SEBI’s Clarifications On ESG Ratings: A Regulatory Update For ERPs

Introduction:

On May 16, 2024, the Securities and Exchange Board of India (“SEBI”) issued a circular titled Master Circular for ESG Rating Providers (“ERPs”). The present circular^[1] on Clarificatory and Procedural changes to aid and strengthen ESG Rating Providers (“ERPs”) lays down updated procedural and disclosure-related norms for ESG Rating Providers. The changes were introduced after receiving various representations from ESG Rating Providers and feedback from public consultations with stakeholders. The objective is to bring clarity to certain provisions of the earlier framework and help ERPs align their practices with regulatory expectations.

Explanation:

One of the key aspects addressed in the circular is the process surrounding the withdrawal of ESG ratings. The original Master Circular stated that ESG ratings could only be withdrawn under certain conditions, such as when the rated issuer is wound up, merged, or amalgamated with another entity, or as permitted by SEBI. SEBI has now clarified that for ESG Rating Providers operating under a Subscriber-Pays business model, a rating may be withdrawn if no subscribers exist for it on the date of withdrawal. However, if the rated entity or instrument is part of a package like the Nifty 50 index that continues to have subscribers, the rating cannot be withdrawn. Moreover, ERPs must ensure that withdrawn ratings are not shared again in the future. Another reason an ERP may withdraw a rating is the absence of a Business Responsibility and Sustainability Report (“BRSR”) from the issuer or entity.

For ERPs operating under an Issuer-Pays business model, SEBI has laid down slightly different conditions. In the case of a rated security, a rating may be withdrawn if the ERP has rated it continuously for a minimum of three years or half of the security’s tenure, whichever is longer, and also obtains a No Objection Certificate from 75% of the bondholders by value. In the case of an issuer or entity rating (as opposed to a specific security), the ERP may withdraw the rating if it has been continuously rating the issuer for at least three years.

SEBI also addressed the disclosure requirements around ESG Rating Rationales on the websites of ESG Rating Providers. The earlier framework had mandated continuous disclosures of rating rationales and ESG reports. However, the new circular clarifies that ERPs following the Subscriber-Pays model may restrict access to detailed rating rationales and reports only to their subscribers and need not disclose them publicly on their websites. Nevertheless, these ERPs must still display basic rating information such as the name of the rated issuer or security, sector, ESG rating, and date of rating. These entries should be organized year-wise and should indicate the BRSR on which each rating is based.

Further, the rated entity is allowed to submit its comments on the ESG rating rationale or report using a standardized format developed by the ESG Rating Provider Association in consultation with SEBI. This standard format and related guidelines are shared in Annexure A of the circular. ERPs under the Subscriber-Pays model must ensure that this format is published on their websites and is also provided to the rated issuer when sharing the ESG rating rationale or report with them.

The circular also directs that ESG ratings must be disclosed on the websites of stock exchanges where the rated issuer or security is listed. For entity-level ESG ratings, the stock exchange must display the rating under a separate tab on the webpage of the listed company. Similarly, for debt security ratings, the rating must be displayed on the page of the listed security. SEBI has prescribed a standard disclosure format, which includes the name of the rated issuer, the relevant symbol or ISIN, the sector, the ESG rating, the date of rating, the name of the ERP, and the business model of the ERP (whether subscriber-pays or issuer-pays).

Regarding internal audits, Chapter IV of the original Master Circular had laid down the internal audit requirements for ERPs. Given the operational difficulties faced by newly registered Category-II ERPs, SEBI has granted a grace period. For these ERPs, the requirement to conduct an internal audit will become effective only after two years from the date of this circular. SEBI has also expanded the list of eligible professionals who can be part of the audit team. In addition to Chartered Accountants, Cost Accountants (“ACMA/FCMA”) and professionals with a Diploma in Information System Security Audit (“DISSA”) from the Institute of Cost Accountants of India are now eligible. As per the revised provision, the audit team must include at least one Chartered Accountant or Cost Accountant and one information systems auditor or someone holding a DISA, CISA, or DISSA qualification.

In terms of governance norms, the Master Circular had mandated the formation of an ESG Ratings Sub-Committee and a Nomination and Remuneration Committee (“NRC”) by all ERPs. Recognizing the start-up challenges faced by Category-II ERPs, SEBI has postponed this requirement for them. These ERPs will have two years from the date of this circular before they are required to constitute these committees. In the interim, matters that would fall under the jurisdiction of the ESG Ratings Sub-Committee and NRC can be managed directly by the Board of the ERP.

Conclusion:

Through this circular, SEBI has addressed practical concerns raised by ESG Rating Providers and provided clarification on multiple operational aspects of the ESG rating process. The circular introduces flexibility for ERPs depending on their business model and stage of development.

^[1] https://www.sebi.gov.in/legal/circulars/apr-2025/clarificatory-and-procedural-changes-to-aid-and-strengthen-esg-rating-providers-erps-_93704.html