ESG: The Wins And Losses

  • APRIL 7, 2023
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  • ESG

Increasingly the importance of ESG is becoming centric to the American consumer psyche. Millennial and Gen Z cohorts have become the largest group with the most purchasing power.

We are in the era of the “conscientious consumer” where more than ever before, a wide range of stakeholders care deeply about ESG and a growing percent of consumers are willing to pay a premium for healthier, safer, more environmentally and socially conscious products and brands. It is clear that the metrics are overwhelming that there is a strong preference from consumers to engage with companies that are value driven.

According to a survey conducted by PwC, 83% of consumers think companies should be actively shaping ESG best practices, 91% of business leaders believe their company has a responsibility to act on ESG issues and 86% of employees prefer to support or work for companies that care about the same issues they do.

Companies have woken up and realize that strong ESG practices are a “must have”, not a “nice to have”.

It is critical that companies take meaningful and industry appropriate steps to set and achieve ESG goals and that the progress is measured in a programmatic, factual, and consistent fashion.

Consumers want to feel confident that the company they are supporting backs up the promises with actions and authenticity. Consumers smell out disingenuous slogans that are not matched by real action.

The key way to build consumer trust is an ongoing genuine behavior in what the company does starting with internal treatment of employees, commitment from the company on their supply chain ( child labor, no use of precious goods), impact to the rainforest and a true commitment to climate and planet well being.

If we look at a range of industries we clearly see that the consumer facing industries have been at the pin of the arrow in understanding that ESG commitments must be part of your brand values and build the bond of trust with your consumer based on your actions.

However, all industries are impacted. For example, if we look at the oil and gas fossil fuel industry we can see a big range of consumer perception / investor commitment and identify who are the winners and who are the losers.

In the US we can look to Chevron who has been a leader in having a balanced narrative on how they continue on their core operating of oil and gas while investing and mitigating strategies in renewable areas and attesting reporting in their proxy and other public documents their compliance and reporting across a wide range of frameworks from the SASB materiality to the climate standards from TCFD.

Exxon Mobile oil on the other hand has been more of a traditional legacy approach and as a consequence an activist investor successfully waged a battle to install three directors on the board of Exxon with the goal of pushing the energy giant to reduce its carbon footprint.

If we were to say a winner and a loser in the US we would say Chevron is the winner and Exxon Mobile is the loser being tone deaf to the consumer and investor public.

In Europe if we look at oil and gas company BP who had a catastrophic disaster oil spill in 2010 and then over rotated to position themselves as the most green oil and gas company. They relocated such a significant amount from corporate capital away from their core business of oil and gas trying to rapidly become a renewable company. In 2023 BP has announced it was scaling back its climate targets and after reporting record profits has pivoted the strategy back to the core business and plans to produce more oil and gas for longer.

The lesson here is corporations have to stay true to their core industry. If investors want to invest in pure play energy renewable company then they will pick best in class renewable company. The message has to be a balanced narrative of what investors wants and corporations being ethical responsible good corporate citizens while also focusing on their industry and not trying to shift overnight.

Let’s look at industrial companies we can see a clear winner and loser. Schneider Electric, who has long been deeply committed to climate co2 goals and the full spectrum of ESG from environment, society, community, diversity inclusion etc. Schneider was the first company in its sector to tie CEO and executive pay to ESG commitments. Energy transformation has been a core and foundational conviction. Compare Schneider against competitors like ABB, GE, Siemens, and Schneider is the clear category winner. Investors care deeply about an industrial company who has foundational principals and conviction around climate and ESG. It’s important to note that given the industry focus on climate it is particularly relevant to industrial companies to take a clear stance /action. ESG and climate is truly “material”  to their business vs say a hospitality company. For a hospitality company the “S” in ESG may be more material to the business (i.e. having a set of policies on investing in human capital, upskilling, diversity, inclusion, safe work place, etc.)

In the automotive industry the consumers’ perception heavily influences buying decisions. Brand trust is very powerful. We see brands like Volvo who are built on commitment to safety in the ESG conscious environment being preferred relative to brands GM and Ford. Volvo leads with their circular economy positioning, using recycled materials, as well as ensuring ethical sourcing, having supply chain vendors attesting to no child labor, etc.

