The acronym ESG—which stands for environmental, social, and governance—first appeared in a 2004 report produced by a group of financial institutions at the request of the United Nations Secretary General. Following on the heels of the corporate social responsibility (CSR) movement of the 2000s, ESG sought to address many of the issues surrounding sustainability and ethical business conduct by establishing a comprehensive framework that organizations, governments, and investors could draw on to evaluate the way corporations treat people and the environment. After gaining significant traction in the early 2020s, ESG has evolved from a buzzy catchword to an authoritative set of standards with transformational influence over how societies hold corporations accountable for their human and environmental impacts.
The ESG Framework and Its Growing Importance
As the acronym usefully signals, ESG encompasses three central pillars: environmental, social, and governance. The environmental pillar is a set of criteria that measure a company’s impact on the planet. It includes measurable categories like greenhouse gas emissions (GHG), waste, energy efficiency, and water use, as well as more qualitative concepts that focus on goals like decarbonization and developing a climate change strategy. The social pillar is composed of standards related to the way businesses treat their employees and other human stakeholders along their value chain. Examples of factors in this category are fair pay, safe working conditions, inclusion and diversity, and compliance with international labor laws. Finally, governance concerns how corporations police themselves, including through internal controls, official codes of conduct, anti-corruption policies, and effective risk management practices.
The growing importance of ESG cannot be overstated. Whether from the perspective of consumers, investors, or governments, companies are being held to a higher standard than ever before. Neglecting sustainability, mistreating employees, or behaving with impunity can cause organizations significant financial, reputational, and legal harm.
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The Major ESG Frameworks and Regulations
ESG frameworks are standards and guidelines established by nonprofit organizations to help businesses adhere to ESG’s pillars and principles. Examples include the Global Reporting Initiative (GRI), the Sustainability Accounting Standards Board (SASB), and the Task Force on Climate-Related Financial Disclosures (TCFD). While these frameworks are technically voluntary, several major ESG regulations draw heavily from these initiatives and their reporting and disclosure recommendations, including the EU’s Corporate Sustainability Reporting Directive (CSRD) and Corporate Sustainability Due Diligence Directive (CSDDD), and Australia’s Climate-Related Financial Disclosure law.
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What Is the EU’s Corporate Sustainability Reporting Directive?
Originally conceived as a successor to the European Union’s Non-Financial Reporting Directive (NFRD), the initial proposal for the Corporate Sustainability Reporting Directive was issued by the EU in April 2021. In December of the following year, the CSRD was published in the Official Journal of the European Union, and the directive entered into force on January 5, 2023. The CSRD draws on the European Sustainability Reporting Standards (ESRS) to impose reporting requirements in 12 different categories for businesses that operate in the EU and fall within the scope of the law. These categories include: climate change; pollution; water and marine resources; biodiversity and ecosystems; resource use and circular economy; own workforce; workers in the value chain; affected communities; consumers and end-users; business conduct; and general requirements and general disclosures.
The directive represents one thread in the European Green Deal, a large, ambitious vision for combating climate change and achieving climate neutrality within the 27-member bloc by 2050.
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What Is the EU’s Corporate Sustainability Due Diligence Directive?
Following the passage of the CSRD in 2023, the Council of the EU and European Parliament spent the first quarter of the following year working to push through an equally hefty environmental regulation: the Corporate Sustainability Due Diligence Directive. Though it encountered vigorous resistance from some member countries, the CSDDD was ultimately adopted by the EU in May 2024. The directive imposes six major due diligence obligations on in-scope businesses that require them to identify, assess, and implement targeted measures to mitigate any “adverse impacts” both within their business and along their entire supply chain. Examples of these impacts are outlined in the legislation itself, and encompass ESG-related categories such as fair wages, safe working conditions, forced labor, emissions, biological diversity, and deforestation. In addition, the CSDDD requires covered businesses to develop a climate transition plan in line with the Paris Agreement and the European Climate Law.
EU member states have two years from when the CSDDD went into effect in 2024 to codify the directive into national law. The EU’s phased implementation of the CSDDD will take place over a three-year span from 2027 to 2029, ultimately affecting over 5,000 companies operating in the bloc.
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Understanding the Scopes 1, 2, and 3 Emissions Categories
The Greenhouse Gas Protocol Initiative was launched in the late 1990s with the objective of developing and publishing internationally accepted standards for calculating and reporting on greenhouse gas emissions (GHG) that could be adopted by corporations, industry groups, and even government agencies. The GHG Protocol’s first edition of its accounting and reporting framework, published in 2001, introduced the concept of emissions “scopes” as a way of delineating the different forms of GHG emissions and their relationship to the reporting company. (The GHG Protocol covers the seven major greenhouse gases as established by the Kyoto Protocol: carbon dioxide, methane, nitrous oxide, hydrofluorocarbons, perfluorocarbons, sulfur hexafluoride, and nitrogen trifluoride.)
