, and green skill developments not just green infrastructure management. From implementing energy-efficient building systems to enabling large-scale circular economy initiatives, facility management providers create direct environmental impact that extends beyond corporate boundaries.

Circular economy practices in facility management, such as repurposing materials, reducing energy consumption, and implementing zero-waste policies, contribute significantly to the broader sustainability goals of the businesses they serve. By reducing landfill waste, extending the lifespan of building materials, and optimizing water and energy use, facility management firms actively lower the environmental footprint of entire industries. Yet, because ESG ratings often focus on corporate-level sustainability rather than industry-wide impact, the contributions of facility management companies to their customers’ ESG goals are rarely reflected in their own ESG scores.

Short-Term Thinking: The ESG Rating System Ignores Long-Term Transformation

ESG ratings provide a snapshot evaluation that fails to capture the long-term sustainability commitments of businesses. Transitioning into low-carbon economy, implementing ethical supply chains, and adopting socially responsible governance structure are complex, multi-year processes. Yet, ESG ratings focus on immediate performance rather than process over time, penalizing companies that are amid making necessary but gradual changes.

This short-termism discourages businesses from pursuing deep, structural sustainability reforms that require time and investment. Instead, companies often resort to quick, surface level ESG improvements, such as purchasing carbon offsets or modifying governance policies that boost ratings without leading to significant long-term impact. Investors, in turn, are misled into believing that companies with high ESG scores are sustainability leaders, when they may simply be optimizing their scores for short-term gain. If ESG ratings are to encourage real transformation, they must adopt a longitudinal assessment model that recognizes and rewards incremental improvements rather than focusing solely on static evaluations.

Opaque Methodologies: A Black Box That Enables Greenwashing

The lack of transparency in how ESG ratings are calculated has eroded trust in their legitimacy. Many rating agencies operate using proprietary algorithms that are not publicly disclosed, leaving investors, regulators, and even the rated companies themselves unaware of how scores are determined. The opacity prevents businesses from understanding how to improve their sustainability performance in ways that align with rating criteria, creating frustration and ambiguity in corporate ESG strategy.

Without transparency, ESG ratings are susceptible to manipulation, as companies can tailored their disclosures to match favorable scoring methodologies while avoiding aspects that might lower their ratings. The absence of accountability mechanisms for ESG rating agencies allows for arbitrary changes in methodologies, further undermining the credibility of the system. A lack of oversight means ESG assessments are not subject to the same rigorous scrutiny as financial ratings, making them vulnerable to conflicts of interest and commercial bias. Unless ESG rating agencies adopt a clear and publicly available methodology, the legitimacy of ESG scores will remain questionable, hindering their ability to drive meaningful change.

Shifting ESG Ratings from Perception to Performance

To restore credibility to ESG ratings, the system must transition from a-disclosure-driven model to an impact-driven framework that measures real sustainability outcomes. Rather than rewarding companies for the volume of ESG reports they produce, assessments should focus on tangible improvements in carbon reduction, ethical labour conditions, and positive community impact. Independent third-party verification should become a mandatory component of ESG evaluations, ensuring that companies’ sustainability claims are supported by measurable data rather than corporate narratives.

Standardizing ESG scoring methodologies across agencies is essential to eliminating discrepancies that distort investment decisions. A globally recognize ESG framework, like financial accounting standards, would enhance consistency and comparability across industries. By aligning rating criteria and requiring greater transparency from ESG rating agencies, stakeholders can prevent companies from selectively promoting favorable scores while dismissing unfavorable assessments.

How Businesses, Policymakers, and Academia Can Contribute to Narrowing the ESG Gap

Businesses: From ESG Compliance to Sustainability Leadership

Businesses have a crucial role in shifting ESG strategies from mere compliance to genuine sustainability leadership. Instead of focusing on disclosure-driven ESG strategies, companies must prioritize measurable environmental and social outcomes that go beyond surface-level commitments. Independent third-party audits should become a standard practice to validate sustainability claims, ensuring greater transparency and credibility. The industry must also advocate for sector-specific ESG benchmarks that consider the unique challenges faced by high-impact sectors, ensuring a fair and accurate assessment of their sustainability efforts. By adopting a results-driven approach, businesses can transform ESG from a branding tool to a mechanism for meaningful corporate responsibility.

Policymakers: Strengthening ESG Regulation and Standardization

Policymakers must take decisive action in strengthening ESG regulations and ensuring greater standardization to eliminate inconsistencies in ratings. The establishment of global ESG reporting standards, akin to financial accounting frameworks, is essential to enhance comparability and reliability across different industries and markets. Mandatory transparency from ESG rating agencies must be enforced, ensuring that scoring methodologies are clear and accessible to investors and businesses alike. Additionally, regulatory frameworks should incorporate mechanism to track corporate sustainability progress over time, rewarding companies that demonstrate tangible improvements rather than providing static evaluations. By implementing structured governance and accountability measures, policymakers can create an ESG ecosystem that fosters integrity and long-term impact.

Academia: Bridging the Gap Between Research and Implementation

Academia plays a critical role in bridging the gap between ESG research and real-world implementation by conducting empirical studies that assess the effectiveness of ESG strategies. Theoretical frameworks must be translated into actionable insights that businesses and policymakers can integrate into their decision-making processes. Impact measurement models should be developed to evaluate actual environmental and social outcomes rather than focusing solely on disclosure metrics. By fostering collaboration between academia, businesses, and regulatory bodies, researchers can contribute to evidence-based sustainability policies that balance both regulatory compliance and economic feasibility. Through rigorous study and applied research, academia can ensure that ESG principles evolve into practical tools for sustainable transformation rather than remaining abstract concepts disconnected from operational realities.

A Call to Action for A More Credible ESG Future

The transformation of ESG ratings cannot be achieved in isolation. It requires the collective effort of businesses, investors, policymakers, and academia. Companies must go beyond compliance-driven ESG strategies and embed sustainability into their core operations. Investors must demand more than surface-level ESG assurances and push for accountability in sustainability claims. Regulators must introduce governance structures that enforce transparency in ESG rating methodologies. Academics must refine ESG impact measurement models that bridge the gap between theory and practical implementation.

If ESG ratings are to fulfil their premise as a tool for driving real sustainability, they must evolve beyond flawed scorecards into reliable benchmarks for ethical and sustainable business growth. Only through a systemic shift in how ESG performance is measured, reported, and evaluated can ESG ratings become a true catalyst for positive change, more inclusive, rather than a grand illusion of progress.

Reference List

Tayan, Bryan. (2022). ESG Ratings: A Compass without Direction. Harvard Law School Forum on Corporate Governance. https://corpgov.law.harvard.edu/2022/08/24/esg-ratings-a-compass-without-direction/

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About the Writer

Yohanes Jeffry Johary is Managing Director of OCS Indonesia, a global British facility management company with 125 years of rich history of 120,000 employees in making people and places the best they can be. As Managing Director, Jeffry leads team of 15,000 employees across 1,800 sites with a focus on innovation, sustainability, and employee wellbeing in the facility management industry. He is also pursuing a postgraduate degree in Master of Science in Business Psychology at the University of East London, specializing in Biopsychosocial studies. Combining his leadership experience and academic insights including 21-year-academic experience when he became a lecturer in Atma Jaya Catholic University, Jeffry is dedicated to integrating psychological principles into organizational strategies, fostering healthier and more resilient workplaces. Jeffry is Co-Chair of Corporate Citizenship Committe of American Chambers Indonesia, and Co-Chair of Carbon Emission and Smart Sustainable Solution Hub of British Chamber Indonesia.