The value of ESG links sustainability to business returns
Evidence overwhelmingly suggests that companies, which get their ESG proposition right can create more business value. By paying attention to ESG concerns, companies don’t compromise their returns – rather, the opposite.
But even as the case for a strong ESG proposition becomes more compelling, an understanding of how ESG criteria link to value creation is often less comprehensive. This can lead to investor concerns and mistrust. According to a recent Workiva survey, 52% of UK investors find it difficult to trust a company’s actions and what they say, when it comes to the environment and society.
Against this backdrop, companies walk a fine line: they must actively show themselves to be good corporate citizens, while proving that any investments in sustainability boost business performance. So how can businesses get this balancing act right, and address stakeholder concerns?
The debate around ESG and its true fiscal value
There is plenty of discussion in the investor community around the importance of ESG to the future viability of a company.
Some echo Larry Fink’s opinion that it is critical for long-term success. Kevin O’Leary, venture capitalist and entrepreneur, founder of O’Leary Ventures and known as one of the investors featured on the American TV series Shark Tank, summed it up in a recent conversation on ESG and capitalism: “ESG is not a marketing scam anymore… If you don’t show people that you care about ESG and sustainability, they won’t care about you. Every business needs to know that.” Conversely, others feel businesses may be going too far with ESG – fixating on sustainability and taking their eye off the ball when it comes to delivering business profits.
This is the difficulty of stakeholder capitalism. It is a balance between delivering durable returns for shareholders in the long term and prioritising key ESG material issues that are important to other stakeholders like employees, regulators, and communities. ESG returns may not be immediate. It can take time: businesses need time to adjust for the massive changes the economy is undergoing, such as decarbonisation or gig economy shifts in the workplace, to see the impact of those changes, and determine how regulations or workforce behaviour may impact business strategy and investment priorities.
The challenges of linking ESG to business value
Most businesses are already active on ESG – with a strategy in place and progress being tracked. However, many businesses haven’t yet identified, recorded, and linked this activity back to business value creation.
In some cases, a company’s actions can have obvious and easy-to-measure benefits. For example, lowering office energy consumption to reduce costs is clearly good for the bottom line. But how does a business measure and prove the value of something as intangible as lowering supply chain risk or improving the satisfaction levels of their employees?
As investors, boards, and stakeholders increasingly scrutinise the link between ESG and value creation, companies with three key steps, can demonstrate how their commitment to sustainability is benefitting the business.
1. Focus in on the ESG topics that matter the most
To achieve clarity on ESG as a value driver for the business, it’s vital that organisations start by conducting a materiality assessment to pinpoint where its priorities lie. Mapping this out provides clarity on what is important to operations, which ESG issues matter the most to its stakeholders, and which ESG story needs to be told.
2. Identify business value drivers
Once ESG priorities have been identified, finance and ESG teams should work together to determine the resulting key business strategies or value drivers to focus on moving forwards. For example, if setting up responsible business practices came out as a priority topic in the materiality assessment, the focus may be on preparing for a low-carbon economy. In this case, finance can begin identifying the connection between low-carbon initiatives and the impact on enterprise valuations while the ESG team oversees the process for climate risk testing and business continuity.
By outlining the key business value drivers, teams can focus their efforts on the ESG activity that will offer true value creation, and communicate this to stakeholders.
3. Review and update the value chain
Finally, it’s important to marry ESG efforts with the value chain. Ideally, this means working through the entire value chain to link key activities to the relevant material issues most impacted by them. Thinking of procurement and outsourcing, for example, a business should map out key activities – from data integration to supplier management – and consider the issues affected by these activities, such as data security and sustainable operations.
By going one step further to consider the relevant UN SDGs, like reducing inequality or ensuring sustainable production patterns, a business can ladder up the actions they’re taking to improve their supply chain, operations, products or services and customer engagement as part of their commitment to the global sustainability goals.
Rather than waiting for ESG investments to pay dividends in future, businesses can take these steps now to link ESG investments to business value creation and proactively communicate this to their stakeholders. This will be crucial if a business is to allay any stakeholder concerns early, particularly amongst those investors who lean towards a ‘prioritise ESG within reason’ mentality.
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