Often heard in today’s boardrooms and C-suites and their virtual equivalents: a mixture of anxiety and enthusiasm about environmental, social, and governance
(ESG) issues. “What risks are we sitting on?” leaders (and investors) are asking, as pressure for ESG disclosures mount. “How do we measure and manage them when there are no common standards? Where should we focus, when the list of potential issues is a mile long?” And, critically—which is where the enthusiasm comes in—“As we take a hard look at our business, what opportunities can we identify to solve big problems and create value in new ways?” The answers to these questions are interrelated, as are the initiatives those answers will motivate: reimagined reporting, strategic reinvention, and, ultimately, wholesale business transformation.
The underlying forces at work are well known. Investors, lenders, and rating agencies expect greater visibility of an ever-broader range of nonfinancial metrics to better understand diverse social and environmental risks. Governments’ ambitious, top-down commitments to limit carbon emissions are increasingly backed by new regulations and new taxes. More—much more—can be expected. Activist shareholders, among many other stakeholders, are advocating for net-zero policies and for tighter linkages between ESG targets and executive compensation packages.
Socially conscious consumers are more inclined to vote with their wallets, encouraging businesses to reappraise their products and purpose, including their role as employers of diverse, engaged workforces. And the global pandemic has created significant additional momentum for change.
Against this backdrop, the ESG maturity level of companies varies widely.
When PwC segmented executives responding to a recent survey according to their awareness and prioritization of ESG issues, their personal commitment, and their belief in the potential for business to positively impact society, it became clear that leaders in most organizations (nearly three-quarters) were in the early stages of their ESG journey. A few companies, though, have begun reorienting their business toward a value creation ecosystem that adds environmental sustainability, employee engagement, external partnerships, and broader societal impact to financial imperatives as measures of success. Companies that have earned top ratings on ESG indexes and that also produce solid investor returns include asset managers such as Norges Bank; tech companies such as Adobe, Salesforce, and Microsoft; and consumer-oriented firms such as Procter & Gamble and Best Buy.
Whatever the starting point for the ESG dialogue, the project will result in changes in all dimensions of a business, including strategic decision-making, implementation of the new direction, and reporting of progress and outcomes
Not only are those dimensions interdependent, but each of them can create momentum that helps fuel the others. In industries as varied as oil and gas, consumer goods, telecommunications, manufacturing, and hospitality and other services, companies are striving to build trust among, and deliver sustained outcomes to, their stakeholders.
The most immediate call for action often is some combination of heightened regulatory requirements, risk awareness, and demand for data and transparency to enable the management and disclosure of ESG factors. Everything from carbon emissions to racial and gender balance to the sustainability of sourcing strategies is under the microscope; investors, governments, and other stakeholders are interested in assessing whether businesses have identified and are managing ESG risks. As companies reevaluate what they report publicly, formal nonfinancial disclosures are starting to augment or replace nonbinding frameworks.
In some cases, reimagined reporting will convince companies that to make progress against new metrics, they must rethink basic strategic questions about where and how to compete. In other cases, companies are moving aggressively to redefine their strategy with ESG at its core before grappling with changes in the reporting environment. Management teams are taking a fresh look at difficult strategic trade-offs in response to both new opportunities and external pressures, such as concerns about heavy carbon emissions (very much on the radar, for example, of energy companies and cement manufacturers) and about a range of social concerns, including health, race, gender, and inclusion and inequality. If its current strategic priorities are resulting in outcomes that are increasingly viewed as unsustainable (or even unacceptable), a business needs a strategy that addresses such concerns, exploits different opportunities, and, ultimately, redefines not only what the business does, but how it does it.
A business that begins to report against broader nonfinancial metrics will quickly find that it needs to define objectives to manage these metrics, and therefore to drive change—transformation—to achieve these objectives. Similarly, a business that has had to redefine its strategic priorities to ensure its sustainability and relevance will urgently need to transform if it is to deliver on the new strategic objectives. Either way, businesses will have to actively manage ESG outcomes by internalizing ESG into strategy, by transforming to implement the related change, and by reporting on both progress and outcomes. Senior leaders have a critical role to play in driving this agenda for transformation, which is not separate from ongoing digital transformations, but which will inform and build on them, redefining their context (and their purpose).
Every company is uniquely situated, and so is the scope of change it needs.
Regardless of the motivations—an ambitious emissions target that inspires strategic reinvention; deals to exit or restructure businesses that are unsustainable; ambitious diversity, equity, and inclusion (DEI) priorities; or supply chain overhaul—the resulting ESG agenda will eventually encompass reporting, strategic, and business transformation initiatives. It all adds up to a new equation for business: behaviors based on purpose and trust that creates value by finding solutions to the challenges society is facing.
(Courtesy PwC)
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