The Triple Bottom Line Error

How can companies communicate their contribution towards investors and society? ESG reports help little as they just state a myriad of facts. They are more confusing than informative. We need performance statements that include all benefits to stakeholders, and are understandable for all. One concept that promises such a performance story is the Triple Bottom Line . Unfortunately, the Triple Bottom Line is often done wrong. We explain the problem, and show how to do it better.

Stakeholder: Board

Risk: Reputation

Management: Don't put currency impact values into your triple bottom line, better measure target achievement

Companies are moving to performance statements that include more than just the financials. A popular concept is the so called Triple Bottom Line . It extends profit, the "traditional bottom line", with the bottom line for performance towards society and the environment. This trinity is also referred to as profit, people, planet, or PPP. We like to abbreviate it as TBL or 3BL. No matter how you call it, most Triple Bottom Line statements are done misleadingly wrong.

Misleading impact valuation for your 3BL statement

The Achilles heel of the Triple Bottom Line is the fact that most of these statements attach impact values to a company's people and planet contributions. But such contributions are notoriously hard to value. Is your bottom line to society what you pay in taxes? Is your benefit to your employees what you pay in wages? It is not. You pay this for something you get in return. You pay taxes so you can operate. You pay wages so that people work for you. Your wages and tax payments are top line figures, not a bottom line result. They are not your triple bottom line, they are the starting point. Your profit & loss statement also subtracts costs from the top line to calculate the profit bottom line. The same applies to your bottom line towards people and the planet. If you only state your payments and do not subtract what you get in return, you mislead your audience.

For a true and fair view, you can only list what you pay above the level you are obliged to. Your company's bottom line contribution to society in the form of taxes and to employees in the form of wages is only what you contribute above what you have to pay anyway. But this will get you into trouble. It will definitely not please your shareholders that you pay too much for your resources. You can't afford this transparency, even if your intentions are noble.

In respect to the environment, it becomes even more complicated. What is the impact value of your contribution to climate change? The price of carbon certificates? The difference between your emissions and waste compared to the worst performing competitor in your industry? How do you value natural resources with prices that are far too low, such as clean air and water, quiet spaces and the loss of a beautiful landscape or the loss of habitable land to endangered species where you have built your factory? Showing a positive impact value means that you are paying too much for the resources. Difficult.

Impact values have an even bigger problem: How do you value your impact on society in respect to accidents? Are your accidents a cost to society? What if they are lower than the industry average? You actually perform well but it looks like you are performing bad. What if the accidents in your industry include deaths? It's unthinkable to put an impact value behind a life lost. Some early adopters of the Triple Bottom Line avoid impact values for lives lost altogether and put this decision in the notes, but avoiding it leaves a big whole in their sustainability reporting, maybe even the biggest.

Using impact values for your Triple Bottom Line is simply wrong.

This is no statement against impact valuation. It's a powerful method for non-government organizations, social enterprises and charities. For profit-oriented corporations and their Triple Bottom Line statements, impact values are misleading and dangerous. There is a better method.

A better Triple Bottom Line method

A better approach to the Triple Bottom Line statement is to use the concept of target achievements. Instead of calculating toxic impact values, the actual achievement for a metric compared to corporate targets is stated, using the process illustrated below:

The orange achievement function in this graph defines the achievement level based on target achievement. A performance at target leads to an achievement of 100%, in the chart above on the left, vertical scale. The bottom performer reaching the floor or achieving even less gets an achievement of 0% and the best performance at the cap or more is expressed as a 200% performance.

The achievement function allows stating performance towards people (society) and the planet (environment) or other stakeholders on a standardized scale of 0% to 200% where 100% means target achievement. This allows state stakeholder performance independent of the impact valuation problems stated above. It becomes easy to interpret, even for lay persons: 100% is good, higher values are better, lower are worse. Even better, metric scale and interpretation is the same for any metric, no additional knowledge is needed, everybody can read such statements.

There is a positive side effect of using achievement values instead of impact values. It focuses the attention on the targets. Are they meaningful or even aspirational? How do they compare to other companies? Do we agree with the board about these targets in the first place?

Combining financial and non-financial performance

With the achievement function applied to the ESG metrics that are material to your company, the Triple Bottom Line becomes much more meaningful than one based on impact values. The chart below shows how this can look. The at-target achievement is displayed as a solid blue line. If the company exceeds the blue line, it has performed better than its targets, based not only on Profit metrics, but also on People and Planet.

The beauty of this chart is that it makes the contributions of each performance element visible. The higher the bar, the more the metric has contributed to overall performance.

This waterfall chart has the advantage that weights can be used for each metric. The weighted contribution of each metric to the overall company is made visible in the Triple Bottom Line chart. In this illustrative case, achievement is 144%, just shy of 150%.

The achievement function makes financial and ESG performance comparable. You can now put everything into one graph that is easy to understand. No understanding of any of the underlying metrics is needed. It’s a graph that any company can do, no matter what their financial and ESG priorities are. Even if you want to show completely different metrics, your complete performance picture, the orange bar, is still fully comparable with any other company.

How boards benefit from the Triple Bottom Line

We have already outlined a number of challenges for boards in previous contributions to Stakeholder Risk Management . Many of them can be resolved by the Triple Bottom Line statement as defined here. Here are some of the reasons why boards should ask their CFO Office to provide a Triple Bottom Line statement based on the target achievement method above:

1. Full performance story. We earlier explained that your profit & loss statement only tells half the performance story . The Triple Bottom Line allows you to tell your full performance story, based on your own priorities, not other organization's priorities as is the case with ESG ratings.
2. Increased talent retention. We earlier explained that pay-for-performance creates a retention problem . The Triple Bottom Line makes performance assessments more reliable, identification higher and thus lowers the retention issues from pay-for-performance.
3. Motivation to grow. We earlier explained that profit based executive compensation provides a strong bias for downsizing . The Triple Bottom Line reduces the incentive to downsize and motivates for investing in future growth and safer returns.