As the landscape of financial reporting has evolved, the concept of environmental, social and governance (ESG) and sustainability has grown exponentially. In 2011, only 5% of S&P 500 companies reported on ESG or sustainability. Today, all S&P 500 companies report on various ESG and sustainability metrics. A study by PwC found that companies are increasingly relying on their chief financial officer and financial reporting management team as the change and adoption agent for these reporting metrics.
Businesses have come to recognize that these metrics are important as they can benefit the bottom-line profit. Customers, employees, governments, and communities have expressed a preference to work for and do business with companies that represent more than just the product or service the business offers. The shift is being driven by Generation Z (Gen Z) and millennials who comprise 50% of the global population. According to research by Nielsen, most Gen Z and millennials are environmentally conscious and willing to change their purchasing habits to support eco-friendly products.
The ESG metric has also impacted investors as well. Individual and institutional investors are now more likely to place funds in companies that prioritize eco-friendliness. According to a study by KPMG, 50% of potential merger and acquisition transactions fail due to information uncovered from ESG compliance evaluations.
There are several ESG and sustainability metrics your company can report on, such as the following commonly used ones:
- Environmental: Energy consumption
- Environmental: Waste output
- Environmental: Commitment to policies
- Social: Comparative living wages
- Social: Employee engagement
- Social: Charity activities
- Governance: Commitment to ethics policies
- Governance: Executive diversity ratios
For each of these metrics, your company can provide current consumption, benchmark it to industry averages, and present a future goal and a roadmap to obtain that goal. In future reporting periods, you can provide updates and the progress the company has experienced in obtaining that goal.
By adopting and communicating these ESG and sustainability frameworks, your business demonstrates commitment to the environment, social issues and strong leadership, which may result in the following benefits:
- A stronger brand story, workforce, and customer base.
- Potential for greater access to capital.
- Less regulatory risk (ESG and sustainability models ensure executive management is compliant with regulatory policies).
As more parties are demanding information on ESG and sustainability metrics, governing bodies worldwide are looking to standardize reporting. In the US, Gary Gensler, Chair of the Security Exchange Commission (SEC), has submitted a draft proposal for regulatory action on climate risk, human capital and cybersecurity disclosures. The proposal is structured in a three-phase roll-out. The first phase focuses on the company’s activities, the second on its products and customers, and the third on its suppliers. Phase three has the potential to impact a large majority of private businesses, as essentially any company doing business with a public company will have to be ready to provide data on ESG and sustainability metrics.
The SEC is currently reviewing the 13,000 comment letters received in response to the proposal. However, it has been noted that 85% of those letters expressed support. The SEC has set a target date of October 2023 to issue the final rules, with new disclosures likely to take effect in 2024/2025. As Jack Welch, the former chairman and CEO of General Electric, once said, “Change before you have to.”
