Investors are increasingly taking non-financial concerns like environmental, social, and governance (ESG) into account when deciding how to manage risk and take advantage of new opportunities. ESG strategy, frequently based on a model and a rating scale, plays a vital role in analyzing business investments and establishing the organization's sustainability.
Value creation from ESG is not as immediate and straightforward as it may be from closing a profitable deal. Long-term benefits for firms, however, will be measurable. This is seen in their drive to measure, disclose, and improve their ESG criterion actions.
According to a report from the international law firm Dechert and the international consultancy firm StoneTurn, businesses that adopt and integrate ESG factors into their business strategies are more likely to generate value and speed up growth while lowering their legal and regulatory risks.
Integrating ESG and routinely reviewing an organization's ESG strategy is a future-proofing investment. It can add value, promote cost savings, boost productivity, and stimulate growth, potentially a formidable force for good in the corporate world.
The research emphasizes that businesses must immediately take concrete action on problems like sustainability and supply chain due diligence because of tougher regulation that is taking effect and rising ESG responsibility demands from stakeholders and activist groups.
According to the pulse poll, many businesses still need to make accommodations for these rising needs.
The report emphasizes failing to embrace and integrate ESG into an organization's strategy. Operations could have serious negative financial, and reputational effects, including litigation, regulatory action, and the restriction of access to capital as lenders begin to charge higher premiums and interest rates to organizations with poor ESG risk ratings.
Stocks with high ESG ratings are driving up share prices and dividend increases, and the markets are reacting to this.
Partner at Dechert Matthew Banham, who specializes in financial services monitoring and enforcement, said: "Integrating a comprehensive and coherent ESG strategy will go a long way to ensure that businesses do not violate the spirit of tighter regulations, thereby reducing the possibilities for litigation.
The paper highlights important factors and provides helpful guidance on maximizing the performance of ESG business commitments. It also highlights the importance of an organization-wide values-focused corporate culture as a catalyst for positive change. A few examples are:
Businesses can provide sustainable priorities with the help of clear leadership, a firm tone at the top, and the moral commitment of business executives.
Businesses should re-evaluate their business mission and the organization's enabling culture to ensure that everyone understands what is the "right thing" to do. Only 43% of those who took the pulse survey identified this as the main driver of change, which suggests that more than 50% saw ESG as purely a compliance or regulatory activity.
Navigate and recognize the changing regulatory landscape as reporting's purview increases to include topics like diversity, anti-corruption, anti-bribery, and anti-environmentalism within organizations and their stakeholders and value chains.
Bring all connections under the ESG spotlight, including those with parents, subsidiaries, and contracting parties. Although courts have always been unwilling to "pierce the corporate veil" and hold a parent company accountable for a contract where it was not a party, recent case law suggests that courts will be more open to doing so when the circumstances are right.
Establish precise and dependable data collection procedures for key ESG-related KPIs and integrate ESG into an organization's current risk and compliance structure.
The world experienced a total of 22 unique $1 billion disaster occurrences in 2020, which cost businesses a combined $1.875 trillion. Disasters cost $42 billion in damages in the first half of 2021.
In the past, the notorious Deepwater Horizon accident, in which more than 130 million gallons of oil poured into the Gulf of Mexico, was caused by the oil company BP's failure to manage its environmental risks. 11 people died from this massive oil disaster, and BP was forced to spend an astounding $65 billion on cleanup and fines.
Volkswagen, a German carmaker, is embroiled in an emissions controversy due to poor ESG policies. As part of "Dieselgate," when American environmental regulators discovered differences between laboratory data and actual emissions in real-world driving, the firm paid out $33.3 billion in fines, settlements, and repurchase costs in the late 2010s this year.
If the businesses had properly recognized the risk environment and taken coordinated steps to mitigate that risk, these losses and expenses would have been averted.
Because more and more regulators are demanding ESG data and reporting, poor ESG risk management can potentially impact a company's regulatory stance.
For instance, the Sustainable Finance Disclosure Regulation (SFDR) in the European Union imposed obligations for sustainability disclosure and incentives for businesses to publish comprehensive ESG data. The Securities and Exchange Commission (SEC), Federal Reserve, and other authorities in the United States are also changing their reporting obligations concerning the dangers and expenses associated with climate change.
Lenders, financial companies, and activist investors are all taking an increased interest in the ESG plans of businesses. Many are re-evaluating their lending and investing strategies to lessen their exposure to businesses not concerned with sustainability, carbon neutrality, or environmental protection.
Customers also anticipate businesses to share their moral principles. Customers frequently shop more with a company with a solid ESG management reputation.
A firm's Reputation, market value, and earnings can all suffer from a lack of ESG risk management. On the other side, effective ESG risk management can assist the company in enhancing its Reputation and public relations through timely and pertinent news releases highlighting its ESG initiatives.
To summarize, firms must monitor the numerous ESG issues, risks, and concerns to reduce financial, legal, and reputational harm and safeguard brand integrity.
Organizations must monitor and collect ESG performance data as investors and regulatory authorities seek information on sustainability and social responsibility policies. The SEC, the European Union, and banking regulators, among others, have developed reporting rules that must be followed when publishing this data in reports.
Since every firm has a particular set of ESG risks, every organization will tackle ESG risk differently. However, although the risks themselves are particular, you can utilize a conventional risk analysis framework to guide you in deciding which dangers are most serious and how to handle them:
First, it would be best to ascertain the risks you are exposed to conduct an ESG analysis. Your business probably already has a framework for managing risks, but you might not have considered ESG risks. Remember that these risks affect not just one another but also any current threats in your company's ERM plan. So the first step is to identify and record your ESG risks.
You can further investigate your list of hazards to ascertain their likelihood and potential consequences after generating them. Many businesses consult heat maps or other visual aids to determine the most serious hazards. You can decide where to put your finances and resources going the future by conducting a thorough risk assessment.
You will choose the controls that need to be in place in this step to safeguard your business from the dangers you have identified. You must create a contingency plan for your company to continue operating if any risks materialize. The best controls will account for all potential outcomes, including how various risks could influence various departments.
After developing their basic structure, any efficient enterprise risk management program will incorporate monitoring, especially for ESG risks. These hazards are always shifting; if your backup plan isn't evolving to address emerging dangers, it won't last long.
ESG rating companies are useful because they enable organizations to comprehend the company's position on important issues. Companies can readily establish relevant benchmarks by comparing themselves to other businesses in their field that are comparable to themselves.
However, these rankings only reflect the opinions of the corresponding agencies. Furthermore, grading standards may encourage a culture of "checkbox compliance." Therefore, creating an ESG strategy customized to your particular risk exposure and viewpoint on managing these risks is crucial.
Your ESG strategy and business plan should constantly be in sync since they influence and are informed by one another. The vision, purpose, and values should all strongly emphasize ESG integration. It's also crucial to have board and management oversight and conduct a thorough materiality analysis.
The total risk appetite statement should take into account all ESG hazards. These factors will ensure that the enterprise risk appetite is changed based on all threats rather than just basic financial or business concerns.
Ensure you have all the necessary elements, including Policies, Procedures, Risk Register, Risk Ownership, Obligations Register, Key Risk Indicators (KRIs), and Metrics, in place to handle ESG risks as part of the risk management framework.
At Moxe Consulting, we believe a supportive and empowering culture must be intentionally created and shaped; it does not emerge naturally.