On the 2024 ESG Committee board agenda

Oversight of ESG risks and opportunities is a significant challenge, involving the full board and potentially multiple board committees. For example, elements of climate and DEI oversight likely reside with the audit and other committees, as well as the ESG Committee.

Consideration needs to be given to the coordination between committees as well as the information flows to the committees from the corporate functions (risk, operations, legal, etc.) and from the committees to the board itself. For example, climate change might initially appear to reside with an ESG Committee, however it will also likely touch the Audit Committee (data, the systems that produce that data and corporate reporting), the Remuneration Committee (management incentives) and the Nomination Committee (the skills and experience of board members and senior management). Overlap is to be expected, however this puts a premium on information sharing, communication and coordination between the committees. Further, this requires that committees have the expertise to oversee the issues delegated to them.

Oversight of ESG risk – and equally importantly, the opportunities – starts with an ESG-competent board. Not every board member needs to have deep-dive ESG expertise, however the board as a whole needs to have ESG risk and its impact on long-term value creation top of mind. They need to understand which issues are of greatest risk or strategic significance to the company, how they are embedded into the company’s core business activities and whether there is strong executive leadership behind the company’s response to ESG matters.

The ESG Committee can play an active role in educating not just the Committee members, but the whole board, on ESG issues including the landscape of stakeholder expectations and demands. Key questions to consider include:

• Is the board ESG literate and structured to engage and report meaningfully on ESG issues, potentially as diverse as modern slavery and human rights, energy efficiency and renewable energy transition, scope three emissions and other supply chain issues?
• Which sustainability requirements exist/will exist in the near-future and how can the board ensure that the appropriate skills and competencies are available to oversee strategies designed to respond to sustainability-related risks and opportunities?
• Does the board evaluation process assess whether the board has the right mix of skills and whether the ongoing development activities are sufficient?
• How does the board become ESG literate?
• Are ESG matters (including issues around DEI, CSR activities, volunteering etc.) a factor when hiring directors and the executive team?
• Are sustainable investments considered part of their decision making regarding new projects and expansions?

The ESG Committee and the board should work with the company secretary and senior executives to determine how best to get up to speed and build a strong foundation for informed oversight. Consider one-on-one conversations with the key players in the business and deep dives within committee meetings, alongside in-house briefings and externally organized training opportunities.

Investors are increasingly holding boards accountable for ESG matters and are eager to understand whether boards have sufficient knowledge and adequate processes to oversee the management of the key ESG-related risks and to provide informed, proactive guidance as stewards of long-term value.

Good stakeholder engagement, particularly through the supply chain, can also provide an opportunity for the company to encourage others to behave responsibly and do what’s right over the long-term.

To best understand the views of its key stakeholders and the ability of the company to exert responsible influence, the board should request periodic updates from management as to the effectiveness of the company’s engagement activities:

• Does the company engage with, and understand, the ESG priorities of its largest shareholders and key stakeholders?
• Are the right people engaging with these shareholders and stakeholders – and how is the Investor Relations (IR) role changing (if at all)?
• What is the board’s position on meeting with investors and stakeholders? Which independent directors should be involved?
• Will the organization be open to criticism from activists? Does the board have a road map to defend themselves?

In short, is the company providing investors and other stakeholders with a clear picture of its ESG performance, its challenges and its long-term vision (or ambition), free of “greenwashing”? Investors, other stakeholders and regulators are increasingly calling-out companies and boards on ESG-related claims and commitments that fall short.

How companies address ESG risks is now viewed by investors, research and ratings firms, activists, employees, customers and regulators as fundamental to business and critical to long-term sustainability and value creation.

Climate change as a financial risk has certainly become more urgent over the last few years, not least because of the accelerating physical impact of the climate crisis (i.e. frequency and severity of floods, wildfires, rising sea levels and droughts).

For many, the associated “transition risks” are as important and arguably more immediate, whether that be tax and regulatory interventions, technological changes, or customer behaviors. A challenge for the ESG Committee is to help ensure that these transition risks are properly addressed as the company plots its future strategy – together with other climate change risks.

