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SEBI’s Proposed Reforms for ESG Rating Providers
Context:
The Securities and Exchange Board of India (SEBI) has proposed new regulations to strengthen the ESG Rating Providers (ERPs) framework. The key focus areas include withdrawal of ESG ratings and disclosure of rating rationale. The aim is to ensure transparency, accountability, and credibility in the ESG rating ecosystem.
Regulatory Framework for ERPs
- ERPs provide Environmental, Social, and Governance (ESG) ratings to assess a company’s sustainability performance.
- In 2024, SEBI mandated that ERPs register and obtain a license.
Guidelines for ESG Rating Withdrawal
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Subscriber-Pays Model
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- Ratings can be withdrawn if there are no subscribers.
- If the rated entity is part of a rating package (e.g., Nifty 50 index) with subscribers, withdrawal is not permitted.
- Once a rating is withdrawn, it must be removed for all subscribers.
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Issuer-Pays Model
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- Ratings can be withdrawn after:
- Three years of continuous rating or 50% of the security’s tenure, whichever is higher.
- Approval from 75% of bondholders (by value).
- Ratings can be withdrawn after:
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Disclosure of Rating Rationale
- ERPs using the subscriber-pays model must restrict detailed reports to subscribers.
- ESG ratings, however, must be published in a specified format on ERP websites.
- Stock exchanges must prominently display ESG ratings of listed companies under a separate tab.
- Internal Governance of ERPs
- Internal audits for Category-II ERPs will be mandatory after two years of implementation.
- Establishment of a Nomination and Remuneration Committee (NRC) will also be required after two years.
- Expansion of ERP Scope
- SEBI proposes that ERPs be allowed to rate unlisted securities and other issuers.
- Registered ERPs rating entities outside SEBI’s purview must clarify their regulatory status in communications.
- Streamlining ERP Operations
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- ERPs can include clarifications from rated entities as an addendum to rating reports.
- The requirement for ERPs under the subscriber-pays model to share ratings with stock exchanges is being reconsidered.
- A shift towards an activity-based regulatory framework may integrate ESG rating regulations with existing Credit Rating Agency (CRA) guidelines.
Implications of SEBI’s Proposed Reforms for ESG Rating Providers
SEBI’s reforms will enhance transparency, credibility, and regulatory oversight in ESG ratings, benefiting investors and market participants.
- Transparency & Standardisation – Mandated disclosure of ESG ratings and rationale on websites and stock exchanges improves accessibility and reduces ambiguity.
- Credibility & Market Trust – Stricter governance norms, internal audits, and inclusion of rated entities’ clarifications ensure fairer and more reliable ESG assessments.
- Investor Impact – A structured regulatory framework aligns ESG ratings with CRA guidelines, enabling better risk assessment and informed decision-making.
- Regulatory Oversight – Expanding ERP coverage to unlisted securities enhances scrutiny, while requiring ERPs to clarify their regulatory status prevents misrepresentation.
- Challenges for ERPs – Restrictions on rating withdrawals and bondholder approval requirements may pose operational difficulties and delay rating adjustments.
- Market & Policy Impact – Integration with CRA norms could influence global ESG frameworks and drive wider adoption of sustainability principles in India.
Conclusion
- SEBI’s proposed regulations aim to create a robust, transparent, and efficient ESG rating framework.
- Ensuring standardised disclosures, clear withdrawal mechanisms, and internal governance will enhance credibility and investor confidence.
- The proposed expansion in ERP scope may increase market depth and facilitate better ESG assessments across diverse sectors.
