What is ESG?
Environmental, social and corporate governance (collectively referred to as ESG) is generally used to describe criteria or standards by which companies can be measured with respect to a broad range of socially desirable ends. These data points are then incorporated into the decision-making and risk management process for investors, financial institutions, customers and government agencies or regulators, among others. Each of the three areas of ESG (referred to herein as ‘Pillars’) are defined by different factors. Environmental criteria are used to assess the Environmental Pillar and a company’s impact on the natural environment (e.g., reductions in carbon emissions, use of renewable energy sources, and waste management). The Social Pillar (also referred to as the ‘Stakeholder Pillar’) considers how a company manages its relationships with stakeholders, which includes shareholders, employees, suppliers, customers and the communities within which the company operates. Under the Corporate Governance Pillar, various criteria examine how a company is operated – most notably focusing on the role and composition of executive management or the board of directors, the distribution of rights and responsibilities among directors, shareholders, and other participants in the company, and how these participants interconnect to promote the company’s ongoing success.
The Social Pillar of ESG is often overshadowed by the other two pillars because it is more difficult to define and measure. The Social Pillar has a broad remit, covering how companies manage their relationships with all stakeholders, not just shareholders, as noted above. Because of this coverage, risks under the Social Pillar can affect company performance, growth, and reputation. While, for example, environmental matters are particularly significant in certain industries (e.g., oil and mining), the Social Pillar affects every company, regardless of geographical location or sector.
ESG awareness and implementation in Latin America have generally trailed behind when compared to Europe, North America, and East Asia. That said, the disruption and changes caused by the covid-19 pandemic helped put social matters top of mind for organisations globally, including in Latin America. The Latin American and Caribbean economies suffered more in the wake of the pandemic compared to the rest of the Western world, one reason being that a large proportion of jobs in these economies requires close physical proximity in contact-intensive sectors (e.g., restaurants, retail stores, and public transportation), compared to around 30 per cent for emerging markets. Latin American economies have since garnered positive economic growth, reflecting the bounceback of service sectors and employment to pre-covid-19 pandemic levels; however the momentum of growth has been stifled by inflationary pressures.
Against this backdrop, we see an increased focus in Latin America on the adoption of ESG practices to help guide corporate decision-making and manage corporate risk, specifically related to how companies impact on their employees and other stakeholders. For example, during the covid-19 pandemic, salary subsidies and loans to support employment and retention became common in Argentina, Brazil, Chile, Colombia, Mexico, and Peru, assuming certain criteria were met (e.g., firm size, compensation levels, and financial loss as a result of the covid-19 pandemic). In addition, both the financial industry and government regulators are driving ESG-related efforts and Latin American governments are increasingly relying on ESG-related criteria as instruments to address social and environmental matters, including ongoing consequences of the covid-19 pandemic.
We have also seen how government regulation has pushed companies towards a greater focus on social issues – one example being the US sanctions on goods connected to Xinjiang, imposed in December 2021. These sanctions prohibit imports from the Xinjiang region of China unless businesses can prove that their goods were produced without the use of forced labour. The European Union is set to introduce a similar regulation, but one with a much broader remit as it aims to ban products in the EU market that have been made with forced labour.
Though outside Latin America, such regulations are illustrative of a broader shift and increasing emphasis on ESG-related issues, and the Social Pillar in particular. Moreover, such regulation in Asia likely foretells the future for similar issues in Latin America, where awareness and implementation of ESG practices have generally lagged relative to other regions in the world. Put simply, ESG (and specifically the Social Pillar) has the world’s attention and is here to stay, even if different regions are at different phases of implementation.
Unpacking the ‘S’ in ESG
As noted above, the Social Pillar predominantly concerns how a company manages its relationships with stakeholders other than just shareholders. This assessment covers a number of key areas including:
- employees (e.g., labour rights and conditions, salaries and benefits, diversity and inclusion, workplace harassment and discrimination, health and safety, and whistle-blower protection);
- suppliers (e.g., corruption and exploitation within supply chains);
- customers (e.g., product safety and liability, product labelling or selling practices, and data privacy protection); and
- general stakeholders (e.g., human rights violations, human trafficking, and intrusions on local indigenous groups or other community groups).
