In this series, we have introduced a framework of the “Three R’s of Sustainability”: Risk, Reward and Responsibility, designed for developing or updating a corporate sustainability strategy.
Why start with ESG risk in your sustainability strategic planning?
ESG risk is well-understood and discussions centred on risk and its mitigation will hold together otherwise polarised views and drive consensus. Additionally, risk management is traditionally the responsibility of the finance and legal teams, and as sustainability lacks corporate agency, having these allies will help achieve broader buy-in to the strategy.
What is ESG risk?
Framing risk in the categories of environmental, social and governance originated in the financial markets, where investors sought information for better decision-making from more complete disclosure of the material risks facing a firm. The umbrella term ESG covers a vast array of topics, and the World Economic Forum Global Risks report[1] is a good starting place for understanding these. Other information sources are the GRI[2], UN Sustainable Development Goals[3], and the UN Global Compact[4]. Additionally, the Sustainability Accounting Standards Board (SASB) provides freely available information (see SASB) on the material sustainability-related issues most relevant to investor decision making across 77 industries.
What is my firm’s ESG risk?
The risks for your sector – as defined by SASB – may appear to be missing obvious categories. For example, for Professional Services, SASB identifies the relevant issues as data security, business ethics and employee engagement, diversity and inclusion. Why doesn’t it list climate? Well, climate change is not considered material for a professional services firm as compared to, say, oil and gas, because SASB considers only financial materiality (i.e., how sustainability issues impact the company’s financial performance).
SASB therefore only informs part of the picture; the remainder comes from the sustainability expectations on the firm from regulators, supply chain partners, customers, clients, employees and communities. These expectations address a firm’s impact materiality – how its actions affect people and the planet, including its emissions, physical climate change risks and risk arising from the global transition to a lower carbon world. Clearly, these risks should be included as climate change is the biggest single ESG concern for most stakeholders, reflected in the trend towards “climate first” regulatory reporting, regardless of sector.
I’ve just provided a layman’s explanation of double-materiality. A double-materiality assessment requires firms to consider the impacts of ESG risk on them, their impact on the world and stakeholder perceptions of the relative importance of these. Increasingly regulators expect firms to evidence doing these assessments and to disclose a list of ESG risks (or a matrix or graph) by internal impact, external relevance, and priority (moderate to strategic).
Keep it real
I’ve probably lost most people already – sustainability has a real problem with jargon and the use of complicated methodologies. Put this analysis to one side for a moment and make it real by asking the simple question, what ESG risks keep your executives awake at night? These could be energy prices, rising material costs, taxes, regulations, packaging, product or services disintermediation, human rights, employee satisfaction, flooding risk, and more.
A useful framework for discussing these risks is to use the categories of (a) climate change physical risks, and (b) transition risks arising from policy and legal, technology, market and reputation changes. Review the long lists of ESG risks from the public sources I already described to ensure completeness, and once you’ve a list of the real pain-points, distil your findings into a pithy set of strategic priorities that executives can align behind and put on the firm’s enterprise risk management system.
Be honest
When discussing ESG risk, brutal honesty drives the best conversations. An executive may not give two hoots about climate change, but when revenue is at risk because of a supply chain partner’s ESG requirements, that gets their attention. Perhaps in the past execs would have been chastened for such insensitivity, but not today. This gets to the heart of the definition of materiality – if it could hit the bottom line, then it’s material and material risks must be identified to ensure they are actively managed.
Conclusion
Risk is the best starting point for a discussion on sustainability strategy because executives can agree on risks when they can’t agree on value-add or the firm’s responsibility to the planet and people. Professional mediators will tell you it’s human psychology: if you get agreement on one aspect, it will open the door to getting agreement on others. Learning this is a lesson in how to get things done, a vital skill for sustainability practitioners to move from words to actions.
[1] Global Risks Report 2024 | World Economic Forum | World Economic Forum
[2] GRI – Home
Jill Ridley-Smith 