ESG Ratings Reform: Fixing Conflicts, Transparency & Trust in Sustainable Finance

Here's a scenario that should bother anyone who takes sustainable investment seriously.

Two analysts at different fund houses are both trying to evaluate the same global manufacturing company's environmental performance. They both pull ESG ratings from established, widely-used providers. One gets a score that places the company in the top tier for its sector. The other gets a score that puts the same company near the bottom.

Same company. Same time period. Same stated methodology of measuring environmental, social, and governance risk. Completely different conclusion.

This is not a hypothetical. It is the documented, peer-reviewed reality of how ESG rating divergence works today. And it is the central reason why ESG ratings reform has become one of the most urgent conversations in global finance, corporate governance, and regulatory circles.

This blog breaks down what's broken, who's trying to fix it, and what boards, companies, and investors should actually do with that information.

What Are ESG Ratings — and Why ESG Ratings Reform Has Become Necessary

ESG ratings are assessments of a company's performance on environmental, social, and governance dimensions. They're produced by specialist rating agencies — firms like MSCI, Sustainalytics, S&P Global, Refinitiv, and Moody's ESG — and are used by investors to evaluate sustainability risk, by index providers to construct ESG-screened portfolios, and by companies to benchmark their governance and sustainability practices.

The ESG ratings market has grown at extraordinary speed. As trillions of dollars flowed into ESG-labelled investment products over the past decade, the demand for reliable ratings to underpin those products grew with it. Providers multiplied. Methodologies diversified. Revenues soared.

The oversight didn't keep up. For most of this period, ESG ratings transparency was essentially voluntary — providers disclosed what they chose to disclose, managed their conflicts of interest as they saw fit, and operated in a regulatory vacuum that would never have been tolerated in traditional credit rating markets.

The consequences of that gap are now well-documented. And the regulatory reckoning has begun — in Europe, the UK, India, and through global bodies like IOSCO.

The Divergence Problem: Why Do the Same Companies Get Different Scores?

This is where the story gets technically specific and practically important.

A landmark study published in the Review of Finance — Oxford Academic's peer-reviewed finance journal — examined ESG ratings from six major providers for the same set of companies. The correlation between ratings from different providers ranged from just 0.38 to 0.71. For context, credit ratings from Moody's and S&P typically correlate above 0.99. The ESG rating divergence problem is not marginal. It is fundamental.

The researchers identified three sources of divergence. Measurement differences — how providers actually quantify a given environmental or social indicator — accounted for 56% of the total disagreement. Scope differences — which activities and subsidiaries are included in the assessment — accounted for 38%. Weighting differences — how much importance is assigned to each category — accounted for the remaining 6%.

In plain terms: when two rating providers look at the same company, they are often measuring different things, counting different parts of the business, and applying different judgments about what matters most. The result is that the same company can look like an ESG leader under one methodology and an ESG laggard under another — and both ratings can claim to be rigorous.

The researchers also identified something they called the "rater effect." Companies whose overall reputation is positive tend to receive more favourable scores on individual ESG indicators — even when the underlying data for those specific indicators is identical to companies with less positive reputations. This is a form of halo bias built into the rating process itself, and it means ESG ratings transparency is compromised not just by methodology choices but by systematic perceptual distortion in how those methodologies get applied.

The practical consequences matter enormously. When ESG rating divergence is this wide, companies receive mixed signals about which sustainability actions are actually valued by the market. Investors cannot make meaningful comparisons across companies or portfolios. Index inclusion decisions — which move billions of dollars — rest on foundations that are not consistent or comparable. And the entire credibility of sustainable finance as a discipline is undermined.

The Conflict of Interest Problem: Who Is Paying Whom?

ESG rating conflict of interest is the second major structural problem, and it mirrors a failure mode the financial world has seen before.

Most major ESG rating providers operate on what is known as the issuer-pays model — the company being rated pays for the rating. This is the same model that sat at the heart of the 2008 credit rating crisis, when Moody's, S&P, and Fitch faced profound criticism for assigning top ratings to mortgage-backed securities that subsequently collapsed. The structured products that carried those AAA ratings were paying the agencies that rated them. The conflict between objective assessment and client retention was obvious in retrospect, devastating in practice.

In the ESG space, the conflict runs in additional directions. Some ESG rating providers also sell consulting services, data products, or advisory services to the same companies they rate. A provider that generates revenue from helping a company improve its ESG profile and then separately rates that same company's ESG performance is in a structural conflict that no amount of internal firewall construction fully resolves.

Research published in academic literature has found that companies held by the same owners as the rating agency tend to receive higher ESG ratings — direct evidence that ownership structure affects rating outcomes in measurable, problematic ways.

The ESG rating conflict of interest problem is further complicated by what legal scholars have called "rating shopping" — when companies seek out the provider whose methodology is most likely to produce a favourable score for their specific profile. Wide ESG rating divergence makes rating shopping more valuable and more rational, because the variance between providers is large enough that the choice of rater genuinely affects the outcome. The provider that rates more favourably gets more business. This creates competitive pressure on all providers to soften their assessments at the margin — a race to the bottom in standards dressed up as market competition.

Global Regulatory Response: Who Is Fixing This, and How?

The regulatory response to these structural problems has accelerated significantly since 2021, when IOSCO — the International Organisation of Securities Commissions, the global standard-setter for securities regulators — published its foundational recommendations on ESG ratings reform.

IOSCO's recommendations were clear and practical. ESG rating providers should disclose their methodologies publicly and in sufficient detail for users to understand how ratings are produced. They should identify, avoid, or appropriately manage and disclose conflicts of interest. They should ensure that ESG data quality and the processes used to generate ratings are subject to governance standards consistent with the influence these ratings exercise over capital markets.

