Corporate Sustainability: Moving Faster and Faster to the Center of Strategy and Shareholder Value
January 11, 2021
Corporate sustainability has in a few short years become a mainstream capital allocation and voting criterion for many institutional investors. As a consequence, those investors are calling for consistent, comparable and reliable sustainability disclosure capturing the risks and opportunities faced by the businesses in which they invest.
A majority of U.S. and global companies provide some form of curated sustainability disclosure, but those efforts are short of what the investment community appears to want. There are reasons for this disconnect, but an evolution is occurring that likely will narrow the gap and create a more rigorous and standardized sustainability disclosure regime – and it’s all happening more quickly than might have been imagined even a year ago.
Disclosure, of course, is only a means to an end. The end is a better understanding of corporate strategy and governance in light of sustainability considerations. But achieving that understanding through more structured sustainability disclosure would have significant implications for boards and management teams. One such implication is that corporate operations would be exposed to and quantified from a new perspective. Stakeholders in turn would be empowered to discuss a company’s strategic and governance efforts to manage a broader range of sustainability risks and opportunities than are part of the typical dialogue with stakeholders today.
Now is the time to form business strategies that address a similarly broad range of sustainability topics so that you’re ready to have that discussion from a position of preparation, knowledge and strength.
Why Investors Both Care About and Are Unsatisfied With Sustainability Disclosure
Private and academic research indicates a correlation between good management of corporate sustainability issues and financial outperformance, though a causal link has yet to be substantiated. The investment community has taken this research, together with a number of important societal and demographic trends, to heart and increasingly views sustainability disclosure as a valuable information class to be incorporated into capital allocation and voting decisions. Within the umbrella of sustainability, climate change was the initial issue to attract wide attention as a source of financial risk. Human capital management is currently ascendant, and other issues such as diversity, fair pay and child labor, along with bio-diversity, could soon take on similar relevance.
And yet frustration with the current state of the available information is noticeable. Investors point to the lack of consistency across time periods, the lack of comparability across industries and geographies and the lack of systematic assurance as to reliability (i.e., lack of internal controls and board oversight).
Public companies, on the other hand, face a dizzying array of sustainability disclosure standards and frameworks under which they could report and a burdensome number of individual data requests that come in differing formats. The result is unsatisfying: a labor-intensive effort to produce a patchwork of sustainability disclosures that leave investors short of having consistent and comparable information on which to compare one company to another.
Layers of issues underlie this state of affairs. The many existing sustainability standards are not necessarily substitutes for each other because they have different purposes and address the needs of different (and potentially non-overlapping) audiences. Global Reporting Initiative (GRI), for example, has a public interest focus on the impact of a business’s operations from a macro societal perspective. Climate Disclosure Standards Board (CDSB) and Sustainability Accounting Standards Board (SASB), on the other hand, focus on disclosures that are material for decision-makers responsible for enterprise value creation, a perspective more analogous to that of financial statement standards such as GAAP and IFRS. By definition, competing standards that are designed for differing purposes and audiences will produce information that is difficult to compare.
Another layer is that adherence to any one standard is voluntary, which allows reporting companies discretion as to which disclosures and metrics to make public. Many sustainability reports are self-described as being “informed by” the SASB or CDSB standards, rather than being in compliance with their full scope. As a result, two companies in the same industry that adopt the same reporting standard may choose to make disclosures on different topics and utilize different metrics within the standard, which creates a lack of comparability and leaves holes in the data sets used by investors.
In many ways, sustainability disclosure as a discipline is in its infancy. One possible path to its maturation could mimic the development of the accounting profession’s standards for disclosure of financial information and the related control, oversight and assurance environment that supports it. Such a path would require that a single trusted standard emerge that is required to be uniformly applied as a consequence of investor demand or regulatory mandate. Ideally, like financial disclosure, a robust infrastructure of controls, oversight and verification would also grow around the adopted standard.
