Changing Expectations for Board Oversight of Sustainability

A discussion paper on board adoption and oversight of corporate sustainability prepared by The Global Compact LEAD included the following observation[1]:

“Sustainability is increasingly recognized as a strategic imperative for businesses globally. Far more than when the Global Compact was launched in 1999, companies recognize that their sustainability performance affects their strategy, financial performance, resilience, access to essential resources, reputation, and license to operate. Peter Senge, noted strategy theorist and faculty member at the Sloan School of Business at MIT wrote in 2009 that “people are starting to suspect that these are really strategic issues that will shape the future of our businesses.” And as sustainability is being recognized more and more as a strategic business question, Boards are increasingly considering sustainability as part of their core responsibility of guiding and overseeing corporate activities.”

The paper also noted that: “more and more investors are looking for corporate boards to steward corporate sustainability in order to both adequately manage risks and maximize business opportunities related to sustainability. Indeed, engagement activities are on the rise in many quarters, and like‐minded investors are increasingly pooling resources to create a stronger and more representative shareholder voice and to ensure that company engagement becomes more effective.[2]

Calvert Asset Management, in its 2010 survey of board oversight of environmental and social issues in North America, explained the rationale for the board’s role as follows:

“The question of whether boards of directors should have responsibility for corporate sustainability matters is sometimes debated.  Some critics of the idea argue that social and environmental issues are by their nature managerial and operational issues which makes them inefficient for the board to address. However, many investors have come to believe that these issues have implication for capital investments, corporate strategy, brand and reputation. From this perspective, boards of directors are the appropriate bodies to provide long-term perspective and guidance on these matters, and the absence of board responsibility can raise questions about whether a company is managing these factors appropriately. Conversely, board-level oversight of corporate responsibility can set a meaningful “tone at the top” and provide investors and other stakeholders with a deeper understanding of how the company assesses its challenges and prioritizes issues relevant to its success.”[3]

A March 2014 study of board oversight of sustainability issues among S&P 500 companies commissioned by the IRRC Institute and authored by the Sustainable Investments Institute found that just a little over half of the companies had implemented board oversight of sustainability issues.[4]  The sustainability executives surveyed in a report released by The Conference Board in June 2016 found that 55% of the respondents said that their boards of their companies met only once a year or never on sustainability issues and 69% of the respondents said that their boards spend four hours or less per year on sustainability issues.[5] Identifying, acknowledging and addressing corporate sustainability issues create new and significant challenges for directors and the management team that range from setting high-level goals and adopting strategies to achieve those goals to extensive changes in day-to-day operational activities.  Directors must not only ensure that their companies are conducting full assessments of the entire lifecycle of their products and services but must also provide the resources and incentives to collect, analyze and report information relating to the progress of the company’s corporate sustainability initiatives.  Institutional investors and other stakeholders will not be satisfied with vague promises and aspirational principles from their companies, nor will companies be able to simply continue to adopt a reactive approach to ESG-related concerns (i.e., waiting until a shareholder proposal on an ESG-topic is imminent before engaging with the shareholder to resolve the concern).  In fact, directors should expect that stakeholders demand that companies demonstrate a proactive approach to developing and implementing sustainability strategies, allocating capital to sustainability-related initiatives and managing the risks associated with failure to respond to ESG issues.

Harper Ho suggested that investor activism around ESG issues and investors’ growing demand growing demand for investment-grade ESG information has important implication for how directors should approach corporate governance, investor engagement, compliance and disclosure practices.[6]  First of all, the broadened scope of risks that directors must consider in light of ESG activism means that boards must have new capacities to support oversight of ESG risk.  Second, investors want their companies to integrate ESG performance metrics and long-term benchmarks into executive compensation.  Third, directors should ensure that investor engagement encourages dialogue and learning and confirm that senior management and investor relations personnel are aware of the increasing overlap between corporate governance and environmental and social concerns.  Finally, directors need to improve the quality and formatting of their sustainability-related reporting and ensure that ESG materiality is being considered as part of their company’s financial reporting process.  According to Harper Ho, companies that can improve their practices in these areas are likely to see improved financial and operational performance, improved focus on long-term risk and return, better access to “patient capital” (i.e., investors that are less fixated on quarterly earnings and more supportive of R&D and other investments in the company’s future) and be able to identify and exploit new sources of value for the company and keep ahead of emerging risks and opportunities.[7]

CSR and corporate sustainability are broad and challenging topics and the directors must carefully consider how the board’s duties and responsibilities will be discharged and allocated among board members.  One well-known corporate governance advisor has counseled that directors should begin the process of developing an oversight framework for CSR and corporate sustainability by asking and answering the following questions[8]:

• How should concerns regarding CSR and corporate sustainability be integrated into the board’s discussions on strategy and risk oversight? Strategy and risk oversight are two topics that all board members should be working on and actively discussing during each board meeting and investors are looking to see whether CSR and corporate sustainability have been formalized as priorities in the board’s governance guidelines and overall goals.
• To what extent should CSR and corporate sustainability topics be included as standalone agenda items for board meetings?
• What information should be provided to directors (e.g., data on how the company’s efforts compare to those of its peer companies, leading industry standards, and the CSR-related priorities of key shareholders and proxy advisory firms)?
• Which metrics should the board and members of the executive team focus on in considering progress against CSR and corporate sustainability goals (e.g., goals involving reduction of water usage and emissions, reducing on-the-job injuries and employee turnover, or improving workforce diversity and employee retention)?
• What process should be used for drafting and reviewing public disclosures about the company’s CSR and corporate sustainability efforts?

