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OPINION

Drax underscores environmental impact risks for ESG funds

Regulators want to prevent greenwashing; corporates need to abide by the rules. What happens when science doesn’t help?

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UK power generator Drax Group has been caught up in a very public row stemming from allegations made in a recent BBC programme over the sourcing of its biomass.

A BBC Panorama investigation accused Drax of buying the rights to primary forestry land in Canada and cutting good quality logs to create biomass, even though it presents its biomass as sourced from 80% sawmill and 20% from forestry waste wood.

Drax has responded to these allegations by saying that the material is sourced from sustainably managed forests, where trees are sometimes felled to prevent forest fires and diseases. The company claims that the BBC programme repeats inaccurate claims made about biomass “which have for years been promoted by those who are ill-informed about the science behind sustainable forestry and climate change and those who have vested interests in seeing the biomass industry fail.”

But reputational damage has already been done, with Drax’s price down by 10.83% since the Panorama episode was aired. This incident raises important questions about investor responsibility and regulatory management of green corporate claims when the science itself is up for discussion.

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Drax power station at sunset in North Yorkshire. Photo: Reuters

Investor knowledge

Investors and asset managers have a fiduciary duty to carry out detailed analysis of an investment opportunity prior to making capital commitments. But they also expect companies to deliver information to the market that is accurate and evidence-based, and therefore not misleading. That includes their sustainability credentials.

Yet frequently, corporate sustainability claims are made for activities whose environmental benefits are open to question. This is a problem for investors trying to demonstrate the ‘greenness’ of their portfolios.

Biomass, for example, is a renewable energy source according to the IPCC and the EU taxonomy, but is criticised for its high environmental and emissions impact by some in the climate science community. In the UK, the government is betting heavily on the quick development of biomass projects across the country to increase its green-energy production and is likely to include biomass in its draft green taxonomy.

How much due diligence can investors reasonably be expected to conduct on a corporate’s environmental benefit claims in sectors where such claims remain highly contentious?

The debate over the true environmental cost of biomass energy production is ongoing, but if a resource has been granted a sustainable seal of approval by international frameworks, then investors with exposure to biomass in their green funds are, as far as the taxonomy is concerned, abiding by responsible investing principles.

Not everyone agrees. Campaigners such as the environmental and legal charity ClientEarth filed an internal review request to the European Commission earlier this year over classification of bioenergy as sustainable, arguing that it is unlawful. But until that and other debates are resolved, the taxonomies dictate the rules that investors must follow.

How much due diligence can investors reasonably be expected to conduct on a corporate’s environmental benefit claims in sectors where such claims remain highly contentious?

Neither investors nor consumers have the expertise to effectively question the climate science that underpins a corporate’s true environmental impact. But if a company is included in an environmental, social and governance portfolio, investors must be able to justify on what basis that company is there.

Doing what it says on the tin

Regulators have an important role to play here. Supervisory bodies want to police the market to expose and prevent greenwashing. Most of the time, however, corporates face an information gap on what they should be measuring.

Regulators should provide clarity on disclosure requirements to ensure that there is consistency in the market. But they cannot be seen to be making a judgement call on the environmental legitimacy of an individual industry.

In the case of Drax, the BBC claims that the company is cutting down trees to use for biomass production, while the company says those trees are cut down as part of appropriate forestry management, then sold for high-quality timber, the waste of which becomes biomass.

Only one of them can be right.

Financial regulation cannot work in an environment like this. The industry needs a detailed set of metrics, based on available and quantifiable data disclosed by corporates. If there is verifiable evidence that a business is respecting its previously stated principles of ethical biomass sourcing, it cannot be accused of greenwashing. Nor can its investors.