White paper
Building a Foundation for ESG
Executive summary
Environmental, social, and governance (ESG) initiatives are becoming more critical to the way organizations operate, even as these initiatives become more commonplace.
Yet, ESG brings with it a host of questions as to its definition, how it’s managed, and — perhaps most importantly — how it’s measured. Further, how important are ESG topics within corporations? Where does this responsibility sit within these organizations for ESG implementation and execution? How can organizations ensure governance and compliance within their existing supply chain, especially as more attention gets paid to Scope 3 emissions?1
For internal analysis and reporting, what data sets would be best for use? Which tools or services are organizations currently using and how well do these address challenges and pain points that they’re currently facing? Finally, is it possible to guide evaluation of different ESG analytics, reporting, and supplier risk-screening solutions?
With these questions and others in mind, we undertook a survey of decision makers in ESG and supply chain roles at midsize and large companies and distilled the research into the following report.
Initially, our research found several consistent responses among survey respondents, including:
- ESG is widely embraced and a priority for public companies. Public companies have adopted a broad definition of ESG that includes environmental, workforce, operational, social, and corporate governance factors. These companies tend to have already established programs — following the leading frameworks — with dedicated ESG leaders in response to demands from investors, the public, and other stakeholders.
- Private companies are at an earlier stage of adoption. While private companies have high-profile initiatives linked to ESG, these actions are more likely to be targeted to a specific concern of ESG — for example, deforestation, water waste and recycling, supply chain and labor standards, product safety and quality, anti-bribery and corruption — and more narrowly defined. Private company management related to ESG tends to be siloed into functional departments, such as Supply Chain and Human Resources.
- Priorities within ESG vary by industry, as do definitions of specific elements. Accordingly, both public and private companies feel they lack industry-specific frameworks for measuring progress toward ESG goals.
- Data collection and measurement is fraught with problems of data quality and consistency. Both within and across companies, ESG leaders expressed concern about the inconsistency of definitions and the data itself, which complicates the adoption or creation of benchmarks. There are clear opportunities to improve data retrieval for ESG reporting purposes, which, in turn, would create a streamlined work process. Companies are also eager to adopt standardized definitions.
One pressing concern is the ability to extend ESG measurement to capture Scope 3 emissions, which includes supply chain impacts, both upstream and downstream, as well as transparency and oversight of third parties involved in the value chain. Respondents say they currently lack efficient and objective solutions for gathering this required — or soon-to-be required — data. - Future need for new products and services. Companies have a current and future need for products and services that provide standardized, consolidated, and preferably automated ESG measurement and reporting. There are clear opportunities for outside vendors to automate, improve the efficiency of, and standardize the processes involving ESG measurement. There is also an urgent opportunity to provide a means to extend ESG measurement to Scope 3 emissions.
Companies are increasingly focused on measuring environmental impacts that extend to their supply chains, but many say they lack efficient and objective solutions for it.
Other key findings
Differing views of public and private companies. In large, publicly traded companies, ESG is a widely recognized and employed umbrella term. ESG as a practice has been developed in part due to pressure from investors and leadership interest and, in some cases, compliance requirements are also driving this trend. These publicly traded companies tend to have a broad definition of ESG, encompassing environmental, social, and corporate governance factors.
Private companies, in contrast, tend to focus on specific elements of ESG, depending on identified priorities. Private companies might focus on elements of ESG driven by priorities for the industry — for example, sustainability for manufacturing — or values of the ownership group. Thus, private companies are less inclined to define ESG holistically, instead using the term as an overarching idea, although they do view themselves as accountable to customers in ESG concerns. Private companies also are more inclined to manage ESG factors in a siloed way, with separate efforts for environmental sustainability, labor and employment, corporate governance, and other factors. They are also less inclined to describe their efforts to implement and evaluate under the specific ESG banner.
Definitions of specific elements within ESG can vary. There is little reticence around using the term ESG and most of our respondents said their companies have not, so far, become sensitive to the term ESG as a controversial one — viewing it instead as commonly used and familiar. In some cases — like agriculture — ESG is viewed as a more palatable term than sustainability.
While sustainability can be defined as energy savings for an online company, a manufacturer might interpret it as environmental impact — including waste diversion, water consumption, or fuel consumption — and a food company might define it in the context of the ecosystem.
Sound ESG implementation and management is currently a priority. For large, publicly traded companies, pressure for quality implementation and management of ESG initiatives has come mostly from investor demands and public pressure. For private companies, this pressure can also come from venture capital investors. Yet, other factors also play a part.
Among both public and private companies, values espoused by leadership and owners play a critical role. Some companies have large or significant customers that impose contractual requirements related to ESG. However, both public and private companies indicated that public pressure and reputational concerns drive ESG efforts. They also cited attitudes of younger professionals and consumers as a driver of ESG implementation.
Some public companies are linking ESG performance to compensation. This is another indication of organization-wide focus with some organizations already reporting measurable financial benefit from ESG changes. Sustainability, along with diversity and inclusion, are priorities for most companies, respondents say.