In addition, the board should also consider how the company’s current efforts and activities with respect to CSR and corporate sustainability compare to its peers, how investors and other stakeholders perceive the company’s engagement with and disclosure of CSR and corporate sustainability and whether or not the company has been effectively communicating its CSR and corporate sustainability strategies, goals and actions to investors and other stakeholders.[9]

Recognition of the importance of stakeholders in corporate governance calls on directors and managers of corporations to develop new skills in order to integrate the values and expectations of external and internal stakeholders into the overall strategic management process.  Digman et al. pointed that strategic management is “inseparable from the strategic management of relationships” and Masuku advised: “A strategy should be in place for each stakeholder group their key issues and willingness to expend resources helping or hurting the organization on those issues must be understood.  For each major stakeholder, managers responsible for that stakeholder relationship must identify the strategic issues that affect the stakeholder and must understand how to formulate, implement and monitor strategies for dealing with that group.”[10]

In addition to the steps needed to integrate CSR and corporate sustainability at the board level, including allocating various responsibilities and activities among board committees, the directors need to ensure that the company has an effective internal organizational structure.  Many companies are creating an additional position among the members of the senior executive team that is specifically focused on corporate sustainability.  Appointing these “chief sustainability officers” demonstrates a high level of commitment to the area by the directors and also helps everyone inside and outside the company to identify the person who will likely be the company’s spokesperson on corporate sustainability issues and responsible for managing the resources provided by the board to implement sustainability strategies and satisfy the company’s disclosure obligations.  The chief sustainability officer must be prepared to support the board as it considers CSR and corporate sustainability issues, engage with the company’s stakeholders and, not unimportantly, effectively coordinate the efforts of all of the various departments within the company that should be involved in sustainability initiatives (e.g., investor relations, legal, operating heads and risk management).[11]

This article is part of the Sustainable Entrepreneurship Project’s extensive materials on Sustainability and Corporate Governance. and an excerpt from Sustainability and Corporate Governance by Alan S. Gutterman, which is available for purchase at various online booksellers.  Readers may also enjoy the author’s book on Board Oversight of Sustainability: A Practical Guide for Directors and Their Advisors.

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[1] The Global Compact LEAD, Discussion Paper: Board Adoption and Oversight of Corporate Sustainability.

[2] Id.  For further discussion of board oversight of sustainability, see “Board Oversight of Sustainability” in “Governance: A Library of Resources for Sustainable Entrepreneurs” prepared and distributed by the Sustainable Entrepreneurship Project (www.seproject.org).

[3] Board Oversight of Environmental and Social Issues: An Analysis of Current North American Practice (Calvert Asset Capital Management Inc. and The Corporate Library, 2010), 8.

[4] P. DeSimone, Board Oversight of Sustainability Issues: A Study of the S&P 500 (IRRC Institute, March 2014).

[5] The Seven Pillars of Sustainability Leadership: CEO Business Implications (The Conference Board, June 2016), 4 (as cited and discussed in V. Harper Ho, Director Notes: Sustainability in the Mainstream–Why Investors Care and What It Means for Corporate Boards (The Conference Board, November 2017), 15, electronic copy available at: https://ssrn.com/abstract=3080033).

[6] V. Harper Ho, Director Notes: Sustainability in the Mainstream–Why Investors Care and What It Means for Corporate Boards (The Conference Board, November 2017), 13-14, electronic copy available at: https://ssrn.com/abstract=3080033 (based on information available at UNPRI, Signatories, https://www.unpri.org/signatory-directory/).

[7] Id. at 15.

[8] H. Gregory, “Corporate Social Responsibility, Corporate Sustainability and the Role of the Board”, Practical Law Company (July 1, 2017), 3.

[9] D. Kuprionis and P. Styles, “Translating Sustainability into a Language Your Board Understands”, The Corporate Governance Advisor, 25(5) (September/October 2017), 13, 15.

[10] C. Masuku, Corporate Social Responsibility Literature Review and Theoretical Framework, available at https://www.academia.edu/2172462/CORPORATE_SOCIAL_RESPONSIBILITY_LITERATURE_REVIEW_AND_THEORETICAL_FRAMEWORK (citing L. Digman, Strategic management: concepts, decisions, cases (Homewood IL: BPI/Irwin, 1990).

[11] D. Kuprionis and P. Styles, “Translating Sustainability into a Language Your Board Understands”, The Corporate Governance Advisor, 25(5) (September/October 2017), 13, 16.