Anatomy of a Sustainable Corporation

Sustainability: A recurring process to make the corporate resilient

Is the company adopting business models that create and deliver products and solutions that align with sustainable development goals? If yes, such offerings invariably increase the organization’s resilience, agility, and purposefulness. They inspire cultivation of operational advantages that makes the company stand out from its competitors. A prominent example can be organizations pivoting to products and services that adopt environmentally benign packaging, vegan raw materials, and ethical supply chains that attract more eyeballs and recall values than their marketplace rivals. A transparent and fair certification process, powered by digital traceability, can ensure increased customer trust resulting in improved earnings. There is empirical and anecdotal evidence that suggests that corporates with good sustainability practices typically enjoy a premium in the stock through better revenue growth, operating margin, and higher investment efficiency. There is uniformity among researchers that better ESG practices lead to better risk management  and a lower cost of equity and debt. Investors are also continuously looking for corporates who follow best practices, in letter and spirit. Although ESG ratings, given by several agencies, are a useful barometer (albeit there is divergence in ESG rating) to assess the sustainability of a corporate, it is important for investors to do a first-hand assessment of corporates.  

Do corporate commitments to long-term goals pays-off?

It is well-understood that the  good business practices of a successful business cannot always remain cast in stone in the face of a global marketplace full of uncertainty. However, it is important to think long-term and stay committed to the organization’s core values and vision. While doing this, it is important to get buy-ins from internal and external stakeholders. Short-termism can be a major reason for lower investment rates among publicly traded firms and decreased returns over a multi-year time horizon. Corporate history is witness to many examples where companies trade off long-term value creation for seemingly lucrative short-term pitfalls masquerading as opportunities. Rewarding short-term decision-making without assessing its implications for long-term value creation can expose the company to systemic risks. Companies that survive only by juggling short-term goals tend to become myopic. Their success metrics can get skewed. It may result in a lower return on assets and erosion of brand value resulting in an inability to create sustainable cash flows.

How does a corporation engage with stakeholders?

Environmental sustainability is often considered a public externality best managed by governments. It is a misconception that placing environmental sustainability as a core value in businesses partially compromises their ability to provide yields above what is considered competitive. On the contrary, it positions the companies for better long-term risk-adjusted returns. Being mindful of the interests of a wider group of stakeholders beyond inves­tors invariably earns the company a moral license to chart its growth trajectories while compounding its reputation. This entails engaging with leaders from competitive businesses, civil society, governments, academia, start-ups, etc., to catalyse the evolution of improved ways of conducting business.

How are corporations engaging with their suppliers and customers?

Though an organization has little control over the emission of its suppliers and customers, it may be in a position to influence relevant activities in the value chain to reduce its carbon footprint. They cannot ignore the carbon footprint of their suppliers and customers. Civil society is increasingly demanding to report the scope 3 emissions [1] of corporates. It is expected that shareholders and regulators may follow suit. Reducing the carbon print of value chain partners will prepare the corporation for situations when the same suppliers and customers face climate transition pressures from regulators and civil societies. In such cases, suppliers may experience higher costs to continue operating their businesses. They may pass on such costs to the corporation, which in turn will see a dip in their margins. The shutdown of businesses of major suppliers may create a serious problem for the corporate. Customers may also switch suppliers who can offer products and solutions to reduce carbon problems. Similarly, if a major customer’s business is stranded due to climate risk, it will be a serious risk for the corporation. A truly sustainable corporation must work with its partners and find ways to reduce its value chain’s carbon footprint.

How do they report and disclose?

Companies embracing reporting standards that integrate financial, environmental, and social measures seem to be better prepared for the future. Considering the urgent need for coherence in climate action, it is also advocated that a framework of disincentives be introduced for non-compliance. Such deterrents should be material, significant, and comparable across sectors and geographies. This can enable the markets to interpret and compare different organizations’ performances. Major contributions are being made by Global Reporting Initiative (GRI), Task Force on Climate-related Financial Disclosures (TFCD), and the World Benchmarking Alliance in this regard. These bodies are assisting companies in reaching a more accurate view of the risks and opportunities of climate change, thereby making it easier for investors to direct capital to more sustainable businesses. Better disclosure builds trust among investors, reduces asymmetric information risk, and sends a positive signal about the company’s commitment to sustainability.

Are corporations collaborating with peers and with governments to create positive value?

Public-private partnerships have a huge opportunity to unleash greater corporate action that supports sustainable development goals, including mitigating climate challenges. This is very important for large corporates whose prospects depend on the macro-economic growth and stability of the country where it operates. Greater collaboration with Government can bring policies and regulations that better serve the national goals and make it inclusive and resilient. For example, corporates must support the Government’s climate actions that can make the economy and financial system resilient against this imminent risk. A better economy and robust financial system will only help the corporates to stay healthy while they rapidly expand their operations in the future.

[1] Scope 3 emissions are the result of activities from assets not owned or controlled by the reporting organization

Disclaimer: “Any views or opinions represented in this blog are personal and belong solely to the author and do not represent views of CFA Society India or those of people, institutions or organizations that the owner may or may not be associated with in professional or personal capacity, unless explicitly stated.”