Beyond climate, sustainability risks encompass a broad range of factors, including social and environmental considerations. These risks include how a company manages its relationships with its workforce, the societies in which it operates and the political environment. They also include risks arising from supply chain vulnerabilities, regulatory changes, changing consumer preferences, and reputational damage due to unsustainable practices.

Yet, embedding ESG as part of operations can also present significant opportunities for businesses. Companies can innovate and differentiate themselves by developing sustainable products and services, reducing operational costs through resource efficiency, accessing new markets, and enhancing brand reputation. By proactively managing these risks and seizing opportunities, companies can foster resilience, competitiveness, and long-term value creation, while safeguarding their financial growth in the face of evolving ESG regulations.

Several fundamental questions should be front-and-center in boardroom conversations about the company’s ESG journey, not least how material ESG impacts are prioritized and how ESG risks are identified and assessed in line with the organization’s risk appetite. Embedding ESG risk identification and assessment into the existing enterprise risk management process might be a good starting point, however, it is important to avoid focusing only on the downside risks. The ESG committee should also encourage management to consider the potential for innovation, disruption and value creation posed by ESG activities. Businesses that see through effective ESG investments to realize transformative growth will have the upper hand as economies strengthen, whereas delaying key ESG initiatives could leave businesses behind the curve and exposed to rapidly changing stakeholder expectations and regulation.

After determining which ESG issues are of strategic significance, leadership should consider how the company is embedding them into core business activities (governance, strategy, operations, risk management, metrics, targets and corporate culture) to drive long-term performance? Is there a clear commitment and strong leadership from the top and enterprise-wide buy-in?

On behalf of the board, the ESG committee could consider:

• How is the ESG lens applied to the organization’s strategic thinking?
• Is ESG thinking incremental to BAU (a bolt-on to the existing strategic thinking) or is it transformative?
• Is the board playing an active role in developing and supporting any transition plan? Is it an iterative process – with milestones and opportunities to recalibrate – and does it bring in perspectives from throughout the organization and beyond?
• Does the process challenge the validity of the key assumptions on which the company’s strategy and business model are based? Is there a case for taking a ‘clean sheet’ approach to the strategy/business model, asking what our business would look like if we started up today?
• How does the board establish a culture that supports the transition towards a more purposeful ESG oriented organization?
• Could you explain what happened if your company ceased to exist in 10 or 15 years’ time? What didn’t you see coming that caused you to go under?
• Are the incentives connected with executive compensation and the compensation philosophy of the organization as a whole a fit for purpose? When compensation becomes intertwined with something like ESG, other systems and processes quickly fall in line i.e. recruitment, training and development, strategic planning, performance management.
• What metrics are monitored and reported to ensure the organization is on track?

Given the critical role culture plays in integrating ESG factors throughout an organization, the ESG Committee can play a role in helping the board take a more proactive approach in understanding, shaping and addressing any necessary cultural changes by considering:

• Does the board understand the culture it wants within the organization?
• Are key processes aligned with the desired culture (hiring, promotion, reward etc.) How is poor behavior addressed?
• Is culture embedded into decision-making processes? At times, there has to be a price to pay such as turning down a profitable business opportunity because the customers/clients’ values or modus operandi are at odds with your own organizational culture. It is at this point that the culture is seen as truly embedded and operational.
• How does the board measure the culture and get assurance that it is what they think it is? What are the different inputs? How can the board pull them together?
• Is the board leading the charge from the top? Are the board and the senior executive team presenting a unified front? Culture starts with the board and it is often the little things that matter.

The quality of data for both strategic decision-making and reporting is crucial and the ESG Committee can play a role in challenging the relevance and propriety of collected data and the systems that produce it. Is there substance behind collected and reported data? What additional assurance might be required?

Collecting data in a consistent method is important, especially for businesses with global operations and multiple product lines. In some cases, there is an established standard that is accepted by almost all investor groups.

For example, the Greenhouse Gas (GHG) Protocol is widely recognized as a way to report on GHG emissions. Still, tracking GHG emissions means companies need to have all those responsible for collecting data to gather it in a consistent manner to ensure that the data collection is consistent, comparable and accurate.