The importance of the Social Pillar is increasingly evident through the focus of governments, regulators, consumers and citizens on one element in particular, the supply chain. Indeed, many jurisdictions, such as the United States, the United Kingdom and the European Union, have introduced a legal framework imposing obligations on companies in relation to the sources of their goods and services and the impact on their supply chains. A key example in recent years is the growth of legislation against modern slavery (i.e., slave-like exploitation, including human trafficking and forced labour). Other aspects of the Social Pillar also include an increased focus on issues around diversity and inclusion, indigenous rights, personal privacy and other social issues – all of which are relevant to a wide range of stakeholders in a globalised world.
For its part, Latin America has not yet established a rigorous legal framework against which social issues can be assessed; however, consequences for non-compliance in this area can still be far-reaching and apply more broadly to a company – even if the conduct is contained within Latin America. In particular, if the underlying concern has any nexus to another country, whether through the organisational structure or location of the principal office, it can result in potentially significant consequences for a company.
Making progress under the Social Pillar can often require significant effort. Nevertheless, the potential impact of failings in this area can be serious. Reputational harm and negative brand publicity can discourage consumers from purchasing goods or services, dissuade investors from providing financing, and even result in stifling business to a halt. Other consequences of non-compliance or ineffective measures include financial risk (e.g., fines and injunctions), legal risk (e.g., employment law and other legal violations) and regulatory risk (e.g., financial criminal offences related to proceeds from illicit activity).
Measuring the Social Pillar
Although there is no global standard against which to measure success in this area, a number of frameworks are nonetheless instructive – including the UN Sustainable Development Goals (UN SDGs), Global Steering Group for Impact Investment (GSG), Global Reporting Initiative (GRI), UN Guiding Principles Reporting Framework, World Benchmarking Alliance, Sustainability Accounting Standards Board, Impact Reporting and the Investment Standards, and World Economic Forum.
The UN SDGs, adopted by all UN Member States in 2015 as part of the 2030 Agenda for Sustainable Development, contain 17 sustainable development goals aimed at tackling systemic global economic, social, and environmental challenges. Of particular relevance to the Social Pillar are:
- UN SDG 4: Quality Education (e.g., providing training opportunities to employees, including women, to help increase the number of adults who have technical and vocational skills);
- UN SDG 5: Gender Equality (e.g., implementing policies to end all forms of discrimination against women within the company, ensuring women have full and effective participation and equal opportunities for leadership at all levels of company decision-making);
- UN SDG 8: Decent Work and Economic Growth (e.g., promoting decent job creation, providing equal pay for work of equal value, taking immediate and effective measures to eradicate forced labour and end modern slavery within company operations and supply chains, securing the elimination of child labour from business activities and supply chains, protecting the labour rights of workers, and promoting safe working environments for all workers including migrant workers);
- UN SDG 10: Reducing Inequality (e.g., ensuring equal opportunities in company recruitment and promotion criteria or processes, implementing non-discrimination policies and reporting procedures, and providing training on discrimination including unconscious bias); and
- UN SDG 16: Peace, Justice and Strong Institutions (e.g., considering human rights violations, exploitation, and trafficking in compliance risk assessments).
In 2019, the World Economic Forum’s International Business Council (IBC) flagged the lack of consistency and comparability of metrics, arising from the existence of multiple ESG reporting frameworks, as preventing companies from credibly demonstrating their progress on sustainability and their contributions to the UN SDGs to all of their stakeholders. Consequently, the IBC invited the World Economic Forum, in partnership with Deloitte, EY, KPMG and PwC, to coordinate a set of universal ESG metrics and recommended disclosures that could be consistently reflected in a company’s annual report. This process culminated in a set of 21 ‘core metrics’ and 34 ‘expanded metrics’ related to ESG.
