Swami Venkataraman, global head of sustainable finance assessments at Moody's Ratings, explains how independent assessments can help companies communicate their transition plans effectively
Environmental Finance (EF): What will be the key topics under discussion at COP29?
Swami Venkataraman (SV): Many of the key topics under discussion will likely be a continuation of COP28 in Dubai. We expect there will be ongoing talks over country pledges, financing for emerging markets, the loss and damage fund, and Article 6 which would allow carbon credits to be traded between countries.
But there is also likely to be discussion around some other important issues that remain unresolved from COP28, particularly on transition-related topics. Firstly, it will be interesting whether language emerges on the phase-out of fossil fuels as opposed to merely a transition away from them, which is what we saw in Dubai.
Secondly, we may hear some talk about sing the ambition gap and the implementation gap. The ambition gap is the difference between what countries have pledged to do and what needs to be done to reach the Paris Agreement goal of limiting global warming to 1.5 °C above pre-industrial levels. The implementation gap, meanwhile, is the gap between what countries have pledged to do and what they have actually implemented.
This all brings us back to the question of transition.
EF: What are Moody's Net Zero Assessments?
SV: Moody's Net Zero Assessment (NZA) is an independent assessment on the credibility of a company's transition plan that incorporates three key aspects: the ambition of its targets, the quality of its implementation plans and governance.
Historically, market focus has been on getting companies to set targets. But the market is moving beyond that. Investors and other stakeholders want to know whether companies are going to achieve those targets and what that would mean for their business models.
The NZA brings this transparency on companies' transition plans. It enables market participants to understand where a company is in its transition journey, which would be quite complicated to do without an independent assessment.
By creating transparency and compatibility, the NZA enables stakeholders to better engage with companies and influence what companies do. It also allows the assessed company to compare its progress with peers.
EF: How are companies using independent assessments on their decarbonisation plans?
SV: This typically fall into five buckets. First, independent assessments provide a way for companies to communicate with all stakeholders about their transition plans. They enable companies to talk about their transition with investors, regulators, and customers. They can reduce concerns about greenwashing because a neutral and credible third party has looked at the plans and provided an independent opinion.
The second driver is investor communication. Many companies have a large number of investors engaging with them their transition plans. The NZAs offer a market standard that can be well understood by market participants, thereby enabling companies to reduce the time, cost and resources spent on engaging investors on this topic. And unlike credit ratings, NZAs will be relevant to fixed income and equity investors alike.
The third area for companies is raising capital and widening the investor base. Labelled bonds are a growing part of the fixed income universe and are an important part of driving the transition, but assessments like the NZA allow issuers to explain the direction of the company as a whole. This could expand the investor base because even the non-green bonds in an investor's portfolio are potentially open to sustainability-focused investors.
The fourth driver of independent assessments is the potential for internal feedback. Almost two-thirds of the NZAs we have carried out are non-public, with many companies using Moody's NZA to provide feedback to their boards and senior management. Some companies obtain NZAs for multiple scenarios and use it to finalise their transition plans, others simply use it to identify strengths and weaknesses in their existing plans, especially in comparison with others.
Finally, the fifth area is specific to privately owned names. Private equity (PE) is a big part of the market and independent assessments can play an important role in their exit strategies.
Whether they are seeking an IPO or a strategic sale, potential buyers or shareholders will want to know how PE-backed companies are positioned from a transition perspective. Independent assessments can also help transition-focused PE funds with reporting.
EF: What type of entities are opting for these assessments?
SV: We have observed a couple of trends from the NZAs. Firstly, we have seen a lot of interest from companies in heavy-emitting sectors where investors are actively engaging on carbon transition. Many of these companies are facing a lot of questions from investors about their plans to transition to a net-zero economy.
Secondly, we have observed more interest from European companies and, increasingly, Asia-Pacific, with limited interest from North America. This may be because of the political backdrop and relatively lower levels of Scope 3 emissions reporting.
Over time, we believe companies that are not heavy emitters may also find value in the NZA. Companies that sell branded consumer products may decide that having a credible transition plan makes their products more appealing to customers. It may also be because stakeholders in general want all companies to transition credibly.
EF: As more entities start to produce transition plans, what will investors have to be aware of?
SV: We will see more and more companies starting to put transition plans in place in the future. There are already more than 5,000 companies validated by the Science Based Targets initiative, so those companies all have plans of some sort. But it is no longer adequate just to have these targets. Investors want to know whether companies will meet those targets. As more regulation comes in, not only will more companies have to set targets, they will also be required by regulators to disclose how they achieve them.
Europe has been leading the way in regulation, with the EU's Corporate Sustainability Reporting Directive (CSRD) for example, but we are also observing what is happening in Asia. There has been positive regulatory momentum in the three biggest markets in the region: Japan, Hong Kong and Singapore. Indeed, regulators and policymakers in Asia have been very focused on creating taxonomies and an ecosystem that supports transition finance.
To find out more about Moody's Net Zero Assessments, click here.
