Environmental, Social and Governance (ESG) considerations have been rising as important business topics in recent last years. In the WEF 2019 Global Risks Report, environmental risks continue to dominate the survey.1 The reality of this shift is being experienced by those companies that are facing growing pressure in this area from customers, investors, regulators and the public. For companies the challenge is, “what does ESG mean for us?”. To help companies, including the Board of Directors, with this challenge, this viewpoint offers four action points that could help kickstart an ESG strategy. First, we provide some background.
Moreover, proxy advisors are requesting evidence of more ESG efforts. For example, Actares “expects companies to follow best practice rules in the areas of environmental sustainability, social responsibility and corporate governance, to provide transparent and substantive information, and to demonstrate significant and measurable improvements”.6 Other proxy advisors such as ISS, Glass Lewis, zRating/ Inrate or Ethos are increasing their tracking of ESG performance of companies and expect “transparency and clearly defined, regular communication”.7 Pressure on companies, however, is not only coming from external stakeholders, but also employees. This is particularly the case among younger generations who value making a positive difference in society, beyond job recognition.
One source of increased stakeholder pressure is customers. Several studies suggest that some consumers are willing to pay more for sustainability or ethically produced goods.2 This means that companies can actively position their brand and, in some cases, even charge a premium for socially or environmentally friendly products or services.
Also, the investment sector is changing its attitude to ESG. According to ISS, sustainable investing “has evolved from niche to a necessary component of institutional investment and asset management”.3 BlackRock CEO Larry Fink put it this way in a 2018 letter to CEOs: “In addition to financial performance companies must also demonstrate to what extent they make a positive contribution to society”.4 In Switzerland, the topic is also on the rise. Total sustainable investments increased by 83% from 2017 to 2018.5 In addition, more and more Swiss pension funds are considering ESG factors in their investment decisions to reduce long-term risk.
Moreover, proxy advisors are requesting evidence of more ESG efforts. For example, Actares “expects companies to follow best practice rules in the areas of environmental sustainability, social responsibility and corporate governance, to provide transparent and substantive information, and to demonstrate significant and measurable improvements”.6 Other proxy advisors such as ISS, Glass Lewis, zRating/ Inrate or Ethos are increasing their tracking of ESG performance of companies and expect “transparency and clearly defined, regular communication”.7 Pressure on companies, however, is not only coming from external stakeholders, but also employees. This is particularly the case among younger generations who value making a positive difference in society, beyond job recognition.
In the above context, one might ask why ESG is not yet on many corporate agendas? One reason is the lack of a clear definition of ESG. For example, “12 people often have 12 different perceptions of what should be comprised within the ‘S’ topic alone”,9 says the Head of Research of Inrate, an independent Swiss sustainability rating agency. To implement ESG criteria in the daily processes of the organization, a clear consensus within the corporation is indispensable.
According to Inrate, a second obstacle is the “misperception that ESG focus goes hand in hand with a (potential) lack in economic performance”.10 Proxy advisor Actares believes Swiss companies frequently only see the costs related to ESG standards and, consequently, feel ESG could disadvantage them over competitors. This view may be re-enforced by the fact that “current remuneration practice does not incentivize” ESG efforts sufficiently.
In HCM’s experience, decision-makers often also get distracted by the complexity of the subject. In fact, while some two-thirds of executives believe that ESG topics are important for the long-term strategy, only one third have actual ESG initiatives.
Where time, experience and a long-term view is lacking at the executive level, the Board of Directors may have to step up and help ensure that ESG issues start being considered at all levels. There is a growing view that ESG is in the final analysis a board-level issue. Therefore, some see it is important for the board to lead and as necessary “take control and make the best use of additional insights into risks and opportunities from an E, S and G perspective”.
But where to start? In light of the increasing demands and pressure from inside and outside stakeholders, the following four action points can support decisionmakers, whether at the management or board level, to drive ESG-based initiatives in their company.
A first step is to define the concrete ESG risks of the company and develop a long-term ESG strategy. One Figure 1: Overview of HCM’s four action points start is by conducting a materiality assessment. In this assessment, an organization’s most critical ESG risks or issues are identified and condensed into a comprehensive ESG report.
In the above effort, a first strategy is to also look beyond the company and see what topics are deemed material across the company’s industry. The Sustainability Accounting Standards Board (SASB), for instance, provides a map with specific material ESG issues for 77 industries. Examples for selected industries are given in the figure below.14 In choosing on which issues it will work, a company should consider its limits on what it can realistically address and put into practice.
Secondly, decision-makers should reach out to key internal and external stakeholders to develop consensus on ESG risks. This could include talking to customers, employees, suppliers and regulators. Such active exchange with key stakeholders can help align expectations and define priorities. Mevina Caviezel, Head Sustainability and D&I at Sonova, the Swiss provider of innovative hearing care solutions, observes “It is important that the materiality analysis is not just a purely theoretical exercise, but that it is put in use and builds the basis for prioritizing themes, projects and measures in sustainability management and reporting”
In fact, some research suggests that companies which outperform on material ESG topics can also improve their financial performance.16 At the same time, this may depend on whether the company is focusing on material risks and topics or not. In our experience key is defining concrete and fitting ESG topics on which to focus. Progress on the defined topics is then reviewed regularly by both top management and the Board of Directors.
Other stakeholders, such as large institutional investors, may request more. For example, JANA Partners, an activist hedge fund, successfully engaged with Apple to address the overuse of iPhones by children and teenagers after several studies found evidence of negative health and other effects.
