What does the ‘S’ in ESG mean for reporting? What does the ‘S’ in ESG mean for reporting?

Whilst climate change is frequently front and centre when it comes to the conversation about Environmental, Social and Governance (ESG) reporting, social issues are becoming an increasing area of focus.  Unfortunately, the speed of change in social disclosures doesn’t yet match the progress on environmental matters.  Measuring climate risk exposure has become easier to monitor and record with standards like the Taskforce on Climate-Related Financial Disclosure (TCFD) and the availability of a broad selection of metrics to help articulate climate performance and the link to enterprise value.  Social factors and human capital are harder to measure and define, which contributes to disclosures commonly being further behind. We are now seeing increasingly though that stakeholders are turning their attention to the ‘S’ disclosures and demanding more to be done to demonstrate both the value to be achieved from effective management of social capital as well as considering the business’s impact on society.

In the last year there has been no shortage of issues for Boards and Audit Committees to consider, as the evolution of the global pandemic has been a major catalyst for pushing the social factor higher up the agenda at board level. There is now huge focus on this, as many see the link of trust between employee and employer as a measure of how a company will emerge from the pandemic. 

KPMG’s Audit Committee Institute in the US surveyed over 100 U.S. audit committee members to better understand how COVID-19 was impacting their committee oversight and operations. 85% of them said they were increasing their focus on health, safety and wellbeing and 56% said they were increasing their focus on diversity and inclusion.

A recent survey in the UK told a similar story with 74% of CEOs claiming that their response to the pandemic has caused their focus to shift to the social component of ESG.

In November last year, UK regulator, the Financial Reporting Council conducted a review of Corporate Governance Reporting.  They noted that in many cases corporate governance reporting was not clear or consistent. For example, many companies stated the importance of diversity and diverse boards but offered little explanation in the way of evidence to support this. They highlighted a lack of targets to improve diversity at board and executive levels and little or no discussion about succession planning. There is a lack of meaningful diversity policies on how companies are planning to make change.

There is a rise in interest in measuring social impact.  KPMG’s True Value framework is an example of an initiative aiming to support businesses to measure their impact, including around social topics.

Human capital and diversity disclosures are gaining momentum, especially as they are increasingly requested by investors. We have seen many examples where investors are calling for transparency, actively engaging with companies and are voting against boards. This has really driven change and focus to shift to having a more holistic view of social factors.

We are also seeing increased interest in those trying to calculate and report on social impact, something that is a really challenging area. Listen to our podcast for more information about investor priorities and the ‘S’ in ESG. Although the data around social factors might be limited and imperfect, investors are still using it for engagement, voting and asset allocation purposes. This strengthens the need to ensure the data is accurate and quantifiable where possible. 

• For companies wanting to understand the resilience of their business to climate-related matters, the TCFD framework has provided guidance and a framework to follow since 2017.  This is driving rapid improvements in climate reporting, with exciting progress towards a future global standard.
• There is as yet no globally accepted TCFD equivalent for social topics.   Too many inconsistent frameworks and measurements that are often described as the ‘Alphabet soup’ creates a challenge for all stakeholders. No common frameworks means no comparable data, and this makes it hard to compare the performance of companies. Read our article on the ‘Alphabet soup’ for more information on how companies can address this challenge.
• To add to this lack of comparability and consistency, the lack of global consensus across ESG as a whole could intensify the existing difficulty of measuring engagement with social factors when companies are being influenced by geographical and cultural norms. This will need to be a key consideration for companies with a global footprint. 

Below are some key areas of consideration for companies looking to consistently meet the requirements and expectations of all their stakeholders:

• People – the pandemic has changed the way we work and with more working from home, it has shone the light on people’s wellbeing. Therefore, companies will need to be able to communicate clearly what staff support is available. There is also a job to do to close the gap between those at the top of the workforce and millennials.   The FRC Reporting lab has released useful guidance on workforce reporting, including the importance of workforce engagement.
  
• Purpose – this should clearly state how the business can create value for all stakeholders and address ESG issues. Investors want to see companies believe in something, and now more than ever the link between purpose and trust is dominant. It is a key requirement of the UK Corporate Governance code.  Key to building trust, it’s essential for companies to think about and demonstrate how their purpose drives what they do and the impact that they have.
  
• Community – businesses should be able to demonstrate how they intend to support or add value to their local communities.
• Supply chain – consider the ecosystem of your business and who you determine to be an employee vs a contractor. These all have an impact on your brand and reputation and your business only operates well if all parts are healthy.
  
  

With so much to cover under the social space, it’s important to work out what you should prioritise and identify the areas where you can make the biggest impact.

Reflecting on the work that we are doing with clients in this area, I would recommend that steps you could follow would be:

1. Undergo a materiality assessment to work out what is material for your stakeholders
2. Ensure you have a good understanding of what you already measure in relation to social matters and how this information is collated
3. Benchmark your reporting against peers and industry leaders to understand how others explain their social value and the metrics they use
4. Understand what your strategy says and therefore what points you are trying to prove
5. Work out how best to measure that – whether directly observable (e.g. gender diversity statistics) or whether you need to identify proxy metrics (e.g. KPMG uses parental occupation to define socio-economic background and measure our pay gap)
6. Ensure that you have clear reporting criteria and methodology disclosed so that users of the reporting can follow what you have reported.

However, this is an emerging area with different challenges for every client.  Please get in touch to discuss how you are approaching the topic.

The value of your brand sits heavily in ‘S’ focussed areas, such as customer relationships and your workforce, so it’s easy to see how getting this wrong can really destroy your corporate value. But get this right and you can do a lot to enhance the overall value of your enterprise.