The core metrics comprise more established quantitative metrics that are likely already being recorded by companies (e.g., employee diversity statistics) or metrics that can be calculated based on readily available information (e.g., pay equality ratios through comparative compensation analysis for each employee category taking into account gender and ethnic considerations). The expanded metrics are a combination of more advanced metrics and disclosures which are less likely to be found in existing practice and standards. These include the number of discrimination and harassment incidents within a company, the status of the incidents and actions taken, and the total amount of monetary losses as a result of any related legal proceedings.
The Social Pillar in Latin America
We have seen a few examples of how the increased focus on the Social Pillar in Latin America has worked in practice – examples that also underscore how these issues can have a real impact on businesses operating in the region.
One example highlights a focus on supply chain issues – specifically, Olam International is facing an enforcement action by Brazilian prosecutors for allegedly failing to address child and slave labour abuses in its supply chain. Brazilian prosecutors filed the lawsuit against the cocoa processor in January 2021 and are seeking around 300 million reais (approximately US$58 million) in damages. In another example, over 200,000 Brazilian claimants (comprising individuals, businesses and municipal governments) affected by the devastation of the collapse of the Fundão dam in 2015 launched proceedings in the United Kingdom against the English ultimate parent company of the Brazilian dam operator. This case is one of the latest in a trend by which English courts have shown their openness to consider claims of alleged violations of business and human rights abroad.
Of course, company strategy does not operate in a vacuum and so any decisions are necessarily influenced by the local economy and political landscape, as well as pressure from the media and other organisations. The unique circumstances of different Latin American countries across these factors means that any individual company’s approach to the Social Pillar, including the practical steps that can be taken to mitigate risks under the Pillar, must be tailored with that context in mind. Nonetheless, as these examples illustrate, multinational companies operating in Latin America should remain vigilant as to the possibility of labour and human rights violations (among other areas covered by the Social Pillar) that could affect other parts of its corporate brand and structure.
Relevant social legal frameworks in Latin America
Governments of Latin American countries are at different stages of implementing legal frameworks on social issues. In addition to governmental regulation, a number of private companies and non-government bodies have created voluntary initiatives along these lines. For example, some Latin American countries are members of GSG. Established in 2015, GSG is dedicated to impact on investment and entrepreneurship to benefit people and the environment. It currently covers 35 countries through 30 National and Regional Advisory Boards, including Central America and Latin American countries (including Argentina, Brazil, Chile, Colombia, Costa Rica, Mexico and Uruguay). The Regional Advisory Boards promote and facilitate the development of impact investment in the countries in which they operate. GSG encourages the incorporation of ESG factors into decision-making or reporting activities, even when not required by local legislation. GSG also encourages taking positive steps to combat social issues (e.g., pledging to end forced labour and cutting ties with businesses profiting from slavery, including marginalised groups and victims of conflict in employment).
In addition, a number of private companies in the region participate in the UN Global Compact, a non-binding UN pact calling for private businesses worldwide to respect labour rights, the environment, and human rights by adopting sustainable and socially responsible policies.
Brazil
Brazil has an established legal framework for employment and labour rights at both a national and federal level. Specifically, Brazilian Law (Law No. 13,146/2015) sets quotas for the employment of disabled persons depending on the size of the organisation. In addition, Brazilian Law (Law No. 7,716/1989) criminalises situations where employment is denied or impeded by a private company based on race, ethnicity, religion or national origin. Furthermore, Brazilian Law (Law No. 14,133/2021) prohibits companies that have been legally convicted for the exploitation of child labour or the submission of workers to conditions analogous to slavery from participating in bidding processes.
