ESG: Balancing Priorities at the Leadership Level

As Jon explained, ESG in its simplest form can be seen as a risk management framework to help companies and investors identify and manage risk. The concept of ESG has been around for decades. Still, it has gained increasing attention recently due to the growing understanding of the appropriate role of corporations, their management teams and their boards to oversee and manage risks posed by areas that can have long-term impacts on the value of a company, including climate change, diversity, worker safety but can also be thought of as opportunities for companies to differentiate themselves versus industry peers. There has been an increasing demand from investors for companies to be more transparent about their ESG performance and these demands are evolving from voluntary reporting regimes to regulatorily required ones.

As the investor base has changed significantly in the last 20 years, with a concentration of assets held by a few large institutional holders, it has given great attention to ESG issues. These holders are looking for long-term risk management, and appropriately managing and reporting ESG performance and progress is a way to achieve that. Jon pointed out the importance for lawyers to listen to what leaders of shareholders such as BlackRock and Vanguard are saying regarding the importance of ESG in a company, how to appropriately address competing stakeholder interests, and to help bridge the understanding of other executives in a corporation who may not fully appreciate the fiduciary duties that officers and the Board of Directors ultimately have to their shareholders. By considering these ESG factors — through good engagement with companies and by being provided meaningful disclosure — investors can better understand the long-term prospects of an organization and its ability to withstand evolving demands from stakeholders, how its operations might be affected by climate change, and how resilient the company might be to emerging business models and changes to the broader financial system.

While the ESG conversation has become politicized, which has led some to stop using the acronym, the expectation on companies to think about both short-term and long-term risk management and value creation remains.

Legal departments within companies need to understand the ESG landscape to translate it to their boards and leaders of lines of business and help them execute these principles. It is a topic that needs to involve the legal department and management, but also the operations people of a company. Jon said, “I think it’s important for the legal function to understand the lay of the land here. You have to serve as translators to your business and put this in concrete terms so the business can properly understand the importance.”

As we work in a global environment, it will be even more important for in-house lawyers to know what investors in other jurisdictions think as they vote for their shares and ask if your company aligns with global goals, such as the UN principles or comports with reporting frameworks that might be premised on different stakeholder interests, like those found in Europe under the Corporate Sustainability Reporting Directive (CSRD). Conversely, the SEC has prepared draft rules on climate change, which closely track the voluntary reporting framework under the Taskforce for Climate-Related Financial Disclosures (TCFD), which will be essential to watch. The voluntary frameworks and reporting standards, which are evolving to mandatory ones, as well as expectations from investors and other stakeholders are necessary to grasp and effectively communicate within an organization.

And it’s not just theoretical long-term risks that need to be considered — but real value to a company now. “A lot of consumers want to be sure that they are making purchases aligned to their values and that they feel like they are not personally harming the environment or contravening what they believe core to themselves,” says Jon. While we see products that promise sustainability outperforming standard products, in addition to corporate initiatives promising action on systemic planetary problems like climate change, there have been growing accusations of greenwashing, the idea that companies are overstating a product’s or a company’s green bona fides. It’s another wrinkle that the general counsel’s office must continue to watch and ensure all claims — even non-traditional ones — are appropriately substantiated.

Jon also discussed the emergent “anti-ESG” movement and the impact it is having on shareholder activism and institutional investor messaging on ESG topics. Jon pointed out through a visual representation that, while we’ve seen more anti-ESG proposals this past proxy season, these proposals have not gained significant support from major investors.

Lastly, Jon discussed that it is essential to develop a principles roadmap to help guide the company’s purpose, the critical issues it wants to stand for, and those it will want to address publicly (or not), especially when it comes to the fraught area of corporations navigating culturally sensitive issues and becoming subject to boycotts or “cancel-culture.” He advises companies to develop a principles-based approach to these issues in advance so that a company is not merely reactive to a situation, that it should stay true to its corporate purpose and should expect that, even though there are times when various stakeholders may not always agree, it’s essential to stick with principles that will support the business and its most important stakeholders.

As the world becomes more interconnected, the concept of ESG — whether or not that acronym is used to describe it — will become increasingly important for companies of all sizes.

Companies that embrace and manage ESG issues will be well-positioned for the future. ESG is a complex and evolving topic, becoming increasingly crucial for businesses and investors. By understanding the ESG landscape and their companies’ risks — and structuring and communicating that effectively internally and externally — legal departments can help reduce risk and improve near-term and long-term financial performance.

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