By: Luke Spargo
Environmental, Social, Governance (ESG) criteria have recently received a significant amount of publicity, but what are they? As investors become more socially conscious, they have turned to ESG criteria to evaluate companies in three key areas and determine if they would like to invest in them. The environmental criteria include the energy that companies use, the amount of waste discharged, and the overall impact the organization’s activities have on the environment and climate. Social criteria address the relationships within the organization, including diversity and inclusion and labor and talent management practices. Social criteria also consider the relationships an organization fosters within the greater communities it operates. Governance covers the system of practices and controls within an organization, including the effectiveness of management decisions, transparency of financial reporting and decision-making, and external stakeholder satisfaction.
Becoming a Priority
Once looked at as a niche framework for evaluating organizations, ESG has become an increasingly important consideration for companies across every industry. Although it may seem difficult to justify additional costs involved with implementing a full ESG strategy, studies on the impact of such strategies have demonstrated positive impacts on not only equity returns, but in all areas of a business. Some of these benefits include enhanced top-line growth, minimized regulatory interventions, optimized CapEx, increased employee satisfaction and brand value, along with decreased operating costs.
A study conducted in 2012 by McKinsey demonstrated that customers are regularly willing to pay an additional 5% premium across multiple industries for a more sustainable product. This premium, for some organizations, maybe enough to offset the additional costs of an ESG strategy completely. Consumers also showed preference towards sustainable consumer goods, with dollar sales growth of sustainable items in three categories (Chocolate, Coffee, and Bath Products) outpacing overall category growth by at least double. (Nielsen, 2018)
A Strategic Advantage
Companies can achieve a strategic advantage as climate change legislation is reintroduced throughout 2021, addressing political and social concerns. Implementing regulatory awareness now can help navigate the environment and allow further investment towards green practices. As energy and climate regulations shift, you want to ensure your firm is equipped for the transition. The combination of ESGs cost-cutting and value-creating aspects make it an excellent investment to support long-term strategies.
While it may seem like an ESG strategy comes with high associated implementation costs, many ESG initiatives offer permanent operating expense savings, especially in the environmental realm. One of the main ways organizations can lower costs through ESG is by reducing energy usage and related utility costs. Organizations can choose to take on projects designed to increase the efficiency of their existing facilities, such as LED lighting, HVAC and machinery upgrades, smart thermostats, and more. In addition, these projects can typically be funded off-balance sheet with no upfront costs and are cash flow positive from day one.
Does Your Organization Have an ESG Strategy?
Environmental, Social, and Governmental metrics are quickly becoming a distinguishable factor for companies. Being aware of these ESG metrics can help leaders navigate the space and ensure that their company values align with stakeholders. Value creation and ESG standards are essential to keep in mind when strategizing your company for the future.
Want to learn more about ESG?
Looking to build an ESG strategy for your organization? Contact the EEP team today.
Luke Spargo is a spring intern at Evolution Energy Partners. Luke is a junior at the University of Oklahoma double majoring in Finance and Accounting.
References:
https://www.morganstanley.com/im/publication/insights/investment-insights/ii_esgandthesustainabilityofcompetitiveadvantage_us.pdf
https://assets.kpmg/content/dam/kpmg/cn/pdf/en/2018/09/esg-a-view-from-the-top.pdf
https://www.jdsupra.com/legalnews/house-democrats-re-introduce-5515421/
https://www.forbes.com/sites/energyinnovation/2020/01/21/renewable-energy-prices-hit-record-lows-how-can-utilities-benefit-from-unstoppable-solar-and-wind/?sh=40ef788a2c84
https://www.mckinsey.com/~/media/McKinsey/Business%20Functions/Strategy%20and%20Corporate%20Finance/Our%20Insights/Five%20ways%20that%20ESG%20creates%20value/Five-ways-that-ESG-creates-value.pdf