In 2022, the Brazil’s National Monetary Council (CMN) and the Brazilian Central Bank (BCB) issued a number of resolutions aiming to improve the rules for the management of social, environmental and climate risks applicable to financial institutions and other institutions under BCB’s purview, resolutions that also included the requirements related to the establishment of social, environmental and climate responsibility policies and related to the implementation of actions designed to ensure effectiveness of such policies. The Brazilian president has also approved Decree No. 11,129/2022, which changes the methods public authorities use to evaluate companies’ compliance programmes. In 2022, the country also saw the presentation of the Brazilian Bill (PL 572/22), which will enact a national framework on business and human rights framework that aims to establish guidelines to enforce national and international standards on the protection of human rights, and the promotion of related public policies. In other words, corporations will be held accountable for violations of human and labour rights, including activities in their subsidiaries, suppliers and any other entities in the global value chain, a regulation that would bring Brazilian legislation closer to international or globally recognised ESG standards.
However, until Brazilian Bill 572/22 comes into force, which is currently under negotiation, the only unified standard with respect to upholding human rights in companies in Brazil is voluntary. The November 2018 National Guidelines for Business and Human Rights (Decree No. 9,571/2018) detail the concepts in the UN Guiding Principles on Business and Human Rights for companies operating in Brazil. Although, in general there is no express legal obligation to present reports or disclosures relating to human rights issues, companies in certain sectors, such as the mining industry, are subject to disclosure requirements for violations in these areas. In fact, Brazil was one of the first countries in Latin America to mandate ESG regulation in the financial sector. Certain Brazilian financial institutions are required to manage ESG risks and to establish an environmental and social responsibility policy in accordance with Brazilian regulation (Resolution No. 4327/2014 and Resolution No. 4557/2017). More recently, starting in 2022, Brazilian banks are required to consider ESG risks alongside traditional financial risks (BCB Resolution 139/2021).
Despite its relatively more developed legislative framework compared to other Latin American countries, Brazil does not yet have a National Action Plan (NAP) on Business and Human Rights, as the federal government’s attempted public bid (in collaboration with the private sector) was later cancelled.
As a private sector initiative, the Brazilian Business Council for Sustainable Development (CEBDS) is a non-profit civil association that brings 60 of the largest Brazilian organisations together to implement sustainable business practices – including providing employees with human rights awareness training, establishing diversity and inclusion committees to develop inclusive strategies, and encouraging support networks (e.g., for LGBTQ+ employees). The CEBDS directly affect over 1 million jobs across Brazil.
Since 2004, Brazil has maintained a ‘dirty list’ of employers, made up of companies and individuals who have been found guilty of using slave labour. Although there is currently no legal punishment for a company or individual who is on this list, those featured are barred from receiving public financing and have limited access to private loans. In 2022, evidence emerged that offenders connected with previous political regimes were able to avoid the ‘dirty list’. An increase in the number of companies being investigated by the Labour Protection Office that same year, as well as a recent political shift, may signal further improvement to come.
Chile
Since becoming the first Latin American country to launch the UN Global Impact in October 2001, Chile has continued to put social issues at the forefront of companies’ agendas. In 2017, the Chilean government published its first NAP on Business and Human Rights (2017–2019), which contains 158 action points for specific government institutions based on stakeholder recommendations and other relevant agendas, including the UN 2030 Sustainable Agenda and UN SDGs. On 4 March 2022, Chile published its second NAP; however, this has received criticism for being hastily approved, reflecting a lack of civilian participation (particularly that of indigenous people and vulnerable groups), and containing little emphasis on the responsibility of private companies to respect human rights.
In November 2021, the Financial Market Commission (CMF), the Chilean financial regulator, issued secondary legislation, General Rule No. 461, which amends the structure and content of annual reports of certain organisations, including banks, insurers, issuers of publicly offered securities and general fund managers. General Rule No. 461 specifically sets out the obligation to report on ESG factors, such as information on people who provide services to the company, including aspects of diversity, pay gaps, occupational safety, and workplace harassment and discrimination.
Although there is no single government body dedicated to promoting ESG in Chile, there are a number of public agencies that have implemented initiatives to promote sustainability and responsible investment practices. For example, the CMF are working on an amendment of the new reporting obligations under NCG 386 aimed at strengthening the adoption of ESG principles.
