For years, ESG ratings have been treated like the weather forecast of sustainable finance, widely used, heavily relied upon, and often taken at face value. Yet few firms have visibility over how those ratings are produced, how methodologies differ between providers, or how potential conflicts of interest are managed.
The FCA’s recent consultation marked a significant shift towards bringing ESG ratings providers into the regulatory perimeter for the first time. While the consultation has now closed, firms should begin assessing what the proposals could mean for their governance, oversight and operational readiness.
However, the implications extend beyond ratings providers. Financial institutions that rely on ESG ratings should also expect greater scrutiny of how they select, oversee and challenge those providers. Due diligence, governance and vendor oversight are likely to come under increased focus.
What are the FCA's proposals?
The FCA has proposed bringing firms providing ESG ratings, ESG data and ESG analytics into the regulatory perimeter through a new authorisation regime.
The objective is to bring greater consistency, transparency and accountability to a market that has historically operated with limited regulatory oversight.
The proposals would apply to UK-based providers and certain overseas firms whose ESG ratings are used by UK clients.
Why does this matter to ESG rating providers?
Many ESG data providers have never previously been subject to FCA regulation.
Under the proposals, firms may need to demonstrate:
· documented methodologies;
· robust governance arrangements;
· effective conflict management; and
· clear Senior Manager accountability.
The FCA is particularly focused on the credibility of ESG ratings. Where firms provide both ratings and advisory services, they will need to demonstrate that conflicts are appropriately identified and managed. Independence will need to be evidenced, not simply described within policies.
Transparency expectations will also increase significantly.
Providers are expected to disclose:
· methodologies;
· data sources;
· assumptions;
· limitations; and
· definitions.
Greater transparency should improve comparability across the market, but it will also expose methodological weaknesses and increase operational demands for many providers.
What does this mean for firms using ESG ratings?
The consultation is not only relevant to ESG ratings providers. Asset managers, banks and insurers that rely on ESG ratings or produce proprietary ESG scores may also fall within scope if those scores influence investment decisions.
Firms should consider whether they have sufficient oversight of the ESG ratings they rely upon, including how methodologies are developed, monitored and challenged over time.
In practice, this may mean:
Strengthening vendor due diligence
Understand how ESG ratings are produced, the methodologies used and any limitations within the underlying data.
Reviewing governance arrangements
Ensure there is clear ownership of ESG rating within the business and appropriate oversight of third-party providers.
Assessing concentration risk
Consider whether reliance on a single ESG ratings provider could create operational or governance risks.
What we are seeing in practice
Many firms rely heavily on third-party ESG ratings but have limited visibility over how those ratings are produced, how methodologies evolve or how changes are governed over time.
As regulatory expectations continue to evolve, we expect supervisors to place greater emphasis on governance, transparency and firms’ ability to demonstrate appropriate oversight of the ESG data they rely upon.
For example, an asset manager using a single ESG ratings provider should be able to explain why that provider was selected, how changes in methodology are monitored, and how those changes could affect investment decisions.
What happens next?
The consultation has now closed and the FCA is reviewing responses from industry. Firms should watch for the publication of the final policy statement and rules, which will confirm the scope of the regime, implementation timelines and regulatory expectations.
In the meantime, firms do not need to wait. Now is the time to assess whether they are likely to fall within scope, review governance arrangements and identify any gaps ahead of implementation.
How should firms prepare now?
Although the FCA is still considering feedback before publishing its final rules, firms do not need to wait before preparing. The direction of travel is clear, and there are several practical steps firms can take now.
Assess whether your firm falls within scope
Determine whether your organisation provides ESG ratings or analytics that could require FCA authorisation.
Review governance arrangements
Assess whether governance, accountability and conflict management arrangements would meet the FCA’s proposed expectations.
Understand third-party reliance
Review how ESG ratings are used across investment, product governance and risk management processes, and whether vendor oversight is sufficiently robust.
Prepare for greater transparency
Consider whether methodologies, assumptions and data sources can be clearly documented and explained.
Final thoughts
The FCA’s proposals represent a significant step towards a more consistent and transparent ESG ratings market. While firms await the final rules, now is the time to assess scope, strengthen governance and understand how the changes could affect their business.
While ESG ratings providers will experience the greatest regulatory change, firms that rely on ESG ratings should also expect increased scrutiny of governance, due diligence and oversight.
Those that assess their exposure early and strengthen governance ahead of implementation will be better placed as the new regime develops.
How fscom can help
Whether you are preparing for the FCA’s final policy statement or assessing the potential impact on your business, get in touch to see how fscom can help.
We support firms with scope assessments, governance reviews, regulatory gap analyses and implementation planning, helping you prepare with practical, proportionate advice tailored to your business.
This post contains a general summary of advice and is not a complete or definitive statement of the law. Specific advice should be obtained where appropriate.
