In the early 2000s, technology transformed the way business was conducted and fuelled significant growth despite all apprehensions regarding its success in the long run. Presently, sustainability is what technology was – a new catalyst for the growth and future of businesses or organisations. It reflects how an organisation manages its environmental, social and governance (ESG) impact to create value for its stakeholders. With the growing realisation that ESG is not just a good business practice or compliance with regulations, it is slowly being linked to the core purpose of existence of business.
Governments and regulators around the globe are also increasingly recognising the importance of ESG reporting and risks, which has resulted in a slew of regulatory changes including Business Responsibility and Sustainability Reporting (BRSR), Extended Producer Responsibility (EPR), carbon market, green credits, German Supply Due Diligence Act, and proposed rules by Security and Exchange Commission (SEC) to enhance and standardise climate-related disclosures for investors. This has resulted in an increased focus on reporting and disclosures. However, there is prioritised focus on lagging indicators which contribute to better ESG ratings. While such lagging indicators help stakeholders to assess the performance on ESG initiatives, they primarily focus on past achievements – possibly serving short-term objectives. On the other hand, prioritising leading indicators (e.g. transparency, compliance, risk management) can pave the way for a long-term sustainable organisation as well. Furthermore, in the race to derive better ESG ratings and source cheaper capital, there is more focus on lagging indicators which, at times, leaves organisations susceptible to the risk of greenwashing practices.1 Additionally, ESG seems to fulfil all criteria of the fraud triangle, i.e.:
- incentive/pressure (better rating, cheaper capital, achieve ESG goals and performance-based bonuses)
- opportunity (weak internal controls and implementation issues)
- rationalisation (justifying actions for stakeholders’ trust) which makes the organisation susceptible to ESG frauds.
In 2022, the European Commission issued a report that stated that 42% of corporate environmental claims made online were most likely false or deceptive. Further, as per PwC’s Global Investors Survey 2022,2 the vast majority of investors (87%) surveyed perceive that company reporting on sustainability performance contains greenwashing.
Hence, in order to build a long-term sustainable enterprise that inculcates values necessary for long-lasting branding and reputation, organisations should focus on leading indicators that promote strong governance, resulting in value creation for the long run.
Key advantages for building a sustainable enterprise
Organisations need to shift gears and focus on ESG parameters that can improve their overall governance and pivot themselves for long-term success which would result in the following benefits:
- Building a strong reputation and retaining customers/talent
- Sustainable access to capital
- Ability to manage risk build sustainable stakeholder trust
- Long-term competitive advantage
Building a strong reputation and retaining customers/talent
Highly governed and compliance-driven organisations are able to identify and manage ESG risks in a more efficient way, resulting in enhanced brand value and winning stakeholders confidence/trust. According to PwC’s Consumer Intelligence Series (CIS) survey, 86% of employees prefer to support or work for companies that care about the same issues as themselves.3
Sustainable access to capital
Many institutional investors and asset managers are integrating ESG criteria in their investment decisions. While green projects can provide easy access to capital, long-term access to funds at a lower cost would only come from the successful execution of ESG strategies which drive growth and adequate compliance mechanisms to address risks. Effective ESG governance fosters investor confidence in the organisation’s ability to manage ESG-related challenges and risks, which can help in retaining and sustaining investor capital. According to PwC’s CIS survey, investors poured USD 51 billion into ESG-impact funds in 2020, which was twice as that in 2019.4
Ability to manage risk build sustainable stakeholder trust
Governance and risk management compliance is not limited to just easy access to sources of capital and higher grades in ESG reporting. Rather, enhanced governance can help manage known and unknown risks that help maintain stakeholders’ trust in the long term. As per PwC’s Global Investors Survey 2022,4 66% of the respondents want to see the governance and oversight over sustainability risk and opportunities.
Long-term competitive advantage
Rapidly evolving external factors such as consumer trends and regulatory environments require organisations to adapt at a very fast pace. If this is not done, organisations tend to quickly become irrelevant and lose competitive advantage. In such times, prioritised focus on compliance and governance would help organisations to become more resilient and provide them with a competitive advantage. According to PwC’s CIS survey, 92% of business respondents agreed that companies with commitments to ESG policies will outlast competitors.4
Build for the future
According to the World Economic Forum, governance factors at the heart of sustainable business and acts as enabler for environmental and social aspect.5 The governance element in ESG refers to governance through policy making, accountability mapping, continuous monitoring and building enhanced controls. However, corporate governance is often deprioritised or neglected due to more focus on environmental and social initiatives or existence of a legacy governance framework.
Many environmental or social initiatives failures can be traced back to poor corporate governance, such as weak anti-corruption measures, misaligned incentives, conflicting lobbying activities, unprepared leadership and obsolete underlying internal controls, which lead to regulatory/reputational risk and impacting the trust and confidence among stakeholders. According to PwC’s GECS 2022 India Insights, 52% of Indian companies experienced fraud or economic crime in the last 24 months, and 31% of these could be linked to ESG-related frauds (12% of organisations encountered ESG reporting fraud and 19% of organisations encountered supply chain fraud).6
To facilitate long-term sustainability and business growth, the senior management of the organisations should consider the following considerations:
- establishing or updating the governance framework, which would include building policies and procedures, identifying emerging ESG risks, and mitigating environment
- integrating ESG risk into the overall enterprise risk management framework and performing internal audit to support the board
- prioritising strong compliance over short-term objectives
- enhancing awareness among internal (employees, directors, etc.) and external stakeholders (business partners, supply chain stakeholders, etc.)
- incorporating ESG competence into the organisation’s decision making by engaging experts
- performing periodic independent assessments to identify the areas of improvement and continuously strengthen the governance framework.
While ‘E’ and ‘S’ are getting enough attention, it is high time that organisations realise that sustainable growth in true sense is not possible without ‘G’ i.e. governance – as it not only shields organisations but is a catalyst to value protection, enhancement and success of ESG.
Sources
- What is Greenwashing? Definition, examples, and how to avoid it
- The ESG execution gap: What investors think of companies’ sustainability efforts
- Beyond compliance: Consumers and employees want business to do more on ESG
- The ESG execution gap: What investors think of companies’ sustainability efforts
- Defining the ‘G’ in ESG Governance Factors at the Heart of Sustainable Business
- PwC’s Global Economic Crime and Fraud Survey 2022: India Insights
