ESG integration - Moving beyond a checkmark to a core element of corporate strategy

Prof. Dr. Mike Schulze, Vice President for Research & Practice Transfer, CBS International Business School, in a short interview explained ESG integration – Moving beyond a checkmark to a core element of corporate strategy and this topic will be discussed in more detail at: CONTROLLING DAYS 2024, Strategija i transformacija, 23.-24.05.2024.

What is the key reason why companies should consider ESG matters in their corporate strategy?

Sustainability has become increasingly critical for organizations to remain relevant and competitive in today’s world. Giving importance to sustainability is essential to meet investor pressure, consumer demand, regulatory requirements, talent acquisition and ensure increased productivity. Consequently, sustainability should be an integral part of developing corporate strategy. An integrated corporate strategy is a prioritised set of targets and subsequent actions which, in addition to classic perspectives, especially covers three important areas, described by so called environmental, social, and governance (ESG) matters. It provides an agreed framework to focus strategic investments and drive future corporate performance.

What is the exact understanding of the ESG concept, is there a generally accepted definition?

There isn't a universally agreed-upon sharp definition of the ESG concept containing a conclusive list of all relevant matters, but there is at least a general understanding of aspects that should be included. ESG matters are criteria used to evaluate the sustainability and ethical impact of a company's operations. Environmental factors include issues related to a company's impact on the natural environment and encompass aspects such as for example carbon emissions and climate change mitigation efforts, energy efficiency and renewable energy usage, water usage and conservation, waste management and recycling practices as well as biodiversity preservation and land use. Social factors focus on how a company interacts with and impacts society, including for example labor practices and human rights throughout the supply chain, employee health and safety, diversity, equity, and inclusion in the workplace, community relations and engagement and consumer protection and product safety. Governance factors refer to the systems and processes by which a company is directed and controlled. This encompasses for example board composition and structure, including independence and diversity, executive compensation and incentives aligned with long-term sustainability, transparency and disclosure practices, ethics and anti-corruption policies as well as risk management and internal controls.

How can strategy-relevant ESG matters be identified by a company?

A systematic approach is necessary to identify ESG aspects that are relevant for a company on a strategic level. This includes the following procedures:

• Engaging with a wide range of different stakeholders, including investors, customers, employees, suppliers, and community members, to understand their perspectives on ESG aspects that are most relevant to them and to the company.
• Conducting a double materiality assessment to identify ESG matters that have the potential to significantly impact the company's business operations, financial performance, and reputation. This involves analyzing both, the outside-in perspective, where companies must consider all external sustainability impacts that could internally affect their future profitability, as well as inside-out perspective, where businesses need to consider the external impacts their operations have, including impacts on society and the environment.
• Benchmarking against industry peers and best practices to understand the ESG matters that are most relevant and material within the specific sector in which the company operates.
• Analyzing relevant ESG regulations and reporting requirements at the local, national, and international levels. Additionally, identifying regulatory trends and anticipate future regulatory developments that may impact the company's operations and strategic direction.
• Conducting a thorough risk assessment to identify ESG-related risks and opportunities across the value chain. This includes evaluating potential financial, operational, reputational, and legal risks associated with ESG matters such as climate change, supply chain disruptions, labor practices, and data privacy.
• Considering how ESG aspects align with the company's long-term business strategy, purpose, and values as well as identifying opportunities to create value for stakeholders by addressing important ESG aspects in a proactive and strategic manner.

By employing these procedures, companies can effectively identify relevant ESG matters and integrate them into their business strategy and decision-making processes. This enables companies to better manage risks, seize opportunities, and create long-term value for their stakeholders.

Can you provide examples of successful ESG integration into corporate strategy, and elaborate on the benefits observed?

Patagonia, an outdoor apparel company, has integrated environmental and social considerations into its core strategy by prioritizing sustainable materials, fair labor practices, and environmental activism. By aligning its business model with ESG principles, Patagonia has built a loyal customer base and differentiated itself in the competitive retail market. The company's commitment to sustainability has driven innovation and product quality while also attracting like-minded employees and investors.

Another successful example is Tesla. The company has embedded environmental sustainability into its core strategy by prioritizing the development and production of electric vehicles to reduce carbon emissions. It also invests heavily in renewable energy solutions like solar power and energy storage. Tesla's commitment to ESG principles has enhanced its brand reputation as a leader in sustainable transportation and energy. This has attracted environmentally conscious consumers and investors, leading to strong market performance and increased valuation.

What are typical challenges businesses face when integrating ESG matters into corporate strategies, and how can these obstacles be addressed?

Integrating ESG aspects into corporate strategies can pose several challenges for companies. I will go into more detail regarding three important ones: data availability and data quality, cost and resource constraints and resistance to change. Of course, these three are not conclusive, other challenges might also occur.

Obtaining reliable and relevant data on ESG performance can be challenging, especially for companies operating in diverse geographic locations or industries with complex supply chains. Companies can address data challenges by implementing robust measurement and reporting systems for tracking ESG performance. This may involve leveraging technology solutions, engaging with third-party data providers, and collaborating with industry peers to establish common reporting standards and metrics.

Integrating ESG matters into core strategies often also requires investments in new processes, technologies, and talent, which can pose financial and resource constraints for businesses, particularly smaller organizations. Companies can address cost and resource constraints by prioritizing ESG initiatives based on materiality and potential impact, focusing on low-cost, high-impact interventions, and leveraging external partnerships and collaborations to share costs and resources.

Resistance to change from internal stakeholders, including executives, employees, and shareholders, can hinder efforts to integrate ESG aspects into core strategies. This resistance may stem from concerns about short-term financial impacts, perceived trade-offs with other business priorities, or cultural inertia. Companies can address resistance to change by fostering a culture of openness, collaboration, and continuous improvement, where diverse perspectives are valued, and constructive dialogue is encouraged. Engaging with stakeholders early and often, communicating the business case for ESG integration, and demonstrating tangible benefits can help build buy-in and support for ESG initiatives.

In my view, by addressing these challenges proactively and systematically, businesses can overcome barriers to integrating ESG matters into core strategies and unlock opportunities for long-term value creation and sustainable growth.

You can learn more about ESG integration – Moving beyond a checkmark to a core element of corporate strategy at: CONTROLLING DAYS 2024, Strategija i transformacija, 23.-24.05.2024.