ESMA’s overview of the market for ESG rating providers in the EU is a key topic under both the European Commission’s Strategy for Financing the Transition to a Sustainable Economy and ESMA’s Sustainable Finance Roadmap.

market for ESG rating providers in the EU

On 28 January 2021, ESMA wrote to the European Commission (EC) to advise that it considered the unregulated nature of ESG ratings and data assessments posed a potential risk to investor protection. To mitigate these risks ESMA highlighted the need to match the growth in demand for these products with appropriate regulatory requirements, to ensure their quality and reliability.

This letter was followed by the publication of the EC’s Strategy for financing the transition to a sustainable economy on 6 July 2021. As part of this strategy, the EC announced that it will take action to improve the reliability, comparability and transparency of ESG ratings. In order to achieve this, the EC committed to launching a public consultation. This public consultation is intended to gather information on the issue, with a view to developing an impact assessment on the costs and options of a possible EU intervention.

With a view to receiving supporting evidence for this process, the EC addressed a request for support to ESMA on 12 November 2021. This request noted that ESG ratings are used by a wide variety of investors to take into account risks and opportunities linked to ESG issues. In addition, it noted that these products are having an increasingly important impact on the operation of capital markets and on the confidence of investors in sustainable finance products. As a result, the EC requested that ESMA conduct a call for evidence with a view to identifying those ESG rating providers that are currently either present in the EU or located outside but operating in the EU.

This call for evidence seeks to develop a picture of the size, structure, resourcing, revenues and product offerings of the different ESG rating providers operating in the EU. The core objective has been to develop an understanding of the market for ESG rating providers active in the EU as well as to gather the views of users and entities covered by ESG ratings.

To achieve this, ESMA split the call for evidence into three parts:

The first part sought input directly from ESG rating providers, the questions here aimed to establish providers’ legal status, ownership structure, level of resourcing and business model.

The second part sought input from entities using ESG rating products. The questions here aimed to establish the nature of their engagement with ESG rating providers and the characteristics of any contractual arrangements.

The third and final part of the call for evidence sought input from entities that are covered or “rated” by these providers. The questions in this part aimed to establish the nature of covered entities’ interaction with ESG rating providers and any associated costs. In totality, we considered that responses from these three categories would provide us with a reliable overview on the main characteristics of the market.

In total ESMA call received 154 responses split over the 3 categories of respondent. Based on careful consideration their principal finding is that the number of ESG rating providers currently active in the EU is 59. This figure is derived from a combination of
information provided by ESG rating providers, users and entities covered by ESG rating providers. Based on a cross comparison with the responses to the IOSCO consultation, and other publications, ESMA now considers this number to be a reliable indicator for the size of the market in the EU.

The analysis of the responses to their call for evidence indicates a number of key characteristics and trends:

First, the structure of the market among providers is split between a small number of very large non-EU entities on one hand, and a large number of significantly smaller EU entities on the other. The EU entities providing ESG ratings can largely be characterised as small or medium sized enterprises. While the legal entities of respondents were spread out across almost half of the EU Member States, a large number of these were clustered in only three Member States. The predominant business model is investor-pays, however, provision of ESG ratings on an issuer-pays basis is more prevalent than anticipated and was indicated in around a third of responses from providers.

Second, the majority of users of ESG ratings are typically contracting for these products from several providers simultaneously. Their reasons for selecting more than one provider are most notably to increase coverage, either by asset class or geographically, or in order to receive different types of ESG assessments. A majority of users contract with a small number of the same rating providers, indicating a degree of concentration in the market. The most common shortcomings identified by the users were a lack of coverage of a specific industry or a type of entity and insufficient granularity of data. Complexity and lack of transparency around methodologies were also cited as an issue.

Third, entities covered by these products are required to dedicate at least some level of resourcing to their interactions with ESG rating providers, although the amount is largely dependent on the size of the rated entity itself. Most of these entities highlighted some degree of shortcoming in their interactions with the rating providers, most notably on the level of transparency as to the basis for the rating, the timing of feedback or the correction of errors.

Finally, as part of this call for evidence ESMA sought input on the relevance of these products to EU financial markets and investors, as well as the potential risks that they may pose.

The feedback received on the market for ESG rating and data providers is indicative of an immature but growing market, which, following a number of years of consolidation, has seen the emergence of a small number of large non-EU headquartered providers. In ESMA’s view this market structure bears some resemblance to that which currently exists for credit ratings. Similar to that market, there are a large number of smaller more specialised EU entities co-existing with larger non-EU entities who provide a more comprehensive suite of services.

market for ESG rating providers in the EU

Source: ESMA – Overview of the market for ESG rating providers in the EU