Relative to other factors, managing environmental impact and ensuring an inclusive workplace tend to be priorities for most companies. Within ESG efforts, however, these priorities vary by industry. For example, manufacturers might be more focused on fair labor practices and environmental impact than other industries.
There is a broad corporate view that ESG focus is here to stay. As one respondent, a vice president for legal affairs, replied: “There’s a lot of public pressure that really makes it impossible for a public company not to have an ESG framework in place and to provide meaningful information.”
In contrast, while many private companies may embark on their own ESG initiatives, budget and time costs may be formidable. “ESG is very costly and time-consuming to undertake,” said one general counsel attorney for a private company. “So I think a lot of private companies struggle with the idea of doing it or not.”
Companies with developed ESG programs are looking to extend them to the supply chain. Companies with developed ESG programs tend to have a process in place for measuring internal impacts and are looking to extend that measurement and reporting to their supply chain. “The push to go greener has become a company-wide goal, and the team managing it has grown significantly,” said one supply chain head at a public company. “Having a responsible supply chain, corporate governance, and all the other components were in the limelight from day one.”
Corporate governance protocols are well-developed. Most companies have well-developed protocols for corporate governance, typically led by their internal law departments. However, differences in corporate structure between public and private companies influence how ESG efforts are managed.
Methodology
All of the survey respondents interviewed by Thomson Reuters Risk and Fraud Solutions came from companies that were corporate in structure, upper-midsize or large companies with $500 million-plus in annual revenue. All are U.S. based and included organizations that are international in scope.
Thirty interviews were completed, with the following breakdown: 10 were the heads of ESG or sustainability for their companies, at the VP or director level; 10 were general counsel or associate general counsel; and 10 were heads of supply chain, at the VP or director level. Twenty of the interviews were with professionals at targeted, regulated industries, including technology and electronics, automotive and manufacturing, agribusiness, transportation, oil and gas, mining, and chemicals.
How ESG is managed
ESG work within companies is designed and carried out differently in public companies as compared to private companies. Public companies tend to have an ESG lead with coordination across business functions, whereas privately held companies are more inclined to manage elements of ESG within existing departments with oversight by a management committee.
One ESG head described the role of the position within a public company: “In my role as the head of ESG management, I’m responsible for helping develop the strategy, implement the strategy, ensure that the governance is all working, and then ultimately engaging ESG stakeholders including investors and developing the ESG report.”
Private companies distribute authority and implementation differently. The particular arrangements can vary but generally they are more reliant on the existing company structure. “It is completely in silos at this point,” said an associate general counsel at a private company. “We don't have that kind of stuff that is funneled through one common program within the company.”
Some arrangements for ESG leadership groups are more ad hoc than others. One survey respondent, a general counsel at a private company, described the arrangement as, “We have an ESG committee. It’s made of me, our head of HR, our head of privacy and security, and then some other members.” Another said, “ESG touches almost every aspect of our business. So rather than have to get people up to speed, we decided to have somebody on the team with expertise for every area.” Within both public and private companies, the roles for ESG rollout are clearly still evolving.
Defining and implementing ESG programs
Before companies get to implementing and measuring the effectiveness of ESG programs, there is first the matter of how they define ESG in order to figure out which priorities are most important and relevant. As one ESG lead explained, “We understood our 30-some-odd material issues, prioritized them, and went through a process to set short and long-term goals.”
Of course, to do so requires an all-department effort. (See Figures 1 and 2 above.) Although executive leadership may initiate these efforts, there is an immediate need to identify specific and material issues; yet, many such issues may not be apparent or obvious to people outside functional and specialized departments.
Determining internal issues is often just the first step. In some cases — for instance, in a larger company — there may be differences across regions in process and supply, as well as in definitions, standards, and regulations. The transmission of knowledge from those closest to existing practices is the key to better continuity and consistency.
A commitment among executive leaders to implement ESG programs confronts its own set of challenges. Before establishing goals and frameworks, the ESG team needs to recognize that in the wider world, there is a lack of consistency in definitions for many elements of ESG.
Respondents said that there are not necessarily standard frameworks for implementation, either and that those frameworks that do exist are not necessarily customized to the industry.
Recognizing these ambiguities, leadership draws on departmental expertise at the functional head level to refine definitions, goals, and frameworks that are a right fit for the company and the industry. Strategies depend on first identifying specific processes and responsibilities, circulating acceptable draft policies, and making early education of internal stakeholders a priority. Once implementation begins, involvement and refinement at the early stage can later mitigate the inevitable problems that arise.
It is important to note that sometimes ESG goals may cause management and performance expectations to change. One ESG head of a public company emphasized the importance of determining “who the subject matter expert is for any given ESG issue, [and] who’s accountable for performance.”
