The ‘S’ in ESG gains currency
Mon, 02/08/2021 – 01:00
This article originally appeared in the State of Green Business 2021. You can download the entire report here.
We have seen a rising emphasis on ESG issues in recent years, as customers, investors and other stakeholders look for more transparency on corporate strategies and their impact on society. Companies are making progress in disclosing their environmental impact and governance standards, but social factors have not been given the same attention — until now.
Social factors include how a company manages relationships with its workforce, the communities in which it operates and the geopolitical environment. The COVID-19 pandemic has pushed “S” into the spotlight by highlighting a range of problematic societal issues as millions of people around the world found themselves suddenly out of work with little protection.
There are a lot of nuances with data on social issues, such as gender equality, human rights and labor standards. According to the United Nations Principles for Responsible Investment, “The social element of ESG issues can be the most difficult for investors to assess. Unlike environmental and governance issues, which are more easily defined, have an established track record of market data, and are often accompanied by robust regulation, social issues are less tangible, with less mature data to show how they can impact a company’s performance.”
Social sustainability factors are material issues for many industries, however, and their management is directly linked to a company’s reputation and brand equity. Companies are showing a growing awareness that good social performance can translate into improved business performance and better relationships with customers and local communities. The S in ESG is definitely gaining currency.
Two important areas are gender equality and human rights. Gender diversity enhances corporate governance, talent attraction and human capital development — all important factors driving long-term competitiveness. Corporate policies promoting gender diversity are a reflection of a well-managed company that realizes diversity’s value in stimulating creativity and increasing productivity, in tandem with employee well-being.
While progress is being made on diversity, we are not seeing enough equality in the ranks. According to the International Monetary Fund, women earn 63 percent less than men, and the resulting loss of economic output is staggering. It ranges from 10 percent of GDP in advanced economies to more than 30 percent in South Asia and the Middle East and North Africa.
The latest data from S&P Global’s Corporate Sustainability Assessment (CSA) underscores the fact that gender pay gaps are more pronounced in some regions and in some industries, and at different levels of hierarchy within organizations.
Companies are showing a growing awareness that good social performance can translate into improved business performance and better relationships with customers and local communities.
The CSA is an annual evaluation of companies’ sustainability practices, focusing on criteria that are both industry-specific and financially material. For the CSA, gender equality means not only equal pay for equal work and equal gender ratios, but also equal access and equal treatment for career-advancing opportunities and corporate support systems. This includes flexible work arrangements and parental leave policies that go beyond legal minimum requirements. Companies are asked a number of questions about their gender equality policies and practices in the annual survey. Findings suggest that companies with a more diverse and equal workforce are indeed better positioned to outperform.
Additional research by S&P Global Market Intelligence pointed to evidence of the outperformance of female executives relative to their male peers. Results showed that female CEOs drove more value appreciation (defined as a decrease in the book-to-market multiple relative to the sector average) and improved stock price momentum for their firms. In addition, female CFOs drove more value appreciation, defended profitability moats better and delivered excess risk-adjusted returns for their firms.
Clearly, an increased focus on both diversity and equality will be needed going forward. The social factor in ESG is also heavily populated with human rights-related elements. Drivers include internationally recognized standards, such as the U.N.’s Guiding Principles on Business and Human Rights (UNGPs), as well as the growing interest of asset owners and managers in the U.N.’s Sustainable Development Goals. As part of their responsibility to implement the UNGPs, companies must have systems and practices in place enabling them to know and show that they respect human rights.
Crucially, this includes an ongoing risk-management process to identify, prevent, mitigate and account for how a company addresses any adverse human rights impacts. This human rights due diligence HRDD) includes four key steps: assessing actual and potential human rights impacts; integrating and acting on the findings; tracking responses; and communicating about how impacts are addressed. The CSA extended the human rights criterion by adding a section on HRDD. Since then, results have shown a growing interest by participants in tackling human rights issues, reflected in improved average scores for this criterion across all industries and regions. Based on CSA results over the past several years, companies are expected to continue to report more extensively on their human rights due diligence going forward. Greater transparency in this regard will provide important information for their corporate decision-making.
The coronavirus pandemic has caused stakeholders around the world to take a closer look at how businesses handle human capital and related issues. There likely will be growing pressure on companies to consider social factors in their longer-term plans and goals for senior management and to disclose how they are performing year over year. As interest in ESG funds continues to grow, companies will need to be firing on all three cylinders to attract capital: E, G plus S.