To put the effectiveness of Chile’s NAPs and other regulatory measures into context, in January 2022 the ILO and the World Benchmarking Alliance released a human rights snapshot of 29 Chilean companies, scoring them against the United Nations Guiding Principles on Business and Human Rights. Chile scored nine points out of the maximum score of 24 points, showing that there is still plenty of room for improvement.
That said, Chile has demonstrated a more recent commitment to ESG-related topics in general. For example, in March 2022, Chile became the first country in the region to issue a sovereign sustainability-linked bond. This US$2 billion bond adheres to the Paris climate accords and includes commitments to reduce carbon dioxide emissions and increase renewable energy production to 60 per cent of electricity needs by 2032. With this new issuance, Chile has placed over US$33 billion in socially and environmentally responsible bonds in the past three years, being the only country in the world to have such sustainability-linked bonds. Along similar lines, on 13 June 2022, Chile published its Climate Change Framework Law, which includes a binding target of net zero emissions by 2050, creating cross-agency and departmental coordination and cooperation beyond the Ministry of the Environment to make carbon emissions compliance, targeting, and goals a matter of national importance.
Colombia
Colombia published its first National Action Plan (NAP) on Business and Human Rights (2015–2018) in December 2015, and its second edition (2020–2022) in December 2020, which captured covid-19 considerations. The second NAP serves as a tool for companies, regardless of size or sector, to promote, protect, and repair the human rights of workers and families affected by decreased income and suspended employment contracts, among other negative impacts of the covid-19 pandemic. There has not yet been any announcement of a third edition.
An award-winning online platform, the SDG Corporate Tracker Colombia, assists companies in assessing their contribution towards achieving the UN SDGs. The initiative is supported by the GRI, the National Planning Department of Colombia, and the UN Development Programme. Over 670 companies have registered on the platform. The tracker assists with the information collection process as well as reporting and analysis of ESG performance against GRI standards related to (1) employment rights and labour conditions; (2) community interests; (3) supply chain risks; and (4) customer welfare.
Mexico
Mexico’s Constitution sets out a general framework on human rights, child labour and slavery issues, implemented at both the national and the federal level. Relevant legislation includes the State Trafficking in Persons Law prohibiting forced labour; the Federal Labour Law concerning working conditions and employment issues, including striking and unionisation; and the Federal Regulations on Health and Safety at Work, which sets minimum standards of environmental, health and safety conditions in the workplace.,
In 2020, the Mexican government published a National Human Rights Programme 2020–2024, which includes a section dedicated to business and human rights. This followed an attempt to develop a specific Human Rights and Business Programme (2015–2018) to promote greater respect for human rights in business activities. In its third UN Voluntary National Review in 2021, the Mexican government underscored a continued commitment to correct historical social debts by implementing measures focused on closing inequality gaps, eradicating poverty, and ending corruption, among other topics.
In Mexico, like in Colombia, progress in these areas and towards achieving other UN SDGs is being tracked via an online platform, which was launched in 2018. The platform, titled ‘Information System of Sustainable Development Goals (SIODS)’, provides a centralised location for data from various Mexican governmental departments and agencies. It also allows users to track indicator data and targets related to the UN SDGs at a provincial level, and compare them against the national average collected by the government.
More recently, in February 2023, as part of the United States–Mexico–Canada Agreement, Mexico issued a resolution that aims to prohibit the import of goods produced with forced labour. The commitment under the tripartite trade agreement comes into effect as of May 2023 and will establish a process whereby civilians (as well as the government) can instigate an investigation into the provenance of a company’s goods. Another recent and noteworthy ESG-related update in Mexico (beyond the ‘S’ specifically), includes the fact that Mexico’s pension fund regulator (CONSAR) has published rules regarding investment strategies that include an obligation to analyse companies’ social responsibility credentials, which became effective in January 2022. As a result of these rules, retirement funds in Mexico will be required to incorporate sustainability criteria in their methodologies, prioritise ESG investments in their portfolios, and advocate within the public companies in which they are represented for compliance with such principles.