The European Union moved from recommendation to regulation. The EU's Regulation on the transparency and integrity of ESG rating activities — which applies from July 2026 — requires ESG rating providers operating in the EU to obtain authorisation, disclose their methodologies, separate rating activities from consulting activities, and manage conflicts of interest through structural separation rather than just disclosure. The European Securities and Markets Authority, ESMA, has submitted its final technical standards on authorisations and the separation of activities to the European Commission.

The UK Financial Conduct Authority has proposed a similar framework, explicitly informed by IOSCO's recommendations and focused on transparency, governance, and conflict management. The UK's Financial Services and Markets Act 2023 gave the FCA the power to regulate ESG rating providers — a power that was, until that point, entirely absent.

What's notable about both the EU and UK approaches is the emphasis on structural separation — not just disclosing conflicts but actively preventing the most acute of them by requiring that rating and advisory activities be kept operationally distinct.

India's SEBI: What Is It Doing About ESG Rating Providers?

India's approach to SEBI ESG rating providers India regulation has been more proactive than most observers outside the country recognise.

SEBI introduced a regulatory framework for ESG Rating Providers in India that requires every entity rating ESG performance for listed Indian companies to be registered with SEBI. The framework mandates uniformity in rating methodologies, periodic disclosures, and explicit governance requirements around ESG rating conflict of interest management. Under SEBI's rules, assurance providers must now disclose any financial or business relationships with the company being assured in the preceding two years — a direct response to the conflict of interest concerns that have plagued the global market.

Then, in February 2026, SEBI went further by constituting a dedicated working group to review and strengthen the existing ERP framework. This working group brings together issuers, investors, ESG rating agencies, and technical experts — the full ecosystem — with a mandate to examine the current framework, assess what's working and what isn't, and recommend policy improvements aligned with global best practices.

According to SEBI's own statement and reporting from that period, the working group's review is explicitly focused on strengthening ESG ratings transparency, improving reliability and comparability of ratings, and aligning India's approach with the emerging international regulatory architecture being built by IOSCO, the EU, and the UK.

The context matters here. India's ESG investing environment is at a pivotal moment. The BRSR Core framework has made ESG disclosures mandatory for India's top 1,000 listed companies. As that disclosure ecosystem matures, the quality of the ratings built on top of those disclosures becomes increasingly critical — both for domestic investors and for the foreign institutional investors who use global ESG ratings to make allocation decisions in Indian markets.

A 2025 Grant Thornton survey found that 22% of ESG assurance engagements in India had to be declined or reassigned in the previous year due to independence or conflict of interest concerns. That figure — nearly one in four — tells you something important about how acute the conflict problem already is in practice, even before the framework has been fully tightened.

What This Means for Boards, Companies, and Investors

If you're sitting on a board, managing an ESG programme, or allocating capital using ESG data — here is what the ESG ratings reform moment means for you in practical terms.

For companies: don't optimise for one rater's methodology. The rating divergence problem means that chasing a high score from a single provider is a strategic mistake. Different providers weight different things. A company that builds genuine ESG practices grounded in its actual material risks will fare better across multiple methodologies than a company that reverse-engineers its reporting to satisfy one rater's checklist. When the regulatory environment settles and methodologies converge — as they will — the companies with substance will hold up and those with clever reporting will be exposed.

For boards: ask your ESG rating provider the right questions. Does the provider that rates your company also sell you consulting or advisory services? If so, what structural separation exists between those functions? Who in your organisation manages the rating relationship, and is that person's incentive aligned with honest assessment or favourable outcomes? These are governance questions that boards should be asking, not just management.

For investors: treat ESG ratings as one input, not a verdict. The divergence evidence is now strong enough that treating any single ESG rating as a definitive assessment of a company's sustainability profile is analytically unsound. Investors with the resources to do so should be cross-referencing multiple providers and understanding where and why they diverge. Where they diverge significantly, that divergence is itself useful information — it usually indicates genuine uncertainty about material risks that deserves deeper investigation rather than a single score's resolution.

For all stakeholders: the regulatory direction is clear. The trajectory from IOSCO through the EU and UK frameworks and into SEBI's current review is consistent: ESG rating providers are moving toward a regulated environment with mandatory methodology disclosure, structural conflict management, and governance standards comparable to those applied to traditional financial rating agencies. Companies and investors who build their ESG frameworks on this expectation now will be ahead of the curve when it becomes mandatory.

Closing Thought

ESG ratings reform is not a niche regulatory technicality. It is the foundational question beneath the entire sustainable finance movement — because sustainable finance is only as credible as the measurements it rests on.

The ESG rating divergence problem and the ESG rating conflict of interest problem are not separate failures. They compound each other. Wide divergence increases the value of rating shopping. Rating shopping creates competitive pressure that erodes methodological rigour. Eroded rigour produces more divergence. The cycle runs until regulation interrupts it — which is exactly what IOSCO, the EU, the UK, and now SEBI are beginning to do.

ESG ratings transparency isn't the whole answer. Disclosure without structural conflict management is impression management, not reform. The most rigorous frameworks — the EU's being the clearest example — recognise this and build separation requirements, not just disclosure requirements, into the architecture.

What the industry and the investor community need now is less tolerance for complexity as a shield. Every ESG rating provider that cannot explain its methodology in plain language, that cannot demonstrate how it manages conflicts without asking users to simply trust it, that cannot produce comparable outputs from comparable inputs — that provider is part of the problem the regulators are trying to solve.

The reform is coming. The question is whether the market gets ahead of it or waits to be dragged.

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