Making ESG Drive a Sustainable Future

The Greek philosopher Archimedes once said, “Give me a firm place to stand and a lever and I can move the Earth.” This is in many ways what governments are hoping a focus on ESG by the financial world can achieve.?The problem for now is that ESG is not a firm piece of ground. ESG is a term that has been widely adopted and has fueled a cultural move to adapt capitalism to a sustainable model but debate over the nature and substance of the term is frustrating its ability to leverage a change of behaviour and create real impact. Establishing some firm agreed points to anchor the collective effort are now needed a shift from semantics to action should now be top of mind.

So what do you mean by ESG? - Create common ground to move forward

Five questions to define what you understand by ESG Investing?

Pose these key questions to identify how you see ESG and ask counterparties the same questions.?Doing so you will understand where you are aligned and where you might be trapped by talking at cross purposes.

1. Which aspects of ESG do you mostly care about??
2. Do you simply want to do no harm and avoid exposure to "bad" assets and companies?
3. Do you want to rely on just historical data?
4. Do you want to encourage a real improvement in outcomes through your investment?
5. How much do you value ESG, sustainability and Impact outcomes vs Financial Return?

?Test your alignment with partners and other stakeholders

Now look for alignment with your position on ESG, sustainability and Impact; accept there are multiple positions and enjoy more productive conversations and appropriate choices.?Hopefully the debate can then move forward to making concrete plans and to action to deliver the needed transition and adaptation for a sustainable future. The real prospect of mandatory requirements creates real action from the bottom up among ESG aware leaders but voluntary action is limited there is a requirement to incentivise broader action and alignment with sustainable goals through hard laws and regulation.?

The Challenge of ESG’s Growing complexity

?Evolution of the ESG concept

A once simple framework to support analysing risks around an organisation’s interaction with connected stakeholders and the environment has become politically and emotionally charged with the debate switching from one aspect to another as it is repurposed to deliver sustainability goals.?There is a need to respect that there is a tension between the short term and long term and between prioritising the many aspects of ESG.?

This tension and complexity is being used by vested interest groups to push their own agendas above the common goal of long term sustainability.?The current troubles Blackrock and other financial institution face in different politically coloured states in the US illustrates not only its poor communication and consistency over ESG but also how?the issue is becoming politicised in a bipartisan debate.?

The range of issues ESG covers will always enable single issue activists to use the subject through a narrow lens to promote their specific interests. The overall complexity has so far defied efforts to generate a simple agreed measure that can be easily used to describe an organisations ESG status. It’s time to accept this and properly and clearly define what is meant and what is intended when using as a tool in sustainable finance or in more mainstream finance.

If you use words like responsible, sustainable, impact.?If you promote alignment with UN SDGs or delivering positive impact to stakeholders. If you use phrases like “for good” and “people and planet”. You are creating an expectation that must be supported by a credible and effective process and concrete metrics as you will be held to account for delivery or non-delivery of outcomes. That is the challenge of finding Archimedes' piece of firm ground and leveraging it to move the earth.?Both statements of intent and outcomes should be held to account to avoid undermining the potential to leverage the ESG framework for a sustainable future.

Building the momentum and garnering the capital for the coming transformation

The effort to distil ESG to a single unified value is deeply frustrated at this stage as there is no accepted system to equate the values of deferent areas of impact. How do you equate saving pressure of the environment with supplying a higher level of wellbeing and education in a workforce. The breadth and diversity of issues calls for a system that acknowledges the diversity of values considered and communicates this rather than over simplifying the message and permitting a gross muddying of the message. A system more like the traffic light system adopted in food labelling would both enable investors to align their objectives with the investments impact profile and encourage an understanding of the impact capital can have beyond short term financial returns.

Currently my preferred dashboard focuses on the Impact on the stocks of Natural, Human and Social Capital (both dependence/materiality of each and contribution to the stock +/- ) then an assessment on the approach to circularity and sustainability via advocacy (both with the supply chain and consumers). In time it may be possible to find a generally agreed exchange rate to equate for the diverse stakeholder impacts of concern but for now it likely creates noise and confusion in the public arena. Allowing Investors to opt for the sustainability they support with confidence is the best way to sustain the growth of committed capital to generating co-benefits supporting sustainability and so fund the shift to sustainable capitalism.

Some useful emerging concepts that should inform ESG analysis

Science has identified planetary-boundaries that consistent with a sustainable environment and the UN has developed goals that expand a sustainable relationship with the planet to sustainable human development goals (UN SDGs). Various stakeholder groups have been formed to adopt principles, mechanisms and action plans to move towards a more sustainable economy. They do much to improve understanding of the risks and behaviours that can positively impact or undermine a sustainable future.

