ESG compliance: Are some Boards advocating “greenwashing” ESG initiatives and looking the other way?

Co-authored by Adam Middleton and Preloshni Naidoo

Large multinational corporations are walking a tightrope between driving economic growth and being ESG (Environmental, Social, and Governance) compliant. While some critics argue that ESG initiatives are merely a ‘public-relations move” or ‘greenwashing’, others see them as essential for long- term sustainability and business growth.

The reality is that ESG considerations are becoming increasingly important in companies’ decision-making processes. Many corporations are making significant commitments to science- based targets, discontinuing operations in countries with questionable human right records, and organizing relief efforts. This shift towards ESG compliance is driven by the growing recognition that social license - the perception that a business is acting fairly and deserves trust - is crucial for sustaining long term value [1].

This article discusses the dire need for Boards to adopt robust and legitimate ESG compliance strategies, as opposed to becoming solely focused upon stock price and shareholder value. The main driving enablers and challenges of ESG compliance that company Board Directors face are discussed. And a key question is asked: “If Boards can make a paradigm shift from thinking of ESG initiatives as disruptive, to actually becoming both non-disruptive and financially an incentive, how far can we advance in achieving compliance targets?” What if Boards can create innovative solutions to address environmental challenges for society, whilst delivering immediate long term economic benefits for themselves? It does not have to be either/or. It can and must be a win-win situation”

COP29 UN initiatives

COP29 is the 29th United Nations Climate Change Conference of the Parties, which brought world leaders, experts, and stakeholders to address climate change and negotiate international agreements.

Despite criticisms, COP29 aims to make progress on critical climate issues. UN Climate Change Executive Secretary Simon Stiell emphasized the need for parties to work together, stating that "we can't lose sight of the forest because we're tussling over individual trees" [2].

The Key Focus Areas at the Conference were:

Climate Finance: Discussions on funding climate change mitigation and adaptation efforts

Energy Transition: Exploring alternatives to fossil fuels and promoting sustainable energy solutions

Just Transition: Ensuring a fair transition to a low-carbon economy

Stiell highlighted the importance of strong climate action, noting that enabling every country to take strong climate action is 100% in all countries’ interests, even the largest and wealthiest. He also stressed that the climate crisis is becoming an economy killer, affecting every country and household.

Key Drivers of ESG compliance

Leading on from the key focus areas from COP29 initiatives are enabling drivers of ESG adoption that all company Boards need to consider. These are:

1.Growing investor interest:

Inflows into sustainable funds rose from $5 billion in 2018 to over $70 billion in 2021 making climate finance accessible in first world countries to promote ESG initiatives.

2. Accessibility of climate related finance:

However, what can be done to funnel climate finance to support developing world countries? Carbon markets are carbon pricing mechanisms enabling governments and non-state actors to trade greenhouse gas emission credits. The aim is to achieve climate targets and implement climate actions cost effectively.

3. Management and exchange of emission reduction targets:

There are two types of carbon markets: Compliance and voluntary.

In compliance markets, such as national or regional emissions trading schemes, participants act in response to an obligation established by a regulatory body.

In voluntary carbon markets, participants are under no formal obligation to achieve a specific target. Instead, non-state actors such as companies, cities or regions seek to voluntarily offset their emissions, for example, to achieve mitigation targets such as climate neutral, net zero emissions.

The 2021 Emissions Gap Report assessed the importance of carbon markets and found that full use of market mechanisms can enable cost savings in the order of 40-60% in 2030. The aim of Article 6 of the international carbon markets is to allow for enhanced ambition of climate actions for implementation of nationally determined contributions (NDCs) and to promote sustainable development and environmental integrity. Parties that have successfully met their own emissions reduction targets can sell their extra reduction credits to finance enhanced climate action.

4. Regulatory pressures:

The Securities and Exchange Commission (SEC) is considering new rules requiring detailed disclosure of climate-related risks and greenhouse-gas emissions. Listed Stock Exchanges are now requiring public listed companies to include ESG metrics and progress against ESG targets in integrated reports to comply with Listed Stock exchange listing requirements.

