Book review: Measuring Good Business - Chap. 3

Book review: Measuring Good Business - Making Sense of Environmental, Social and Governance (ESG) Data - Chapter 3 - Good measurement

In my introductory post, I explained that I have endeavored to summarize key insights and takeaways from this book (which I highly recommend) in five weekly posts, each one corresponding to a different chapter. This week is Chapter 3: Good measurement.

(I offer my gratitude to the author Richard Hardyment for his thorough research and captivating narrative.)

This chapter is about explaining how ESG and sustainability-related performance are measured, knowing the difference between what can and can’t be measured, and recognizing that the ultimate objective of sustainable business practices falls in the latter category.

Why sustainability is not like financial accounting

The author points to four key differences between financial accounting and sustainability measurement:

• Level of understanding: there is a highly consistent understanding of key financial concepts like revenues, costs, and profits, whereas we have very varied definitions of sustainability concepts like diversity, natural capital, ethics (or my personal favourite: ‘full time equivalent’ employees)
• Field of vision: financial accounting limits itself to the very narrow scope of direct operations, whereas sustainability matters must be considered across a company’s full value chain
• Time horizon: financial data covers mainly past, actual, and near-term future performance, whereas sustainability performance must be envisaged over the very long term and is very much “forward-looking”
• Applicability: accountability for financial performance (measurement and disclosures) has applied mainly to large, publicly listed companies, whereas accountability for sustainability must be required of companies of all sizes, public and private (I would argue that financial accountability is equally, if not more important for small companies, but the author may be referring here to ESG rating scores, which smaller companies have indeed escaped for now)

Newtonian measurement can’t apply to complex phenomena

The author very interestingly raises the point that ‘Newtonian’ or representational measurement applies well to things that are readily observable and can be counted. The numbers mean something real that is consistent across space and time. They are stable, linear, and precise, and therefore standardizable and comparable. They work well for measuring things like carbon emissions, injury rates, or volumes of waste.

But because sustainability matters are complex and multidimensional, we cannot directly observe and measure them. They are “diverse, dispersed, imprecise, non-linear, contextual, dynamic, ambiguous (and sometimes contradictory)”. Most social matters are subjective experiences “held in the minds and hearts of people” – all of which makes them “fiendishly hard to standardize”. Indeed, it’s difficult to quantify social justice, natural capital depletion, or a sustainable supply chain.?

“The big mistake of measurement is to assume that we can lift the methods that work for physical representations (emissions, water, waste) and transfer them to the rest of the canvas of sustainability. The problem arises when the assumptions, simplifications, categorisations and standardisations that work so well for Newtonian topics are transferred wholesale to other fields.”

For the author, the vital step in measurement is to “be crystal clear about what we mean from any term. [...] It is only once we have been precise in our definitional scope that we can take the next step: carefully selecting the right metrics”.? I couldn’t agree more.

The four types of metrics

Since complex phenomena cannot be directly observed or measured, we need proxies, which is where metrics come into play. The author describes four types of metrics, noting that “most people assembling reports and using data fail to realise the profound differences between these four types. But they are crucial to understanding why sustainability measurement so often misses the mark.”

• Inputs: what the company has put in (money, time, raw materials)
• Activity: what the company does with its inputs (captures implementation)
• Commitment: indicates future intention of activity, but not (yet) reality
• Outputs: (also known as key performance indicators) describe tangible results

The first three don’t tell us much about ‘what happened’, which is where outputs come in. Most sustainability metrics are output metrics. But when it comes to measuring a sustainable business, what we really want (dream of) measuring is outcomes and impact.

• Outcomes: describe the consequences for people, planet and the company?
• Impact: the final step after outcomes, the longer-term, higher-level changes in the system?

However, as the author points out, there are no outcome metrics per se. Therefore, there is an inevitable gap between numbers and outcomes – “the trick is to recognise this and try to make it as small as possible”. Numbers and data are proxies for reality, they are not reality itself and cannot substitute themselves for the unmeasurable outcomes and impacts. We must be careful not to put more meaning in the data than there is. Good measurement is about finding useful proxies for the outcomes we want to know about.

The author also reminds us that “all the data in the world means nothing without context.” Context matters because:

• it’s about the context of the planet
• dependencies and impacts are best understood with reference to place
• it’s about where we find ourselves in time – “impact is fundamentally about change”

To better grasp sustainability considerations and attempt to measure them, the author suggests adopting systems thinking. Describing a company’s footprint as “a web of relationships: complex, ambiguous, dynamic, and evolving through feedback loops and adaptation”, he posits that if we look only at the parts, we cannot see the whole. “To make a complex system measurable, we select parts to examine. We scrub out the context. We break the world down into smaller units. We then make the mistake of assuming that the whole is the sum of the parts [...] Starting with a systems mindset means we can drill down with more confidence, mindful of what we are missing as well as what we are seeking when we select metrics.”

Not everything that counts can be counted

The author speaks of? a “ginormous gap” between what is known and unknown or unknowable, between what we can see and not see, or what we can measure and not measure. When it comes to corporate reporting, this gap is reflected between what is real and what is disclosed. “It’s not possible for any company, or a third party, to collect data on everything. There are physical and resource limits. Corporate reporting goes through a giant filter where legal and reputational risks alongside financial cost, commercial confidentiality and practical considerations whittle down the potential list further.”

The contents of this entire chapter certainly help to gain a fuller understanding of the famous quote that “not everything that can be counted counts, and not everything that counts can be counted” (Cameron). In other words, just because we can’t measure something, doesn’t mean it does not exist or it’s not important, not valuable… or not worth managing.

Introduction

Chapter 1 - Moral Merchants

Chapter 2 - ESG World

Next up: Chapter 4 - Making a difference

About the book

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