The Sustainability Series: Are Boards behind the curve on ESG?

Sustainability has moved into the mainstream – but are
Boards behind the curve on ESG?sustainability ESG

by Duncan Fulton, Partner

Well before Covid it was clear that something big was stirring in the corporate world. Grand statements from the likes of the Business Roundtable broke decades of orthodoxy in seeking to redefine the role of business in society and end the primacy of the shareholder in favour of delivering value “all stakeholders.”

Larry Fink argued that we were “on the edge of a fundamental reshaping of finance,” and that “a company cannot achieve long-term profits without embracing purpose.”

A different set of priorities

Accelerated by Covid, sustainability, and the Environmental Social and Governance (ESG) factors that describe it, has moved from the margins to the mainstream. Rather than such thinking percolating slowly through Business Schools and management journals and into boardrooms, almost overnight businesses of every shape and size have been forced to react to a very different set of priorities.sustainability ESG

Issues like the safety and wellbeing of staff, support that could be provided to customers, communities and supply chains, consideration of the social impact as well financial performance during the pandemic – these are all ESG factors. Prior to the pandemic, these had not universally been defined as ‘ESG’- or as a linked set of issues. Individually they may have been identified or addressed as part of risk management or business planning but not necessarily given the attention or resources they now demand.

A PWC survey of Directors from late 2019 showed considerable continued scepticism about ESG, in particular that shareholders were paying too much attention to issues like diversity (63%) or environmental or sustainability issues (56%). In November 2020, Edelman’s  Investor Trust Survey, meanwhile, showed that 87% of UK investors expect to increase prioritisation of ESG as investment criteria in 2021.

The expectation gap

With much of the ESG momentum being amped up and accelerated by changing investor sentiment and customer and employee pressure, the gap is growing between the attention many Boards are giving ESG and the expectations of their key stakeholders. With investor activism growing around sustainability issues, Boards will increasingly be held accountable for their ownership of ESG through proxy voting and investor pressure. Changes to Board structures and personnel follow. ESG competence is becoming a matter of corporate as well as personal credibility for Directors.

From our own recent experience of advising a range of [FTSE, AIM] listed and private companies we’ve seen a marked divergence in attitudes towards ESG between employees, executive teams and Boards – and often between Board members themselves. The parts are often moving at very different paces.

Boards have quickly had to learn a new vernacular, which is not altogether straightforward given the alphabet soup of proliferating reporting standards, ratings and rankers. But many very well-run businesses, intuitively doing the right thing, with connected and strategic leadership, and displaying the behaviours that ESG is supposed to drive, are not always communicating that in a way that meets investor demand for information.

Stakeholders are looking for a range of evidence to show that sustainability issues are front and centre in strategy and operations. Directors need to recognise, too, that in many cases reporting only the patch-work of regulatory disclosures may make a firm compliant – but not necessarily sufficient to meet the growing demands of stakeholders. 

Scores, and stepping upsustainability ESG

Conversely, businesses overly influenced by the demands of ticking requirements off sustainability ratings can mask serious and material failings. Boohoo is but the latest example of a firm scoring well but falling short in reality. ESG may well be the prism through which, in future, reputational risk finally gets due prominence in the boardroom.

ESG is only going to rise in importance. It is firming up as the framework for corporate governance and reporting for the foreseeable future.

Far from a prolonged regulatory holiday as some have predicted, it seems likely that as we approach a potentially decisive year for both for the Climate Change Accord (and Boris Johnson’s tenure as Prime Minister) COP26 will precipitate a host of new ESG related regulation. COP may focus minds on the ‘E’ but COVID has made the ‘S’ material. Business will be expected to step up.

Reputation is relational. And it is not singular, or fixed. A company can take many steps to shape, manage and protect its reputation but fundamentally if the context changes, or the standpoint of its stakeholders changes, so too will how that company is viewed.

Covid shook the kaleidoscope. And while the pieces have yet to settle, we know the context is changed greatly. Boards need to embrace ESG now – reputations, success and failure, depend on it.

PHOTO Credit: HBO

How DRD can help

We help our clients understand and articulate their impact in the world, analyse their ESG risks and opportunities, engage their stakeholders, develop strategy and tell their ESG stories. DRD has a dedicated ESG team with deep experience advising clients on ESG issues in both in senior in-house and advisory roles. For a conversation about how DRD might be able to assist please contact sustainability@drdpartnership.com.