As we wade into the waters of 2023 planning, it seems the world has finally shifted to a post-COVID mindset. We are all eager to put that era behind us, along with the supply chain upheavals, surging costs, and shortages. However, uncertainty and volatility seem likely to continue, even as a fragile recovery continues. We have learned hard-won lessons in recent years about the importance of forward-thinking strategic planning to build resilience and agility, and these will continue to serve us well in the future.
Evolving environmental, social, and governance (ESG) standards are one of the biggest drivers influencing modern business strategies. On the surface, the foundational concept of ESG is compelling; improving metrics relative to these areas makes good business sense, because they tend to have a positive correlation with efficiency, compliance, reputation, and agility. However, as any professional that has gone beyond the surface of ESG will tell you, there are few areas as complex or polarizing.
Driving Forces for ESG Strategies
Historic sustainability efforts were largely focused on environmental impacts. Today, ESG broadens the operational lens to include (among a litany of other considerations):
- Environment—emissions, waste, water quality/use, and certifications
- Social—human rights, hiring practices, and diversity and inclusion
- Governance—business ethics, management, and policies and procedures
ESG conversations have escalated in the U.S. this year in response to rules proposed by the SEC for mandated disclosures, following similar trends in Europe, other G7 countries, and Singapore. New regulations will require registrants to include climate-related disclosures in their registration statements and periodic reports. In addition, a growing public discourse about workforce equality has increased company engagement in social issues.
At the same time, some are questioning whether ESG investment strategies violate fiduciary duty. This was the general sentiment in a letter penned by 19 state attorneys general to BlackRock in August. Others question whether ESG confusion and demand could be contributing to “greenwashing” marketing tactics—not backed by actual value, action, or impacts—which drown out science and obfuscate reality.
This demonstrates just how confusing ESG can be. What information do we owe to our stakeholders? How can we make sense of the “alphabet soup” of acronyms representing different standards, frameworks, and organizations that are involved in driving these topics?
The bottom line—it has become clear that ESG is going to impact strategic planning. ESG metrics are increasingly used to evaluate company value, attractiveness, and risk exposure, by some. For example:
- Google ticker search results now display CDP scores.
- A fifth of the world’s largest companies have committed to net zero targets (ECIU).
- ESG metrics are incorporated into executive incentive plans for >57% of S&P 500 companies (2021 report, Borneman et al, Harvard Law Forum on Corporate Governance).
- A 2022 Yale study found that business students “expect sustainability to be threaded throughout corporations’ highest priorities—not treated as a stand-alone top priority.” The majority say they would take a lower salary to work for an employer with strong social responsibility (54%) or better environmental practices (51%).
- ESG plays an increasing role in M&A transactions. Due diligence may evaluate controversies, ESG-related risks, impact metrics, and compliance screening. ESG considerations are making their way into purchase agreement warranties and representations.
Deciding how your company will respond to requests for ESG information is an important consideration that should be addressed at the executive level. Meeting this need is a resource-intensive endeavor and may require paradigm shifts for how companies operate and communicate.
Preparation for ESG
To build a comprehensive, future-focused strategy for ESG, companies should have a plan to:
- Conduct benchmarking and gap analysis to determine the areas of ESG that could impact company risk, value, or profitability—now or in the future. Consider partnering with companies that conduct ratings to understand and leverage your data. This does not have to be as daunting as it appears. Most organizations are already addressing many of the components of ESG, just not in a comprehensive manner.
- Establish disclosures and reporting for multi-stakeholder audiences—including customers, suppliers, investors, regulators, communities, and employees—in line with globally recognized frameworks and standards. This may include an annual report, financial disclosures containing financially relevant ESG data, and other disclosures to satisfy stakeholder needs.
- Set clear, quantitative targets and milestones for improvement aligned with industry benchmarks.
- Implement or enhance policies and procedures for business ethics, sustainability, hiring practices, human rights, safety, compliance, and community involvement, which are appropriately enforced at all levels of the organization.
- Invest dedicated resources to meet needs for ESG, including leadership, personnel, and external partners.
Strategies around ESG should be quantitative, flexible to meet shifting demands, and fit your organizational culture and the needs of your stakeholders. This enables companies to build resilience and demonstrate consistent, clear results, both for financial performance (value generation and risk mitigation) and impacts to people and the environment. In doing so, they can ensure their ESG strategies will bear fruit, circumvent greenwashing, and meet responsibilities to stakeholders.
See the column in ASI.