ESG (Even In a Time of War)

Dear newsletter readers,

Sorry about the recent lag between issues. As you know, my day job is encouraging business leaders to pursue environmental opportunities in the most ambitious way they can. I’ve been especially busy these past few weeks doing just that — working on the very things we write about here.

Doing this work bolsters my general sense of optimism. There is a lot of positive momentum underway. More private sector organizations are committing to ambitious environmental problem-solving in ways that make business sense.

But these business leaders are also asking specific, hard questions about ESG. (Tough questioning also seems positive to me — it’s good to be talking about all of this, and it should lead to improvements). The ongoing war raises additional difficult issues. People ask:

• Are there really industries that are intrinsically contrary to ESG? Take defense and fossil fuel energy companies. Don’t today’s circumstances show that we need them? Should we put less emphasis on what companies do and more on how they do it?

As an example, is it positive, folks ask, that we have Western-headquartered oil and gas companies who are now committing to reduce their scope 1 and 2 emissions to zero, helping customers reduce their emissions (ie, the oil companies’ scope 3 emissions), investing in various ways to accelerate the energy transition (renewables, sustainable fuels, carbon capture, hydrogen, and carbon removals), and are now withdrawing from Russia? Is this not good ESG behavior

• Similarly, should we evaluate companies based less on their past performance and more on future commitments? Can’t a company with an unattractive past record more than redeem itself with a very positive going forward plan?
• Under what conditions should ESG dollars be pulled out of a specific region? Does a company that has been doing business in Russia, for example, have any obligations to employees, suppliers, and customers in Russia? Or, if pulling out of Russia is appropriate, what about other regions where lots of bad stuff happens? Is it the responsibility of business or the government to resolve such matters?
• And so on…

But most of all I get asked a more fundamental question: Does ESG work as an overall framework to drive positive business activity? Or is it a catch-phrase du jour, one that sounds good but lacks substance and will be left behind in a few years?

My answer: ESG works and is here to stay.

Now it’s time to build capabilities and strategies. Smart business leaders take ESG matters very seriously. They see the downside of inaction and the upside, particularly to early movers, of leading.

Like any other new framework “in development,” we can all help ESG improve by giving it the same critical analysis we would any other business initiative.

Here are some more specific observations:

1. It takes a long time for new frameworks like ESG to be adopted as universal standards.

Remember that rigorous GAAP accounting didn’t just come into being with a snap of the fingers. It wasn’t until the disaster of the Great Depression and the formation of the SEC that investors could (finally) expect accurate and comprehensive financial reporting.

2. ESG reporting and rating methodologies will improve over time.

There is a lot of exciting work underway to improve and standardize reporting by companies on ESG outcomes (see here, here, and here). My advice: Rather than lament shortcomings you see in today’s nascent frameworks, dig in and engage with efforts underway to improve ESG reporting.

3. ESG ratings are measures — not goals.

Remember, a checklist or a rating never drives great business. Consider debt ratings for example. Companies take them seriously of course but don’t run their businesses around them. My advice to business leaders: Get your house in order and make sure you comply with ESG standards. But think of these steps as a prerequisite — not a guarantor of positive impact.

4. Business leaders should always focus most on how they can contribute to society in the most meaningful way.

I think this is what Larry Fink has in mind when he pushes companies to develop a social “purpose” beyond financial performance. He is not asking companies to merely “do no harm.” Rather, as we often discuss around here, the idea is to determine “how to make the most positive impact.”

What is your company’s comparative advantage? How might your resources, footprint, products, and team make positive contributions that otherwise won’t happen? Why does your company exist? Of course, answering these questions is not easy. The task can’t just be delegated to an outside consultant or a sustainability team. Maybe it’s the hardest thing that business leaders do. But it’s likely the best way to manage downside risks, seize opportunities, energize stakeholders, and yes, appeal to ESG investors. (Here are some good suggestions from the Harvard Business Review on how to get started making purpose real).

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And yes, there is a terrible war raging. The images are heartbreaking and it can be hard to imagine that anything is as urgent as ending this suffering. But if you hear anyone making the specious argument that ESG needs to go on the back-burner while we deal with the realpolitik of war, you can just share the words of Former California Governor Jerry Brown. He argues that we need to stay focused on addressing social challenges and uses climate as his example (but he could have picked other challenges too of course). “Climate is like war: If we don’t handle it, people are going to die and they’re going to be suffering.”