Topics: Corporate Governance,Strategy
Topics: Corporate Governance,Strategy
February 18, 2022
February 18, 2022
The novelty of the new year is waning, and many resolutions are already losing steam—or have been abandoned altogether. What have we learnt? That anything worth doing is going to take more than changes in the margins. Resolutions, especially the big ones, tend to fizzle without serious lifestyle changes.
A version of this is playing out right now with climate change commitments in the capital markets. As it stands, approximately 60 percent of Fortune 500 companies have declared their climate resolutions in the form of greenhouse emissions reductions goals. Of these, 17 percent have set “net-zero” carbon emissions goals. But market and investor reactions to these ambitions have been muted. The Edelman Trust Barometer 2021 reveals that 72 percent of investors do not believe companies will live up to their environmental, social, and governance (ESG) commitments. Seventy-nine percent of global investors (and a staggering 92 percent of US investors) are concerned that companies will be unable to meet their net-zero goals.
Why the mistrust? Perhaps the answer lies in the chasm between what corporate climate resolutions are and the actions they have been taking in their business. Recent research has highlighted a vast gap between corporate climate commitments and strategic plan disclosures. While 81 of the world’s 100 largest companies had set climate targets as of September 2021, only 17 had referenced climate change in investor presentations on the organizations’ strategic plans and only five had provided substantive details. In other words, their “lifestyle” hasn’t really changed.
Directors should heed the mistrust. As we saw during last year’s proxy season, investors are more than willing to hold corporate directors accountable for their companies’ climate strategies and change guard when they disagree with the path forward. And we’ve already seen announcements foreshadowing how this mistrust could play out in the 2022 proxy season. Aviva Investors recently released its plan to vote against corporate directors of companies falling short of their climate change objectives. State Street Global Advisors also announced its intention to hold boards and CEOs of high-emitting portfolio companies accountable for sub-standard climate transition plans.
Boards should see the current climate around climate change as an opportunity to communicate with management not only about climate change goals but also about how their businesses need to change to achieve them. This understanding of how businesses need to evolve in light of climate change should be reflected in long term strategic plans.
Looking ahead, directors can do the following to help management evolve their strategic plans and meet their climate resolutions:
Query the impact on your business model. While climate change poses great risks to businesses, the opportunities presented are equally compelling, and the climate transition is considered by many to be the greatest investment opportunity of our lifetimes. In his 2022 letter to CEOs, BlackRock CEO Larry Fink called on chief executives to consider how their enterprises could be disrupters rather than victims, asking, “As your industry gets transformed by the energy transition, will you go the way of the dodo, or will you be a phoenix?”
Understand the impacts on the external environment. Climate change not only impacts companies directly but also their operating environment. It affects regulation, supply chains, consumer preferences, and even access to capital. Directors and management can work together to factor each of these external impacts into their company’s long-term strategy refresh.
Evaluate impacts on goals and key performance indicators (KPIs). Are outdated corporate goals being grandfathered in, or worse, distracting leadership from new goals that would redirect the company to thrive in a net-zero world? Reducing greenhouse gas emissions is only part of the battle, not a complete climate strategy in and of itself. Business goals and KPIs should reflect how the company plans to generate value in a transformed business landscape.
Develop climate-conscious capital allocation strategies. Investors are starting to use corporate capital allocation as a yardstick to identify companies whose climate rhetoric matches their actions. The board should call on management to update capital allocation plans if climate change mitigation and adaptation investments, research and development, and capacity building aren’t getting a big enough slice of the pie.
Assess risk processes. Given our evolving understanding of climate science and shifting environmental vulnerabilities, audit committees should assess and develop risk management protocols designed to keep the company afloat. Responsiveness to new data, regulation, and stakeholder needs will be critical to corporate resilience.
Establish accountability systems for climate strategy implementation. Investors are looking for boards to hold management accountable for corporate climate resilience performance. Building on the recommendations above, directors should consider incentivizing management not for climate performance exclusively, but rather for the success of a broader climate-conscious business strategy.
While corporations continue to boldly make climate change commitments, considering the above steps now will enable directors to help management go beyond the marginal changes and implement the ”lifestyle” changes needed for the company to stick to its climate resolutions. It won’t be easy, but it will be necessary to generate value and stay resilient in a carbon-constrained future.
Veena Ramani is a research director at FCLTGlobal. She is an expert in climate change, corporate governance, and ESG disclosure.
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