All stakeholders need to know not only what their responsibilities are but what resources they will be able to access as they encounter challenges in their day-to-day work. These challenges include barriers to cultural change, cost and resource burdens, and a lack of tools to determine how to improve scores. Without addressing these challenges, the critical question of how ESG improvement will be measured might not be answered.
Working with data and developing measurements
Measurement of progress towards ESG goals requires setting up data portals, submitting data at the operations level, and tracking stakeholder progress relative to stated goals. Naturally, that means the quality of data is a key issue that must be addressed early and any newly implemented data requirement must avoid certain common pitfalls.
“The challenge around data quality is making sure the data collection processes are robust and transparent,” said one ESG head of a public company. These common data quality pitfalls can include disconnected data sources, lack of timeliness of internal data, unknown reliability of data sources, and problems in collecting congruent data from suppliers and franchisees — who may have their own way of measuring and describing ESG efforts and presenting their results. Further, the complexity of environmental impact data presents its own challenge.
Reporting results from data involves another distinct stage of ESG project work. Such reporting will usually involve organizations’ heads of ESG, marketing groups, executive leadership, and board committees. Indeed, the complex and detailed tasks of consolidating data and then preparing and publishing reports — which may be included with filings for public companies — all require clearly defined responsibilities and timelines. Those professionals who are responsible for producing reports may encounter internal data problems during the process, such as lack of automation, chance of human error, and a lack of real time data.
Though a number of data tools have been implemented (see chart below), reporting of combined ESG metrics typically involves manual processes to extract data from different sources and combine such diffused data for reporting purposes. Public companies tend to combine data in consolidated reports, which are made public on their websites or included as an appendix to SEC filings, whereas private companies are more inclined to either use the data for internal purposes or publish topic-specific reports — such as on sustainability — on their websites for customer consumption.
As for vendor and supply chain data inputs and reporting, efforts are at the beginning stage. For both public and private companies, there has been an ongoing effort to capture the internal data of their suppliers and vendors, however, success has been elusive in this area. While some larger companies use third-party sources to screen vendors for risk, ESG data is either not collected from vendors or relies on vendor self-declaration. Most of our respondents were aware of the limitations of these current information-gathering practices.
Indeed, as this chart shows, many of the necessary requirements for data analysis are still in need of possible solutions. The area around how the collection, distillation, and reporting of ESG data can still be considered in progress.
Looking ahead: Gaps and opportunities
Our survey reveals that companies are actively pursuing ESG programs but have identified difficulties in gathering and managing data as well as challenges in implementing efficient, informative, and cost-effective means of doing so. Going forward then, several opportunities exist for new services and products to fill the gap, especially in the following areas:
ESG data integration and reporting. In most cases, data is being collected and managed in silos with no integration for ESG analysis and reporting. Many survey respondents said their organizations’ data is currently being managed in Excel, which they viewed as inefficient. There is also a need to consolidate data for reporting, given vital committee and board oversight requirements. Some third-party companies are actively exploring ESG consolidation and data solutions with existing solutions currently aimed only at the needs of public companies.
Data management and verification. Public companies may want data to be verified by a credible third party for accountability and audit purposes. It can also be a challenge to manage different data sources, which can range from very simple — such as human resources data — to complex, such as emissions data. The lack of standardization for data greatly complicates this matter further, especially within companies themselves which may not have a standardized process for data handling. In the absence of clear external standards, data definitions and ratings can differ across industries and data providers.
How to benchmark information. Companies also need guidance on how to design and implement ESG programs, as well as how to benchmark information on what comparable companies within their industry are doing. Ideally, companies want information tailored to their company size and industry. Current frameworks available — such as those provided by rating companies — tend to be more generic in nature.
Updates on new regulations across jurisdictions. For multinational companies, it is a challenge just to keep up with changing regulatory environments concerning ESG issues across jurisdictions. Solutions that can help these multinational companies keep abreast of the latest regulatory changes will be valued.
Systems to extract objective, third-party information about companies’ supply chains. Some companies want to include environmental impacts of vendors and franchisees — including Scope 3 requirements — but lack ways to easily extract this information. This lack of data to assess ESG attributes of suppliers or potential suppliers based on independent data could severely limit companies’ abilities to comply with Scope 3 requirements.
Conclusion
ESG efforts at the corporate level are developing vigorously these days with these transformations growing even as they become more commonplace, according to our survey respondents.
Further, public and private companies are working to implement them, although in different ways. Public companies are responding to the expectations of stakeholders — often in greater number and differing type — when implementing ESG programs. Private companies, on the other hand, have implemented ESG programs in a more piecemeal fashion, yet they are also responsive to their own leadership’s interests in ESG matters and sensitive to reputational risk. This is especially true as younger, emerging groups of workers, consumers, and investors come to expect large institutions to do their part.
Survey respondents agreed that the practical matter of having access to objective reporting and assessment tools, as well as benchmark guidance, remains an area that is significantly underdeveloped and that such tools, resources, and solutions are sorely needed as organizations’ ESG commitments continue to grow.
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