Rachel.Welch-Phillips@dentons.com
Environmental, Social and Governance frameworks (ESG) are being rapidly deployed by businesses across the globe to mitigate risk and optimise opportunity. An ESG framework asks a business to apply a sustainability lens to their operations and consider the adverse impacts on people and the planet arising from their revenue generation.
A company wishing to integrate ESG into its operations needs to start by issue spotting ESG issues material to its business.
Issue spotting:
One size does not fit all
Not all ESG issues matter equally to all. Research on the relationship between a company’s ESG issues and its financial performance has revealed that material ESG issues are not universal.
In the airline industry, fuel efficiency has a critical impact on the bottom line but has no material impact on an organisation providing consulting services.
The opportunity for a business to improve its financial performance by deploying an ESG framework is premised on that framework being built with a focus on the material ESG issues to that organisation.
Conversely, research has shown that a company’s financial performance is negatively affected when its ESG strategy is centred on immaterial ESG issues.
One size does not fit all and the way to tailor your ESG strategy is by conducting a materiality assessment.
ESG materiality assessment—what it is and why we double it
A materiality assessment is a process whereby an organisation determines the ESG issues most relevant to the company and its stakeholders.
Most businesses are familiar with financial materiality assessments—this is where an organisation identifies the concerns and activities that affect its financial growth and profitability providing direction for building on those that grow the bottom line (and avoiding those that adversely affect it).
ESG materiality assessments go one step further as they are premised on “double materiality” which examines both how a company’s activities affect people and the planet, as well as how people and the planet affect the company’s prosperity and viability.
The two questions asked under a double materiality assessment are:
How significantly does this ESG issue affect the company’s ability to perform?
How significantly do the company’s operations affect people and the planet?
(See illustration at top of page)
The good news is that companies do not need to reinvent the wheel in this space.
A variety of frameworks and standards are readily available from organisations such as the Sustainability Accounting Standards Board (SASB) and the Global Reporting Initiative (GRI) that each deploy unique approaches to materiality assessments in ESG.
A company can choose the framework that best suits its needs. The GRI for example has introduced Sector Standards that provide a list of the material topics to consider from a sustainable development perspective on a sector-by-sector basis.
Of local interest would be the sector standards for oil and gas, as well as agriculture, aquaculture and fishing.
When identifying the material issues, a company should engage with its key stakeholders, both internal and external, to capture a comprehensive perspective on what is deemed material.
Engaging key stakeholders
Stakeholders are not just your shareholders. Any party with an interest in, or who is directly impacted by, your business and its operations is a relevant stakeholder for the purpose of your ESG strategy. These include employees, suppliers and third party partners, members of the community, investors, regulators and customers.
The perspectives of your stakeholders are what determine the materiality of an ESG issue to your business. Engagement with stakeholders can take place using a variety of methods—formal surveys and research can be conducted or informal consultations and conversations can take place.
Whatever method is deployed, the objective must be to obtain reliable feedback on themes arising within your organisation that are most likely to have an impact on people and the planet and on the company’s performance. Again, there are resources available to assist this process such as the SASB Materiality Map.
The benefits of ESG
materiality assessments
An ESG materiality assessment provides a company the opportunity to assess real risks and opportunities that arise from non-financial considerations and improve their business strategy as a result.
Knowing how your business adds or detracts value from society and the environment can inform risk assessment and risk allocation decisions to optimise the business’ performance and viability.
This process can also identify opportunities for the development of new products and services for a company to obtain competitive advantage in the market and pre-empt industry and community needs. Stakeholder engagement also allows a company to keep its finger on the pulse of what matters to those most invested in and impacted by its operations.
Where is the demand
coming from?
The hard science of climate change, the natural disasters we increasingly experience, the interconnectedness of the world through the internet and the transfer of wealth from baby boomers to a new generation of investors are all factors driving the demand for material ESG issues to be assessed for impact and disclosed.
Stakeholder expectations are changing and there is danger in sticking to the traditional single bottom line of profit.
Companies should consider developing an ESG strategy to embrace the quadruple bottom line of sustainability in their operations: people, planet, profit and purpose.
Rachel Welch-Phillips is an attorney and a partner in the corporate commercial team at Dentons Delany, a pan-Caribbean law firm. Rachel is the head of ESG and Sustainable Finance covering the 14 English-speaking Caribbean islands in Dentons Delany’s footprint.