ESG Notion Goes Beyond Stakeholder Capitalism: Milind Kothari

Business meetings without the environmental, social and governance (ESG) aspect getting its share of attention are rare these days. The interface and/or overlap of ESG criteria across the different functions in a business is increasingly becoming more defined and goal-oriented. The realisation that robust ESG management is critical to business sustainability has settled in, and ESG is now integral to business continuity. There are no two ways around the fact that ESG information is “material” from an economic perspective. It is a profound philosophical leap.

The outright shift from shareholder capitalism to stakeholder capitalism has been the primary reason for this paradigm shift. Long-term sustainability, business benefits arising out of value creation for the larger stakeholder groups instead of just shareholders and aligning business objectives with global sustainable development themes are some of the prominent trends we see today.

The ESG concept goes beyond stakeholder centricity as well. Corporate entities—whether large or small—are substantially ready to invest in the ESG ecosystem, which essentially helps in future-proofing business. The ESG concept is clearly facilitating in building a resilient strategy for long-term business sustenance. This intrinsic motivation eventually addresses stakeholders’ needs and, more importantly, the need of a company.

The regulatory environment is also a strong facilitator, and one can see its influence in the Indian market with the Business Responsibility and Sustainability Reporting (BRSR) structure introduced by the Securities and Exchange Board of India. Considering the sustainability and climate challenges across the world, the entire focus has not only been on doing business more responsibly but also on demonstrating it through its impact.

Stakeholder demands from investors, customers, regulatory bodies and taxation regimes can be clubbed under the external
factors; while a business’s internal ESG performance parameters which have a direct bearing on business excellence and business continuity can be clubbed under the internal ones.

ESG in Business

Integrating ESG parameters into business needs systemic thinking and an approach to connect the dots across the value chain, map the causalities and identify priorities before developing a long-term strategy. In contemporary times, there is a significant interconnection between the non-financial and financial domains. The societal value an organisation creates through its operations eventually goes a long way in contributing to its financial performance.

It is worth mentioning here that recently evolved concept of double materiality recognises an organisation’s impact on ESG (that is, “inside-out”) as equally significantly as the outside ESG issues that trigger a financial impact on the organisation (that is, “outside-in”). The inside-out relates to the actual or potential, positive or negative, impact of an organisation on society or the environment, and the outside-in exemplifies how external environmental or social matters generate risks and opportunities in an organisation. A comprehensive analysis, covering both—determining ESG impacts and understanding risks and opportunities—is the key to integrating sustainability
into business.

The realisation is sinking in deeper that the agenda has moved from the table of some lone sustainability crusader in an organisation to the boardroom. It is no more a chief sustainability officer’s job alone; the C-suite across functions needs to remain orchestrated towards facilitating this agenda. ESG performance parameters need to be built into the balance scorecard across functions with due weightage based on a thorough materiality assessment.

The supplementary reporting protocols under the International Integrated Reporting Council for integrated reporting and the Task Force on Climate-Related Financial Disclosures for climate-related financial disclosure reinforce the integrated thinking to present the ESG logic as an integral part of the business life cycle.

Ticking the Investor Assessment on Sustainable Health

While the balance sheet continues to remain important, the ESG philosophy goes a step ahead, providing businesses with the critical success factor by creating a differentiator, which is crucial in today’s resource-constrained, sustainability-challenged world.

With awareness spreading rapidly on the significance of ESG management in sustainable business performance, the providers of capital are more focused on the overall sustainable health of a business rather than remaining restricted to the balance sheet alone. We cannot deny that the business of business is business. Hence financial investors who play a pivotal role in the success of businesses do play an equally important role in catalysing sustainable development for businesses.

A Future Where ESG is Built into Business Strategy

One gap that can be seen today is the need for an ecosystem approach, where the government plays a role in creating an ecosystem that encourages action by industry. Today, even if an organisation wants to take sustainable action, for example, waste disposal through recycling, there is a lack of enough facilities for waste processing. An ecosystem that would facilitate and motivate could only be enabled by innovative financing models.

Another gap is the need to look beyond the balance sheet, encompassing all aspects of human development, especially value creation for society and the environment. There are tools to evaluate the true cost of environmental degradation, or the true cost of valuable resources such as clean water and air, which are well-accepted ways to measure the financial implications of sustainability considerations.

This brings about the ultimate focal point—ESG-driven business strategy—and not the other way round. Businesses should not define sustainability outcomes. Rather, the desire to retain a habitable world for the future generations should define the purpose of business.

Milind Kothari is the managing partner of BDO India