The key to integrating ESG into your DNA
Integrating environmental, social and governance (ESG) factors into a company’s mission is no longer a “welcome” and has become a “must” for a company. Integrating ESG holistically into a company’s DNA is integral as companies face increasing scrutiny from multiple stakeholders.
ESG at the center of concerns
Many factors contribute to the focus on ESG. One of the main factors is the increased media and public attention to climate change, sustainability and social issues. Additionally, new generations of stakeholders – including investors, employees and customers – seek to hold companies accountable for their direct and indirect impact on the environment.
Governments are also taking matters into their own hands and a growing number of countries have introduced legislation to address climate change and promote a myriad of ESG issues. This includes regulations aimed at making companies and financial institutions more accountable for environmental and social impacts through the adoption of sustainable and robust disclosure regimes.
In March 2021, certain aspects of European Union policy Sustainable Finance Disclosure Regulation (SFDR) has been put online. The SFDR, among other things, mandates regular public ESG reporting for asset managers. Then, in April 2021, the European Commission adopted the proposal Directive on Corporate Sustainability Reportingwhich would introduce a mandatory ESG reporting regime for certain companies.
In June 2021, the German Parliament approved a law Project on corporate due diligence in supply chains, obliging companies above a certain size (3,000 employees from 2023 and 1,000 employees from 2024) to identify and assess risks in terms of human and environmental rights and to put in place effective risk management systems to deal with them . This new law is not exclusive to German companies and extends the obligation to all companies with an office on German soil and of a certain size.
Integrating ESG factors into a company’s mission is also becoming an increasingly important factor in attracting investment.
In 2021, arrecord $649 billion invested in ESG-focused funds (until November 30, 2021), which now represent 10% of fund assets worldwide. VCs and investors who prioritize ESG are increasingly looking to invest in companies with strong ESG practices.
The risks of abandoning ESG
Today’s focus on ESG is here to stay, and companies run risks by not making ESG a priority. In addition to the regulatory and legal issues that could arise as a result of governments introducing ESG-related legislation – including mandatory ESG reporting – companies risk losing business opportunities and customers. For example, asset management companies have recently come under scrutiny from regulators for allegations of greenwashing.
Investors aren’t the only stakeholders watching ESG practices for deciding whether or not to engage with a company. Companies seeking business partners, such as suppliers or joint venture partners, also consider sustainability practices during vetting processes. Third-party ratings or certificates that assess and verify a company’s ESG strategy and practices – such as ESG rating agencies and the Company certificate B – are increasingly in demand, as they provide assurance to stakeholders that a company is “walking the talk” when it comes to ESG.
For many companies, embedding ESG in their DNA can seem daunting due to the complexity and proliferation of ESG regulations and reporting frameworks. While efforts are being made to adopt uniform ESG reporting standards (such as the IFRS Foundation standards draft sustainability report) to serve as a single point of reference for businesses, these efforts have been slow to materialize. The spectrum of different ESG regulatory and reporting regimes – for example in the EU, UK and US – poses significant risks for companies operating globally.
As ESG covers a wide range of topics, companies wishing to adopt ESG policies should first undertake an internal “materiality assessment” to determine which ESG factors are material and most relevant to their stakeholders. and internal and external operations. Once a company’s ESG strategy has been identified and adopted, its board and senior management should play an active role in ensuring that ESG practices are adopted company-wide. ESG teams should be cross-disciplinary, with members from finance, operations, human resources, investment relations, marketing and legal, to ensure comprehensive and entrenched ESG practices.
Boards are advised to monitor internal procedures and controls – and adjust them if necessary – with the aim of putting in place robust structures that are integrated or work hand-in-hand with the compliance management system. from a company. Such a management system will support a company’s efforts to embed ESG in its DNA, while safeguarding the company’s growth opportunities, providing sustainable access to financial markets and better shielding the company from scrutiny. external investors, regulators and customers.
Simon Arlington, Matthew Dunlap, Angela Kerek and Patrick Spaeth are partners at Morrison & Foerster.