In addition to natural enjoyment and beauty, forests provide valuable ecosystem services including carbon sequestration, wildlife habitat, water purification and storage, soil formation, a habitat for indigenous communities and recreational opportunities. As such, protecting or enhancing those ecosystem services within managed forestlands can mitigate reputational, demand, and operational risks related to the potential adverse environmental impacts of forestry related businesses and offer significant opportunities as it relates to restoration of forests.
The forestry value chain consists of companies that own and manage natural and planted forestry lands and timber tracts, selling timber to wood products manufacturers, pulp and paper producers, energy producers, and a variety of other customers.
ESG factors in the forestry sector
ESG stands for ‘environmental’, ‘social’ and ‘governance’ and refers to the three central factors used to measure the impact of a company’s business both in terms of risk and opportunities, especially as it relates to the company’s long-term performance. ESG is a broad concept which covers a variety of factors, the relevancy of which largely depends on the company’s industry, geography, and broader business context. Companies operating across the forestry value chain are exposed to a wide range of ESG factors.
At Diginex, we reviewed and analysed the most material ESG factors for the forestry industry broadly, both in terms of the framework recommendations by major framework providers (such as GRI and SASB), as well as material factors large and smaller forestry companies are already reporting on. Whilst all ESG topic recommendations accessible within diginexESG’s materiality module, some of the most prevalent ones are shown below:
· Environmental: Water use and availability, pollution and pesticides, climate impacts, planning and harvesting techniques, biodiversity and ecosystems
· Social: Land rights, relationships with local communities and other key stakeholders, labour standards, including health and safety, supply chain custody
· Governance: Anti-corruption and bribery, quality of management plans, and grievance mechanisms
Forestry companies will need to conduct their own materiality assessment to identify, which of these issues are most important to their company and balance them against importance to various stakeholder groups often through conducting their own stakeholder assessment. Some companies go a step further by benchmarking against peers, and speaking to internal teams and investors, and come up with a matrix/prioritisation of the key issues. This will help spearhead any ESG strategy development and relevant reporting – foundational to any corporate sustainability effort.
By identifying the most relevant KPIs and measure progress consistently against those, forestry companies are better prepared to manage these factors as opportunities for value creation and identify emerging risks and liabilities that are likely to have a negative impact.
ESG Frameworks and Standards relevant for the forestry value chain
The Global Reporting Initiative (GRI) provides a widely appliable set of reporting standards that enables organizations to understand and report on their impacts on the economy, environment, and people in a comparable and credible way, thus increasing transparency on their contribution to sustainable development. GRI identifies “Forestry” as a priority sector and will be releasing sector-specific guidance in line with their sector program (release dates to be confirmed).
SASB Standards connect business and investors on the financial impacts of sustainability. Its SASB Forestry Management Standards 2018 identifies key topics across Ecosystem Services, Rights of Indigenous People and Climate Change Adaptation, with quantitative and qualitative metrics mapped to each. For the more advanced companies, the CDP Forests, provides a framework of action for companies to measure and manage forest -related risks and opportunities, transparently report on progress, and commit to proactive action for the restoration of forests and ecosystems.
While voluntary standards provide useful and comprehensive frameworks, ESG reporting is increasingly being regulated. The EU Commission is set to adopt EU-wide sustainability reporting standards (ESRS) under the new Corporate Sustainability Reporting Directive (CSRD), which will impose requirements across the economy starting in 2024. Similarly, the International Financial Reporting Standards (IFRS) Foundation, through the International Sustainability Standards Board (ISSB) is working on developing a global baseline of sustainability disclosures, with the first drafts set to be finalized this year. Both regulations will have direct implications for the forestry sector.
Management of ESG related risks and opportunities
Beyond reporting, each one of the material issues presents a host of opportunities and risks, which should be integrated into the company’s governance structures, policies and mechanisms and managed as part of its core business operations.
>1 bn people depend directly on forests for their basic livelihoods
Opportunities: Engagement with local communities and indigenous to understand and protect community rights and interests, improving local operating environment, infrastructure (roads, hospitals, etc.) and job creation.
Risks: Ensure local communities are not negatively affected by forestry management operations, environmental degradation and competition for natural resources for land and water.
>15% of global carbon emissions result from deforestation and forest degradation
Opportunities: Considering uncertainty related to changing weather patterns and impacts on some species, companies could benefit from identifying and understanding potential long-term impacts of climate change on the productivity of forestlands and adjusting forestry management strategies to optimize the productivity.
Risks: Variations in precipitation patterns and temperatures, more frequent extreme weather events and forest fires, and an increased prevalence of tree diseases and pests could adversely impact timberlands through increased mortality or diminished productivity.
>$13bn per year in export trade of forest-risk commodities soy, palm oil, timber and cattle drive deforestation for land use
Opportunities: Forest products embody and recycle large amounts of carbon, and trade moves products and their sinks around the world. This complex function will undoubtedly remain under a lively discourse in shaping the future role of forests in low-carbon economies and in the run-up to a global climate accord.
Risks: Reputation, commercial and potential legal risks stemming from unsustainable harvesting practices leading to deforestation, and hence degradation of flora and fauna. Other issues may relate to potential for corruption and bribery as it relates to land titling, securing operating concessions, and mixing of legal and illegal sources timber products.
Companies increasingly utilize third-party certification to demonstrate sustainable forestry management practices that serve to enhance the value and productivity of their forest assets, as well as to meet rising customer demand for sustainably produced forest products.
Amongst the most recognized Forestry certification programs are the Forestry Stewardship Council (FSC) and the Programme for the Endorsement of Forestry Certification (PEFC). These certification schemes audit the operations of forestry companies to ensure conformity with sustainability standards. Increasingly, asset owners, such as investors, demand proof of certification to ensure that assets are managed in accordance with standards prior to committing funds. Whilst certification has broadly led to better ESG practices, it remains a costly undertaken to many of the smaller companies operating along the forestry value chain.
Integration of ESG factors into forestry investment process
The integration of ESG factors within the investment process has shifted dramatically over the past decade, form an initial limited number of impact focused investors towards ESG becoming a mainstream in the investment community. Bloomberg Intelligence estimates that global assets under management in Europe/US/Canada/Australia/Japan alone might reach $41 trillion by the end of this year and may hit $53 trillion by 2025. This represents a third of global AUM that would be linked to environmental, social and governance criteria.
Given the significant role forestry can play in mitigating climate change, it is widely expected that there will be an increase in institutional capital into sustainable forestry management, as well divestment from forestry actors that do not offer sufficient proof of robust ESG risk management and governance. Investors are already integrating of ESG factors into forestry investment processes and those companies, that can demonstrate proof of sustainably managed forest operations, backed by data, will be leading the way.
 SASB Forestry Sector Standard 2018.