What it takes to create shareholder value and employee engagement
This is the first in a series of blogs that explores the value of meaningful purpose, strategic sustainability and material Environment, Social and Governance (ESG) management.
Over the past 25 years I have witnessed companies embrace purpose, sustainability and ESG to create value for shareholders and employees.
However, it takes more than a cursory effort for a company to outperform. Purpose must be meaningful to gain employee buy-in. Sustainability must be strategic and ESG material.
Recent research confirms companies with these qualities tend to outperform industry peers.
A company’s purpose must become its animating force. Purpose needs to drives action and unlocks potential. A marketing slogan or tagline doesn’t cut it. Purpose speaks to the heart of how a company serves society. It must ring true with employees.
For example, Virgin Management Limited’s purpose is “Changing business for good.” Over 90% of all employees agree that the company is aligned with its purpose, and as a result the company enjoys very high employee engagement.
Sustainability needs to be strategic. Companies that prioritize action based on robust materiality analysis focus on what’s important – not just on what’s easy.
For example, a clothing company may decide to change its fleet to electric cars. However, it’s not a strategic move if there are only a few cars in the fleet. It doesn’t impact business operations. Worst, it could misdirect overall sustainability efforts and squander executive goodwill.
A more strategic and impactful approach would be to increase the sustainability of its supply chain. The global clothing supply chain involves millions of people as well as tons of water, chemicals, crops, and oil. It’s a top priority action area of the apparel industry.
In a seminal paper, Professor George Serafeim explored the financial performance of companies with good ratings on industry‐strategic sustainability issues. He found that they deliver significant financial outperformance over firms with poor ratings on the same issues.
The research also found that firms with good ratings on immaterial sustainability issues do not outperform firms with poor ratings on the same issues.
ESG needs to be material. ESG is shorthand for a company’s performance on sustainability (environment and society) and governance issues. Thus, similarly to sustainability, a strong performance on material ESG creates value for shareholders.
The difference between material and immaterial ESG was recently examined for the banking sector. A study released in December 2019 by the Global Alliance of Banking on Values found that banks that consistently scored high on material ESG issues delivered higher risk‐adjusted returns compared to banks that performed poorly on the same issues.
The study also shows that performing well on immaterial ESG issues neither harms nor helps performance. These results suggest that a focus on material sustainability and ESG issues is likely to coincide with enhanced financial returns. The findings are important for banks to set operational priorities.
Where would you rather invest your money?
What’s material? The concept of materiality frames which are the relevant and strategic ESG issues for a given industry.
For example, water is material for extractives, apparel and hospitality. Water is not material for financial services. A robust materiality analysis will determine which issues are important to address and why.
In subsequent blogs, we’ll further explore meaningful purpose, strategic sustainability and material ESG, including insights into materiality analysis and other tools.