5.Changing consumer expectations:

Companies are responding to societal concerns, such as environmental sustainability and social responsibility.

Key challenges of ESG compliance

Some of the main challenges to ESG implementation as viewed by most company Boards are:

1. Measuring ESG performance: Aggregate ESG scores can be inconsistent across providers, or sectors and making it challenging to evaluate progress.

2. Balancing short-term gains with long-term sustainability: The most perceived view and response is that company Boards must navigate trade-offs between financial returns and ESG considerations. Can there be alternative views or more feasible economic solutions that result in a win-win case for ESG compliance and the bottom-line profit?

In a recent Harvard Business Review publication on how “Green innovation” shows new markets don’t have to be disruptive, the authors discuss how an innovative non disruptive approach to implementing an ESG initiative actually contributed to bottom line profit [3].

In the case study, oil companies are faced with intense pressure to reduce carbon emissions and pollution (e.g. burning of excess natural gas [methane] at source, known as gas flaring), emits large amounts of carbon dioxide and pollutants, whilst wasting valuable energy. For a long time, there was no cost-effective solution. The company viewed the flaring as a significant cost factor to bear for compliance with environmental norms. Some Bitcoin miners, however, identified an opportunity for addressing this problem in an innovative way that produced win-win outcomes. As energy-intensive operations with high mobility, they saw the possibility of using excess gas at the source, where it would otherwise be flared and wasted. They, in turn, developed various innovative methods to achieve this. Denver-based Crusoe Energy Systems, for example, developed proprietary methods to capture this gas and convert it to electricity for Bitcoin mining at the extraction site [3].

3. Greenwashing and purpose washing concerns: Critics argue that some ESG initiatives are mere PR exercises with no real evidence of benefits to society. Company Boards need to overcome this societal perception and ensure that they are fully transparent and ethical in their interactions with ESG compliance.

How can company Boards become convinced to view implementation of ESG initiatives as non-disruptive and incentive to the shareholder?

?Taking the various challenges in the implementation of ESG initiatives, company Boards can feel dauted on compliance and the realization of immediate costs vs long term benefits. Adopting the view that compliance to ESG initiatives is actually beneficial for the long-term growth and sustainability of the organization as a whole, creates an incentive for compliance.

?If alternative and innovative solutions can be created to address severe environmental impacts such as carbon emissions, creation of waste streams and reduction of waste and promoting circular economy practices, the implementation of ESG initiatives becomes non-disruptive.

?On a national scale, organizations who have met their own emissions reduction targets can sell their extra reduction credits to other companies or to carbon markets. This can move investments to areas and sectors, where emissions reductions can be achieved as efficiently as possible.

?Board Chairs who can adopt the view of the importance of ESG compliance, can ensure their Board committees are continuously educated on ESG initiatives and that the ESG strategy is continuously updated and aligned to companies’ executive strategy. In this way, any disruption is anticipated in advance and risk strategies are designed to mitigate risks of disruption.

?Board Chairs need to ensure there is effective oversight allocated to ESG compliance and that it’s Audit and Risk committees should ensure that effective and continuous risk management is being performed on all ESG compliance initiatives.

?In keeping with the theme of effective oversight, the Board can use independent, third-party auditors for audits and cultivate a more diverse board of directors who can bring in new insights and diversity of thought into how the ESG landscape can be managed.

?Board Chairs can appoint Independent Non-Executive Directors to the Board who can bring independence and improve upon Executive accountability and transparency in the ESG initiatives area.

Conclusion

Ultimately, large multinational corporations must strike a balance between driving economic growth and prioritizing ESG compliance. By integrating ESG considerations into their core strategies, companies can ensure long-term sustainability and maintain social license.

Further, shareholders themselves are becoming ever-more ESG-savvy and expect Boards to be able to balance the short-termism together, with the medium to long-term benefits of a fully sustainable business ethic.

References

1. Meta 2.3

2. https://en.wikipedia.org/wiki/2024_United_Nations_Climate_Change_Conference

3. Green Innovation Shows New Markets Don’t Have to Be Disruptive, W. Chan Kim, Renée Mauborgne, and Mi Ji