ESG ratings providers push back on EU’s cost-based fees proposal

MSCI says new rules would be 'extraordinary level of intrusion' into pricing mechanism, RepRisk flags risk of raising barriers to market entry.

MSCI, the London Stock Exchange Group (LSEG), RepRisk and Ecovadis have come out in opposition to an attempt by the EU to rein in the price of ESG ratings products in line with costs.

The proposed rules are part of a broader regulatory package published by the European Commission in June to address longstanding concerns over data integrity and transparency within the ESG ratings market.

The EC has tabled requirements for providers to “ensure that fees charged to clients are fair, reasonable, transparent, non-discriminatory and are based on costs”. EU financial regulator ESMA is to be given powers to request documentation and impose fines in the event of non-compliance.

Providers will also need to disclose “general information on criteria used for establishing fees to clients”, such as the involvement of data analysts, IT equipment and other resources.

The requirement for commercial enterprises to integrate fair, reasonable, non-discriminatory and transparent pricing – known as FRANDT – is a common feature of EU regulations, but the additional requirement to reflect costs has emerged as flashpoint among providers.

MSCI criticised what it described as “an exceptional requirement” in response to a consultation on the proposals, noting that product users such as asset managers do not have to comply with cost-based pricing when selling their services and products that make use of ESG ratings.

The US firm also slammed disclosure requirements around costs as “a significant and extraordinary level of intrusion into the determination of fees by the ESG rating providers”. A cost-based pricing requirement has not been subject to wider consultation and “goes beyond what is strictly necessary”, the data giant added.

MSCI reported revenues of $61 million for its ESG and climate business in 2022, more than double the level in 2021, and saw strong growth from ESG ratings in the first two quarters of 2023. The ESG and climate division has seen revenues grow year-on-year since 2018.

In its submission, LSEG said that cost-based pricing is “a very restrictive condition to operate” and would be tricky to implement “given how complex it is to assess actual costs in technology and data-driven services”.

LSEG also complained that the proposed maximum penalty that can be imposed by ESMA – up to 10 percent of turnover – is “disproportionate” and would mean that the regulator is determining prices in a private market.

“We do not believe that ESMA should be empowered with a price-setting role and would argue that competition matters should be dealt with at the level of the relevant competition authorities,” said LSEG.

Barriers to entry

Criticisms were also levied by smaller providers such as RepRisk, which noted that start-ups will likely experience high costs in their early phases and would therefore be unable to compete on cost-based pricing. Cost-based pricing models may result in a lack of incentive to reduce costs and explore avenues for innovation, they added.

In addition, the ability of ESG rating providers to invest in their own processes and analytical resources must safeguarded, French provider Ecovadis said in a separate letter. “Limiting freedom of contracting and imposing price controls via cost price justification should be avoided.”

Other major providers of ESG ratings, including S&P, Moody’s and Sustainalytics, did not submit a public response to the consultation, while Fitch’s submission did not address pricing.

The vigorous defence mounted by ESG ratings companies over the right to set their own pricing could put them on a collision course with client groups such as PensionsEurope, which have welcomed the pricing safeguards.

Notably, none of the data providers that responded to the consultation has outright rejected the EC’s proposed conflict of interest rules, which would see providers of ESG ratings prohibited from also offering consulting, credit ratings, benchmarks and other related services to clients.

However, Fitch has sought clarification on whether the regulations would prevent credit ratings agencies (CRAs) from disclosing the impact of ESG factors on their ratings.

“If our interpretation is correct, CRAs would be forced to stop disclosing these assessments as the CRA would otherwise be considered an ‘ESG rating provider’ and [the proposal] specifically prohibits ESG rating providers from also issuing credit ratings,” said Susan Launi, Fitch’s global head of regulatory affairs.

“We believe this prohibition is not the intention of the European Commission in drafting the proposed regulation, as it would greatly undermine disclosure of ESG factors that are key drivers in credit rating actions, for which we understand there is broad support across all the relevant European institutions.”

EU co-legislators the European Parliament and Council have less than a year to take into account market feedback and agree the finer details of the proposed regulation before the next European election in June.