In the retail category we see significant loyalty / brand ambassadors from consumers for brands they believe in. In this sector the power of the micro influencer community is especially effective.

Traditional nature centric American retail brands like Patagonia have long held a unique prestige and we see the rapid growth and adoption by other brands like Bombas socks (where one pair of socks is donated for every pair purchased). The unique and very powerful thing of the Bombas story is that there is no gap between what the company says its values are and what the company actually does to implement their values

Another brand with a great story is Naadam, a cashmere company where the founders traveled to Mongolia and met the goat herders who raise cashmere. They eliminated the middlemen so that the quality of life of the herders increased significantly and the consumer benefited from affordable high-quality cashmere. Naadam continues its circular economy to reinvest in the rural education of the herding communities.

There is a huge opportunity for existing brands to find a way to innovate in both what they do and how they message their ESG values in their products.

The most important thing is to avoid doing any harm to your brand by overinflating your ESG commitments and having the consumer lose trust. Many consumers and climate organizations are quick to identify greenwashing (the practice of using marketing / PR tactics to overamplify your ESG efforts for the purpose of gaining greater favor from consumers, investors, employees, etc.) Being labeled as a company that engages in “greenwashing” can deeply fracture the relationship with all your stakeholders and irreparably damage the trust your consumers / employees have in the company.

A company may not intentionally set out to “deceive” consumers but may fall victim to jumping on a marketing hype train that oversells a well-intentioned initiative that is not yet viable.

To feel confident in your ESG initiatives, first and foremost, it is imperative that the goals set forth are directly relevant to your industry. For established premium brands there is a challenge to keeping the premium nature of a brand and pivoting it to pick which parts of the ESG continuum makes sense to integrate: Is it your ingredients? Your packaging? Your supply chain? Your global employee treatment? Picks the themes that you can prove and that resonate and consistently create a narrative after you have done the research and testing.

In Europe, new environmental, social, and governance (ESG) reporting requirements called the Corporate Sustainability Reporting Directive (CSRD) have been approved in the European Union. Under the draft CSRD, an initial set of ESRS (European Sustainability Reporting Standards) must be adopted by June 30, 2023.

These new EU ESG reporting requirements will dramatically impact the nonfinancial reporting landscape. A wide range of companies including both public and private non-EU companies that will meet the new thresholds who did not previously need to comply with mandatory nonfinancial reporting.

For US issuers, these new EU rules result in mandatory ESG reporting that is much broader than the current USA ESG topics that are covered under the current (and the proposed future) SEC rules.

Take a look at this table from Cooley highlighting the key features of the EU and SEC reporting standards / key features. These new EU requirements cover a much wider set of topics than what is required in US ESG reporting.

Additionally, US companies must prepare to adopt a “double – materiality” approach that will include an impact standard that is very different from the SEC’s investor focused framework.

Many companies have already begun voluntarily reporting on ESG…for many companies ESG reporting has been a marketing initiative. Perhaps it is time to bring in legal and financial teams to advise and review ESG disclosures as reporting becomes more mandated across different geographies and industries.

The World Economic Forum (WEF) has worked with the big 4 accounting firms (PwC, Deloitte, KPMG, EY) to promote alignment among existing ESG disclosures and come up with a more universal reporting framework. The Stakeholder Capitalism Metrics (the Metrics for short) frames ESG reporting and disclosure as four Pillars. They are Principles of Governance, Planet, People, and Prosperity. During the World Economic Forum Annual Meeting 2023 in January, the Forum announced that 137 companies have already included the Stakeholder Capitalism Metrics in their mainstream reporting materials, including annual reports and sustainability reports.

ESG is a clear macro trend that is here to stay. We can see from the range of industries that regardless of your industry, adopting ESG is imperative. The companies within the highest performing top quartile are leaning in and reporting on ESG factors as evidence by some of their specific actions and statements. Investors and all your other stakeholders want to see that you have set thoughtful, measurable goals that are relevant to your business and that you can report and show progress towards these goals along the way. ESG is not a one and done exercise – it is an ongoing journey and is something that needs to be interwoven with the overall strategy and direction of a company.

To ignore ESG is a huge risk and to embrace ESG is a huge opportunity.

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