New approaches to economics have emerged that can help broaden the focus of mainstream economic models and action.?Kate Raworth's Donught Economics, concepts such as Natural, Social and Human Capital being added to traditional Financial and Manufactured Capital in economic models (Capitals Coalition), and a drive to create improved material circularity and reduce the pressure on the stock of Natural Capital via promoting Circular Economics. The goal must be to appreciate and value all these types of capital we depend. Reducing the pressure and over consumption of these stocks of capital and in many aspects a recovery in the stocks is necessary.

In time it may be possible to find a generally agreed exchange rates to allow comparison between the diverse areas of impacts but for now it likely creates noise and confusion in the public arena. Allowing Investors to opt for the sustainability they support with confidence is the best way to sustain the growth of committed capital to fund the shift to sustainable capitalism.

The costs of ESG and a sustainability shift

Intuitively it is obvious that there is a cost, at least initially to shifting to a more sustainable version of capitalism. The ideation and innovation (R&D) stage is always a front loaded effort but creates new solutions and understandings that as they are refined and scaled will become less expensive and most importantly eliminate the accumulated environmental externalities that are now threatening a sustainable future for the current mass of humanity. ?If there is a failure to stabilise our relationships with the planet and among peoples a deterioration and potential collapse in the infrastructure and web of relationships that support humanity is an existential threat that is almost certain. So be aware that as you add positive impact and require specific types of outcome aligned with your own goals you should expect to devote additional resources to achieving this and expect reports the demonstrate how and what outcomes are achieved. It is especially important that you advocate and help employees, your supply chain and customers to collaborate. Proper education, knowledge and sharing of sustainability goals are needed to accelerate and properly deliver needed outcomes and impact.

There is clearly a cost to broadening the goals of investment and for enabling good ESG outcomes. The return is in the long term, if there is a failure to stabilise our relationships with the planet and among peoples a deterioration and potential collapse in the infrastructure and web of relationships that support humanity is an existential threat that is certain. So be aware that as you add positive impact and require specific types of outcome aligned with your own goals you should expect to devote additional resources to achieving this and expect reports the demonstrate how and what outcomes are achieved.

These higher costs will justify a higher fee but be sure that the costs reflect an investment in substantive research effort and effective action not in marketing spin to charge the fee for empty promises.?Beware of the commercial temptation to “greenwash” in the face of inertia or vested interests.?The notion that we need to have a sustainable future maybe becoming universal but the urgency to act is often lacking.?However those with a greater sense of urgency have done significant research in recent years mapping roadmaps, areas of action and innovation. This means that the knowledge base and frameworks to effectively direct capital at sustainability exists; it may not be fully matured but it is developed far enough to point to where investment is now needed and will have effective outcomes. The role of the asset owner is now to make sure these tools and knowledge are applied to achieve desired goals.

Those who take a long term view of their activities and see themselves living in a symbiotic relationship with the planet and other people and life forms will lead on a voluntary basis as they make are willing to include non-financial outcomes in their goals and value them alongside financial impacts. The threat of hard laws and regulations to support a shift to account for the external impacts of activity will focus the minds of many but only the enactment of these government and society led changes to the rules that govern activity will the shift be successfully achieved.

So what is now needed?

This article is a call for two things:

1.????Effective communication so individuals understand the investment choices they make and how these can impact long term outcomes for a sustainable human future. This requires government to provide clear and simple definitions and regulations that helps create firm ground to leverage capital that wants to make a difference to be effective and will give investors the confidence that it will. ?For capital that doesn’t want to make a difference it should pay for harm it does for the external impacts it has hitherto been able to free ride on.

2.????A recognition that this isn’t costless and will require a change in laws regulation and incentives to bring historic these externalities into consideration and real tension to financial and GDP led goal setting. ?To maintain a sustainable and fair market system these external costs to people and planet will require laws to reflect and report their impacts on balance sheets. The resulting transparency and stakeholder awareness will extend reporting from financial intangible assets and liabilities (such as financial leases and other structures) to other assets and intangibles that affect reputation and the value of organisations to society the very things that underpin their social contract and ultimately a sustainable license to operate. This requires an evolution at pace to a more holistic and multi-dimensional accounting and reporting system that reflects and rewards activity that has a positive public good as well as penalise public harm.

In the end governments should be led by a long term responsible vision to maintain and adapt laws, regulation and policies that govern individual’s activity so they don’t conflict with a stable and sustainable society.?Expecting people and organisations to always voluntarily act as citizens rather than in their individual interests is naive and an abdication of public duty for the institutions whose prime role is the provision of public goods.?

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We are at the stage where ESG needs to be clearly defined where used and demonstrate outcomes or be replaced with concepts, words and narratives that will deliver accountable sustainability.?At the same time we are at a stage where despite or because of local and partisan disputes in the short term governments now need to act to support a rapid transition to a sustainable model of human activity through a reform of laws regulations and incentives informed by sound and ongoing systemic understanding. Time is running out allowing inertia and inaction to rule in the search for silver bullets is a mistake. Encouraging the system to voluntarily act differently under old rules is not going to achieve a global solution. We need new rules and incentives to achieve the needed change.