The New Big Change: ESG Will Drive the Next Wave of Corporate Transformation

We live in an interconnected world. Events in one location can trigger fluctuation throughout the global markets. Trust and transparency are crucial for a resilient economy. Further, in the interest of future generations, organizations need to invest resources and strategize to become more balanced, inclusive, and socially responsible. If anything, the pandemic has heightened this realization.

Businesses across the globe need to adopt an Environmental, Social, and Governance (ESG) approach to play their role in sustainable development. This is important because every company, irrespective of sector, is intertwined with ESG concerns. Let me elaborate:

• The environmental criteria consider how the enterprise fares as a steward of nature — how it uses energy and other resources and manages its waste discharge.
• The social aspect measures its approach to managing stakeholder relationships. It includes factors such as diversity, inclusion, employee well-being, and other elements it affects as a result of operating in society.
• Governance is about how an organization’s leadership deals with fair practices in corporate matters pertaining to internal controls and meeting external stakeholder needs. As a legal entity, every company needs to be governed and ensure compliance with the law and relevant regulations at all times.

The ESG elements are interconnected. For instance, an organization’s sustainability strategy will comprise not just the environmental criteria but also address concerns regarding the broader society’s well-being as well as seek to comply with governance related to environmental norms.

The growing importance of ESG

The pandemic has brought corporate governance-related decisions under scrutiny. These have a bearing on business approach, financial outcomes, employee well-being, and risk mitigation strategies. To paraphrase Darren Walker, President, Ford Foundation, it’s not just the 5% that organizations donate that matters but also how they harness the other 95% for a more just and fair world.

Financial stakeholders want greater visibility of non-financial metrics to gain a comprehensive understanding of the risks an organization operates in. An increasing number of consumers seek to engage with ecologically and socially conscientious businesses. Activists and shareholders are rooting for tighter links between an organization’s ESG targets and executive compensation packages.

Gauging the significance of ESG

Businesses are a vital cog of the economy. From employment to meeting consumer needs, financial taxes to opportunities for progress — they contribute to all spheres of a nation’s prosperity. Hence, it is only right that they operate with accountability. ESG compliance meets this goal effectively. These norms encourage the creation of responsible businesses that extend equitable returns to society and protect the long-term interests of their stakeholders and community.

While there are no standard norms or centralized agencies yet, the demand for ESG reporting is rapidly becoming imperative across organizational functions. Even as ESG obligations evolve, the need for organizations to comply is mounting. To put things into context, I share some numbers below:

• Investors have increased their ESG investments considerably, as shown above. According to the Bank of America, USD 4 of every USD 10 of global equity inflows go to ESG (refer chart: Weekly & Cumulative Flows into ESG Funds).
• Additionally, nearly 80% of the respondents the bank surveyed are interested in considering ESG in their investments while 29% of 1,000 investors in 2020 said the pandemic has made them believe even more strongly that ESG issues are important.
• In Asia, excluding Japan, managed sustainable fund assets almost tripled to USD 36.7 billion in March 2021 from a year earlier.

Here are some business-related statistics that reinforce the significance of ESG on an organization’s performance:

• Companies with more than 30% women executives were more likely to outperform others
• Organizations with higher-than-average diversity have 19% higher innovation revenues
• 67% of millennials expect the companies they work for to be purpose-driven and their jobs to have societal impact

ESG compliance will drive the next wave of transformation among corporates

Adherence to ESG norms is known to lead to better growth and optimization of resources, lower cost of capital, decreased risks, reduced volatility, higher productivity and cost reductions. These issues can have a strong impact on soft assets such as reputation which are also becoming an increasingly important part of an organization’s value. On the other hand, companies that have a poor ESG framework are likely to face challenges such as higher cost of capital, greater risk of volatility due to controversies and poor governance. 

In other words, it is evident that ESG adds to the resilience of businesses and equips them to navigate challenging scenarios more confidently. But ensuring ESG compliance is not just the responsibility of business leaders. The International Finance Corporation’s “Who Cares Wins” report illustrates how each stakeholder of the financial ecosystem has a role to play in this context (refer image above). Together, we can build stronger financial markets which, in turn, will contribute to more sustainable communities.

ESG is here to stay

There is enough evidence to suggest that ESG is here to stay. It is no longer just ‘a nice thing to do’; rather, it is becoming critical to gaining market share, engaging employees, and raising capital. The sentiment driving the large-scale adaptation of these norms is — what is good for the environment and for all stakeholders, more often than not, will be good for profit.

Over the long term, companies that focus on creating sustainable value for their stakeholder ecosystem will create a positive impact in building a brighter and more prosperous world for all of us.