Peru
In 2018, Peru adopted its third National Human Rights Plan (PNDH) 2018–2021, setting forth five strategic alignments that correspond to the UN SDGs. The fifth strategic alignment highlights the duty of private and public companies to progressively implement international human rights standards. Following the Organisation for Economic Co-operation and Development (OECD) Responsible Business Conduct Policy Review on Peru in 2020, the Peruvian government published a National Action Plan (NAP) on Business and Human Rights (2021–2025) in 2021. The NAP contains recommendations for companies to strengthen measures across a range of issues, including forced labour and child labour within supply chains, employment rights and non-discrimination.
Peruvian Law 30709 prohibits wage discrimination on the basis of gender and protects pregnant or breastfeeding women against dismissal. The Peruvian government, through the Ministry of Labour and Employment and the Ministry of Women and Vulnerable Populations, has promoted and recognised diverse and inclusive companies through schemes like ‘Perú Responsable’ (Peru Responsible) and ‘Sello Empresa Segura’ (the Safe Company Seal). Although Peru historically had a poor reputation for the treatment of human rights defenders, the country has also seen further measures to clamp down on sexual discrimination in the workplace including protection for domestic workers and against the victimisation of complainants and 2022 saw the national minimum wage increased for the first time in four years.
However, in 2022, Peru failed to meet the US Department of State standards for the elimination of human trafficking, in part due to lack of government funding and failure to prosecute complicit officials. Support for marginalised groups, including young males and LGBTQ+ individuals, was deemed inadequate. That said, Peru was praised for its overall increase in efforts considering the impact of covid-19, which included more successful convictions of traffickers and the adoption of the National Policy against Human Trafficking.
Practical considerations
Companies assessing performance under the Social Pillar should consider the key risks that could exist across the following categories.
Employees
Issues to consider here could include the risk of undocumented remuneration; underage workers or children; workers seemingly working without any formal employment contracts in place; employees working long hours without breaks; underpayment or deductions from salaries (e.g., to repay loans); the presence of hazardous materials, dangerous working conditions or a lack of necessary safety equipment; and a general lack of safeguarding policies and training and reporting procedures in place to protect workers (e.g., health and safety policies and incident logs, harassment or discrimination reporting and disciplinary procedures, whistleblower channels and protections, and employee data privacy policies).
Suppliers
In terms of suppliers, companies are increasingly requiring suppliers to have the same safeguarding policies, training and checks in place as are applied to their own businesses. Supply chain audit rights are increasingly utilised as a way to confirm that suppliers adhere to the agreed standards (e.g., organising a periodic inspection of a farm or factory to assess working conditions).
Customers and the community
Related to customers and the community, companies should consider (among other areas) product quality, safety and general fitness for purpose; the manner in which products are labelled, advertised, or otherwise marketed to consumers (e.g., the accuracy or fairness of the product labelling or description, the tone of the marketing materials and advertisements, and the intended audience of the marketing approach); how the company or company website collects and manages personal data from the individuals who interact with it; and general customer and community engagement (e.g., review processes, complaint handling procedures, and participation in wider community events).
Conclusion
ESG has captured the world’s attention, and the ‘S’ in particular has increasingly become a focus for a variety of stakeholders. Given the breadth of this pillar’s application, and its significance for companies, tackling and managing the Social Pillar is an involved task. Nonetheless, companies that have taken action to pre-emptively mitigate risk in these areas enjoy an increasing competitive advantage as governments begin imposing requirements on managing and measuring compliance on social issues.
Given these trends, companies in Latin America should start actively assessing the risks and consider what proactive risk mitigation measures can be implemented now as part of the company’s broader compliance programme and environment. It is just a matter of time before local law and private initiatives in Latin America start to close the gaps and render serious consequences for non-compliance. While it may be difficult to gain traction in these areas, particularly given the ongoing challenges in the aftermath of the covid-19 pandemic, companies that choose to be more forward-leaning when it comes to ESG compliance will be well served in the long run.
Notes
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