Every level of the business should understand the metric and how it is calculated and reported. They should equally grasp why the data is being collected and what it shows. The ESG Committee can help reinforce the connections between metrics and financial performance and prospects.

The ESG Committee can also play a role in questioning the scope and type of assurance the company is getting on ESG metrics; what is being assured and by whom, and what is the value of the assurance received?

There’s no single approach to ESG assurance. While it may be distinct for every industry and company, it’s critical for companies to begin to identify their priorities before pressure from customers, shareholders and others push to accelerate the company’s timeline.

Assurance maps, which will be familiar to many audit committees, provide a visual and easy way to digest the effectiveness and completeness of a company’s assurance activities.

Clarity over the assurance provided by the ‘three lines of defense’ model can also help identify any ESG risks or disclosures which require additional assurance to achieve the desired level of comfort, or any risks that are being excessively mitigated as a result of duplicated assurance activities.

ESG Committees might work in conjunction with a properly scoped, funded and trained internal audit function (and perhaps the audit committee) to understand which areas merit assurance. For example, health and safety metrics such as lost time injury rates and total recordable incident rates could be a key area of focus for an industrial company where investors may want assurance. For a consumer goods company, the customers may want assurance on their claims of sustainable sourcing. Given its understanding of the rigor required to get the numbers right, the ESG Committee can help the company decide how far the journey goes, even potentially working toward assurance of numerous indicators found in a full sustainability report.

Understanding the current landscape and the company’s way forward, coupled with strategic investment in data collection and integrity, not only helps the organization respond to stakeholder demands, but may expand its perspective, exposing new risks to its business model along with opportunities for growth and transformation. This is the true significance of bringing standardization and rigor to ESG measurement (and reporting).

Investors and other stakeholders want to understand which issues are of greatest risk or strategic significance to the company, how they are embedded into the company’s core business activities and whether there is strong executive leadership behind the ESG efforts as well as enterprise-wide buy-in.

Identifying what information to report (i.e. what is material) is more nuanced than for financial statements and organizations should consider what matters in the short, medium and long term.

Principles differ between sets of sustainability reporting standards. What do investors need to know to understand the value of the business and its prospects? What other information do wider stakeholders need? How will you structure reporting to include investor-relevant information within the annual report, while avoiding unnecessary duplication with other broader communications?

To that end, the ESG Committee can encourage management teams to reassess the scope and quality of the company’s ESG reports and disclosures. It is important to understand:

• How the company benchmarks against peers;
• Which reporting frameworks have been considered;
• Which impacts and risks are explicitly stated and disclosure provided on; 
• How are these risks mitigated; and 
• If the link to the strategy clear.

Some critical questions for the ESG Committee to consider include:

• What are the ESG issues that align most closely to the company’s and stakeholders’ priorities?
• What are the ESG issues that drive the company's financial performance and prospects?
• Is the company currently reporting its ESG efforts, and where?
• Do the company’s disclosures comply with the appropriate laws, regulations and sector best practices?
• Do the company’s disclosures reflect both what the company is doing now and where it is going, with accompanying metrics and goals?
• Is ESG-related data handled appropriately and aligned with corresponding regulations and the level of risk associated with the data?
• Is the ESG information included within the annual report monitored with the same rigor as conventional financial data?
• What are competitors measuring and reporting? Are there emerging regulatory requirements that a company should be aware of?

Lastly, an important area of the ESG Committee and board focus and oversight will be management’s efforts to prepare for increased climate and ESG disclosure requirements for companies in the coming years. International Financial Reporting Standards (IFRS) Sustainability Disclosure Standards issued by the International Sustainability Standards Board (ISSB) are effective, with first disclosures to be published in 2025 (subject to SCA adoption timelines which have not been announced yet). Due to transitional relief measures introduced by the IFRS, reporting entities will only be expected to report climate-related risks and opportunities in the first year of disclosures, followed by the full implementation of sustainability-related risks and opportunities in consecutive years.