As stipulated by the GHG Protocol, scope 1 emissions are any greenhouse gases a business releases into the atmosphere directly from its own property, infrastructure, and equipment (these are often referred to as “direct emissions”). Examples of scope 1 include emissions caused by the generation of electricity, heat, and steam, physical or chemical processing, and the transport of products, materials, and waste. A narrowly defined category, scope 2 are those emissions caused by the electricity a company purchases from the electric grid. Because these emissions are not coming from the operations of the company itself, they are considered “indirect emissions.” Finally, the scope 3 category covers all other forms of indirect emissions, including those released throughout an organization’s value chain. Examples of activities that fall under scope 3 include raw material extraction, product use, and end-of-life management.
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Key ESG Regulation Deadlines Over the Next Five Years
As U.S. manufacturers, importers, and other businesses are no doubt well aware, environmental regulations are on the rise worldwide. The past two years alone have seen some of the most consequential sustainability directives in history become law or enter into force, including the EU’s CSRD and CSDDD, the Environmental Protection Agency’s new PFAS reporting requirements, and Australia’s Treasury Laws Amendment. We are on the cusp of a new era for corporate responsibility and ESG reporting, and the second half of the decade is rife with critical regulatory deadlines in-scope businesses cannot afford to overlook.
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How ESG Is Transforming Business Behavior
Though most businesses are a year or two away from having to comply with the slate of major new sustainability regulations, that doesn’t mean consumers, investors, and the public at large expect them to willfully neglect the ESG pillars and all the responsibilities they entail. In fact, public perceptions around sustainability and corporate behavior have evolved substantially over the past decade, with the majority of individuals now making purchasing decisions at least in part based on the ESG performance and corresponding reputation of companies.
The corporate sector has gotten the message, and the result is a generational shift toward prioritizing sustainability initiatives, spending on climate-related disclosures, and calculating scopes 1, 2, and 3 emissions—all before most of these organizations are even legally obligated to do so. A key takeaway from all the data and statistics on ESG spending and consumer sentiment is that it’s not just governments that are pushing businesses to transform their behavior and take more responsibility for their adverse impacts—it’s our culture, too.
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Why Engineers Are Crucial to Sustainability Efforts
As ESG mandates have grown into an increasingly high priority in recent years, businesses have typically looked to two groups to navigate the new landscape of sustainability laws and expectations: executive leadership and procurement professionals. Executives are responsible for shaping a company’s overarching strategy and initiatives, while sourcing experts have the visibility and expertise to carry out supply chain due diligence and evaluate adverse human and environmental impacts. But for manufacturers in industries like consumer electronics, automotive, and aerospace and defense, engineers may be even more instrumental to implementing the systemic changes required to move the needle on a firm’s sustainability profile.
Design and component engineers have the ability to integrate decarbonization strategies into a product’s design and manufacturing, select more sustainable materials and components when compiling bills of materials (BOMs), and use cradle-to-grave life cycle assessments (LCAs) to examine how a given product’s total environmental impact might be mitigated through strategic modifications. Given their unique power and influence over how products are made and what materials are used in their formulations, engineers stand to play a significantly larger role in the worldwide transition to more sustainable business operations and, ultimately, the goal of climate neutrality.
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How ESG Will Impact Obsolescence This Decade
While few engineers and sourcing experts have historically perceived sustainability and lifecycle management as related priorities, the wave of impending environmental regulations are going to turn ESG into a major determining factor in obsolescence. How? As these directives compel manufacturers to start incorporating issues like environmental impact, scopes 1, 2, and 3 emissions, and the labor practices of their suppliers into decision-making, businesses are going to gradually reshape their supply chains to reflect these new priorities.
Parts that have a disproportionately large carbon footprint, are mined or produced using ecologically destructive practices, or draw on exploitative labor practices are going to rapidly fall out of favor. These declines in demand for components that carry a poor ESG profile are ultimately going to lead to manufacturer discontinuance. As these trends crystallize and gain momentum over time, droves of unsustainable parts are going to be pushed into early obsolescence. Companies that want to evolve their obsolescence management to meet this incipient era need to develop the tools and expertise to put their parts under an “ESG microscope.”
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