Boardroom leaders in the know are focused on ESG now more than ever

June 2022  |  EXPERT BRIEFING  | BOARDROOM INTELLIGENCE

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Environmental, social and governance (ESG) issues are on the minds of boardroom leaders today, perhaps more than ever, particularly for those focused on long term value creation. ESG is the acronym universally used to describe the set of business operations behaviours that are being used by socially conscious investors to identify and prioritise potential investments.

Environmental behaviours relate to how a business performs as a steward and a protector of the world and its resources. Social behaviours define the ways a business engages with its employees, customers, supply chain and stakeholders within the communities where it operates.

Finally, governance behaviours encompass everything related to the business’ leadership, executive pay, internal controls and audits, equity and inclusion, and obligations to shareholders and other stakeholders. Companies with boardroom leaders who prioritise ESG considerations and drive to minimise ESG-related risks are more attractive to investors and are thriving in ways that others companies that take a complacent approach toward ESG focus simply are not.

Because ESG is used by investors in capital markets to assess corporate behaviour and to evaluate future financial performance associated with corporate sustainability, boardroom leaders must make the connection between how ESG behaviours and risks can impact profitability.

Today’s investors are seeking out companies with values and ideals that sync up with their own, and in many cases they see a direct correlation between a company’s current ESG efforts and its projected financial performance and long-term value. This is likely because investors view companies with a strong ESG focus and purposeful approaches to improvement in the areas of ESG as entities that are proactively looking to mitigate future business risks, and develop sound, sustainable business practices.

Forward leaning boardroom leaders in companies are those who are committed to monitoring trends and changes that impact the environment, people and the governance needs of the organisation, and are able to pivot when observed trends and change necessitate a shift. It is without question that boardroom leaders who focus on ESG issues often realise a number of benefits for their company, including enhanced brand reputation, increased shareholder satisfaction, and recruitment and retention of top talent.

Conversely, boardroom leaders who continue to ignore ESG broadly or fail to recognise the impact of these principles on their businesses may find their companies facing increased reputational and other risk, including to individual directors, when ESG-related crises occur. These can include higher turnover of critical employees and executives, costly liabilities for the company related to environmental and other regulatory non-compliance, and the wrath of, or even abandonment by, key investors and stakeholders.

Because companies that poorly manage ESG risk can find themselves in critical crisis situations, boardroom leaders should look for ways to ensure that the company is taking an intentional, proactive and long-term approach to the development of comprehensive ESG strategies. Below are five key actions that boardroom leaders can take to ensure that ESG is being given the necessary focus and attention required to minimise risk and maximise performance and value.

Boardroom leaders must prioritise addressing ESG at the board level. It is not enough for boardroom leaders to simply push the ESG focus downward; they must ensure that ESG concerns are a part of the board’s regular agenda and a topic for discussion at every meeting. Boardroom leaders play a significant part in guiding and assisting corporate management as it considers the best way to allocate sufficient resources, both human capital and financial, to implement company objectives while minimising ESG risk. However, they are less likely to provide effective leadership if they are not making ESG a priority.

For example, there should be boardroom discussions regarding whether corporate management has documented processes in place for identifying and managing ESG risks. There should also be discussions regarding the board’s procedures for ensuring that new directors and executives joining the organisation have the appropriate skills, perspectives and experience associated with the corporate ESG strategy to further that strategy. Ensuring that the focus on ESG is occurring at the boardroom leader level is a significant way to ensure that this focus permeates the corporate culture.

Boardroom leaders must incorporate ESG considerations into all board discussions. Because addressing ESG issues at the boardroom leader level mitigates significant business risk and signals to the company that ESG considerations are to be made a priority, it is important for boardroom leaders to remember to apply their ESG objectives to all matters before the board. Boardroom leaders should endeavour to weave ESG considerations into discussions about corporate growth strategy, chief executive officer (CEO) evaluation and succession planning, executive compensation, talent management and leadership development goals and objectives, corporate governance and diversity. Boardroom leaders who recognise the impact that sound ESG strategies and risk management protocols can have on these topics will be able to drive more impactful and sustainable successes in these areas, which ultimately will boost corporate value for stakeholders and investors.

Boardroom leaders must set specific ESG goals and implement ways to hold the board accountable for these goals. Once boardroom leaders have committed to regularly putting ESG on the agenda as a standalone topic and are comfortable with incorporating ESG considerations into all aspects of their discussions, they should look to ensuring that they have set certain goals that are in alignment with the corporate ESG strategy and established metrics against which they can evaluate their performance in meeting these goals. A good place for boardroom leaders to start is with the establishment of an annual ESG statement of commitment signed by all of the directors. The statement should define ESG objectives for a given year and how the board will benchmark its progress in meeting those goals.

When it comes to monitoring that progress, key performance indicators, mapping tools and scorecards are vital tools of the trade. If goals are ultimately met by the board, this annual statement will become a powerful catalyst for change that can be used to demonstrate that the boardroom leadership is holding itself accountable for ESG goals that will ultimately benefit the corporation as a whole.

Boardroom leaders must identify, monitor and report out regularly on ESG risks. The focus on goal setting and aspirational change in the ESG arena is important, but savvy boardroom leaders will also keep a watchful eye on ESG risks so that they can remain proactive in handling them before a crisis arises. It is considered best practice for boardroom leaders to have the corporate internal audit, compliance, and risk function report out to the board on issues involving identified ESG risks. Such a reporting structure will ensure that the board will remain informed and capable of acting when key ESG issues arise that impact short and long term corporate performance, reputation and value generation.

Boardroom leaders must consider the benefit of tying executive compensation to ESG performance. The number of public companies that are now tying ESG performance to C-suite compensation is growing as boardroom leaders look to hold chief executives and other senior executives accountable for successes and failures related to corporate ESG goals and risks. Often, by tying executive compensation to a company’s annual ESG performance, boardroom leaders can demonstrate a company-wide commitment to sustainability, and meet rising investor demand for progress and value generation related to ESG considerations.

Including ESG benchmarks in executive pay packages is certainly a tangible way to address sustainability goals. However, boardroom leaders must be mindful that they do not do so in a way that incentivises chief executive behaviours that ultimately are not in line with corporate ESG strategies or that fail to meet the needs and goals of the investors and other stakeholders. If boardroom leaders want to consider this, they should work with outside counsel and human resources consultants closely to ensure that such efforts do not drive unintended and unwanted consequences for the corporation and its culture.

 

Tyree Jones, Jason Gordon and Liza Craig are partners at Reed Smith LLP. Mr Jones can be contacted on +1 (202) 414 9296 or by email: tpjones@reedsmith.com. Mr Gordon can be contacted on +1 (312) 207 2456 or by email: jgordon@reedsmith.com. Ms Craig can be contacted on +1 (202) 414 9235 or by email: lcraig@reedsmith.com.

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BY

Tyree Jones, Jason Gordon and Liza Craig

Reed Smith LLP

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