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Article | Executive Pay Memo North America

Strictly business: embedding sustainability priorities

Executive Compensation|
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By Shai Ganu | July 20, 2022

How can sustainability priorities be truly impactful? We explore the real tangible benefits, risks and liabilities.

There has been a groundswell of sustainability and Environmental, Social and Governance (ESG) actions in the past decade. The main driver is an increased focus on stakeholder capitalism, whereby companies are responsible for the interests of all stakeholders — shareholders, employees, customers, partners, community and the environment.

Whilst there has been a proliferation of companies making public commitment towards ESG goals, there is a growing concern of greenwashing and actions not being material enough. Part of the issue is that some companies still view this as a moral or corporate social responsibility agenda.

For sustainability priorities to be truly embedded, the board needs to understand and focus on the real tangible benefits, both financial and non-financial. At the same time, it needs to be aware of the risks and liabilities of not doing so.

  1. 01

    Higher valuations

    Companies that exemplify sustainability priorities tend to have higher market valuations. A WTW research paper on Sustainable Investment in 2018 looked at various studies between 2014 and 2017, and concluded that higher ESG scoring companies tend to provide moderately better risk-adjusted returns over the long term. Companies focused on renewable energy, for instance, see higher valuations for their share prices driven by the pension funds’ sustainable investments mandates.

  2. 02

    Lower cost of capital

    Some banks in Singapore offer lower interest rates to companies that set and achieve multi-year ESG targets, such as carbon emissions reductions, diversity and inclusion, and governance goals. It makes good business sense for banks to lend to companies that are more likely to have sustainable operations and, in turn, longevity and stability.

    The Singapore budget 2022 also announced a carbon-charge (cost associated with emitting each ton of carbon dioxide) that will progressively increase till 2030. Companies thus have both the “carrot” (lower interest rates) and the “stick” (higher carbon charges) to align their cost of capital with sustainability targets.

  3. 03

    Customer stickiness

    The 2022 Edelman Trust Barometer reported that nearly 60% of global consumers now buy brands based on beliefs and values. Consumers have stronger affinity towards brands and companies that they deem sustainability role models. Such customers are more loyal, less price-sensitive, and stronger advocates for the companies' products and services.

    A 2021 report by Accenture and World Wide Fund for Nature Singapore interviewed 500 consumers in Singapore, and found that 32% made most purchasing decisions based on product sustainability and environmental impact, while a further 35% are willing to pay a premium (of up to 10%) for sustainable alternatives.

  4. 04

    Employee engagement and innovation culture

    The Deloitte Global 2021 Millennial and Gen Z Survey of 23,000 individuals aged between 18 and 38 years found that 44% of millennials and 49% of Gen Zs have made choices over the type of work they are prepared to do and the organisations for which they are willing to work based on their personal ethics. Given the current tight labour market, companies cannot afford to neglect the opportunity costs associated with employee turnover and vacant roles.

    Companies with a stronger diversity, equity and inclusion agenda, which is the core part of the "S" in ESG, also tend to have a stronger innovation culture, demonstrated by a larger funnel of ideas and speed-to-market of new product launches. Cognitive diversity avoids groupthink and helps challenge the status quo to come up with new ideas and better solutions.

  5. 05

    Personal liabilities and reputational risks

    Board members face new dimensions to their responsibilities which come with risks if they do not understand and put in place plans to measure their ESG liabilities. Several jurisdictions, including Singapore, have new requirements for companies to disclose their ESG goals. This creates new obligations for directors and new potential liabilities. For example, several tech companies in the US were sued for failing to comply with their diversity promises.

    Boards of some oil and gas majors have been sued or replaced for failing to prepare their companies for net-zero. But in a recent twist, investors criticised the board of Unilever for “displaying sustainability credentials” at the expense of focusing on the fundamentals of the business. Similarly, the CEO of Danone was ousted for pegging the group’s success directly to its environmental performance.

    Indeed, directors need to strike the right balance. A well thought-through ESG strategy can help mitigate personal reputational risks and liabilities for directors. Progressive companies are beginning to incorporate these risks in their Directors and Officers liability insurance programs.

Board members have a strong responsibility to ensure regulatory conformance, drive performance and future-proof their companies. Companies that succeed in embedding the sustainability agenda as part of their business strategies must identify, quantify and communicate to all stakeholders the tangible benefits and risks. Moving beyond the moral imperative that individual directors and management may feel, the risks and benefits must be institutionalised, to be truly impactful.

As the famous line in the film The Godfather goes: “It’s not personal — it’s strictly business”. Directors would do well to realise that embedding sustainability priorities makes good business sense.

*This article was published in The Business Times on 11 July, 2022.

Author

Managing Director and Global Leader, Executive Compensation and Board Advisory

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