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Subject 5. Environmental, social, and governance factors

Investors should assess the following policies of corporate governance:

  • Code of ethics.
  • Directors' oversight, monitoring, and review responsibilities.
  • Management's responsibility to the board.
  • Reports of directors' oversight and review of management.
  • Board self assessments.
  • Management performance assessments.
  • Director training.

A company's environmental, social, and governance (ESG) risk exposures are important factors to be considered for the company's long-term growth. Here are the risks:

  • Legislative and regulatory risk: Risk that the government will pass new laws or regulations (e.g., emission standards.
  • Legal risk: Potential for lawsuits to result from management's failure to adequately deal with one of the ESG factors.
  • Reputational risk: Valuation impact of management's insufficient past attention to ESG factors.
  • Operating risk: Possibility that a firm's operations will be negatively impacted by ESG factors.
  • Financial risk: Risk of incurring a monetary cost due to ESG risk factors.

Study notes from a previous year's CFA exam:

5. Environmental, social, and governance factors