Recent Developments Point to Convergence of Standards and the Potential for Uniform Application
The past year saw a number of announcements that marked significant milestones in the march toward convergence of standards and uniform use of those standards:
- Five major sustainability disclosure standard and framework setting institutions (GRI, CDSB, SASB, International Integrated Reporting Council (IIRC) and CDP) announced a statement of intent to work together toward a comprehensive corporate reporting system.
- IIRC and SASB announced their plan to merge.
- Major institutional investors announced their support for specific standard setters; for instance, BlackRock endorsed both SASB (which is industry-specific) and Task Force on Climate-Related Financial Disclosures (TCFD) (which is climate-specific) frameworks.
- The Biden administration will bring new leadership to the SEC and a fresh look at whether to mandate sustainability disclosure standards, possibly building on the work of one or more of the major standard setters. The European Union is also continuing its ambitious project to update its directives on sustainability reporting and is considering the development of standards. For additional information on sustainability developments in the EU, please see Progress Since Paris: Sustainable Policy in Europe in 2020 and Beyond in this memo.
What This Means for Strategy and Decision-Making at Boards and Management Teams
We believe a key governance trend of 2021 will be increasing incorporation of sustainable business practices into corporate strategy and decision-making. In the U.S., there are many examples of management compensation being tied to one or more specified sustainability metrics. For example, Starbucks has tied a portion of compensation to diversity goals, Alcoa to safety, environmental stewardship and diversity goals and Exelon to reducing green-house gas emissions. We expect a significant expansion of the number of metrics used and the sophistication of their incorporation into decision-making and governance.
The standards, practices and regulatory requirements surrounding sustainability disclosure as a free-standing discipline are evolving, and events in 2020 indicate that the pace is poised to accelerate. The potential exists for a single trusted standard to emerge over the medium term through a combination of pressure from investors and regulators. Over the shorter term, we expect management teams will expand their curated sustainability disclosures to come closer to full compliance with voluntarily adopted standards. More rigorous and standardized sustainability disclosure over time will cause corporate sustainability to be at the forefront of the dialogue with stakeholders; as a result, management teams in the medium term will find themselves practicing “sustainability governance.” A recent motivator of this expanding dialogue can be seen in ISS’s 2021 voting policy update which for the first time includes “demonstrably poor risk oversight of environmental and social issues, including climate change” as a potential oversight failure that could lead to an “against” or “withhold” vote on directors.
Corporate operations will increasingly be exposed to and quantified from a new perspective. As a result, stakeholders will be empowered to discuss a company’s strategic and governance efforts to identify, quantify and manage a broader range of sustainability risks and opportunities than are part of the typical dialogue with stakeholders today. Now is the time to form business strategies that address a similarly broad range of sustainability topics so that you’re ready to have that discussion from a position of preparation, knowledge and strength.
 Many stakeholders other than investors are also interested in sustainability disclosure. We focus in this note on the investor perspective because it is an easily understood driver of corporate strategy.
 A recent KPMG report notes that within their survey group, 80% of companies globally and 90% of companies in North America reported on sustainability in 2020. See The Time Has Come: The KPMG Survey of Sustainability Reporting 2020 (December 2020), available here (the “KPMG Report”). Other reports note slightly different numbers based on different methodologies, but the upward trend is clear.
 HSBC Insights (March 27, 2020), available here; “Sustainability: The future of investing,” BlackRock (February 1, 2019), available here; Alexander Bassen, Timo Busch, and Gunnar Friede, “ESG and financial performance: Aggregated evidence from more than 2000 empirical studies,” Journal of Sustainable Finance & Investment, 2015, Volume 5, Issue 4, p. 210–33.
 See the KPMG Report.
 Reported information is more useful when it affirmatively possesses the noted characteristics. See “Statement of Intent to Work Together Towards Comprehensive Corporate Reporting”, facilitated by the Impact Management Project, World Economic Forum and Deloitte (September 2020), available here (the “Five Standard Setter Statement”). See also “More than values: The value-based sustainability reporting that investors want”, by McKinsey & Company (August 7, 2019), available here (the “McKinsey Report”).
 See the McKinsey Report.
 See the Five Standard Setter Statement. Id.