Business, Purpose and Profit

How to Organize an ESG System

By Dr. Axel Kravatzky a recognized figure at the highest international level in the Governance of Organizations.
By Dr. Axel Kravatzky

Disclaimer: the views presented are those of the author and do not necessarily represent those of any of the organizations he is associated with. Comments and feedback that further the regional dialogue are welcome at axel.kravatzky@syntegra-esg.com

As an increasing number of firms in the Caribbean are starting their journeys to profit with purpose, what can they do to enter the fast lane, build on the experience of others, and maximize success and contribution to a sustainable future? How to ensure that Environmental, Social and Governance (ESG) bases are covered and integrated?

Investors, customers, regulators, stakeholders and companies have come to realize that the business-as-usual approach – only shareholders and profit matter  – is no longer acceptable. The damage caused by that approach in terms of environmental degradation and social stress has taken our planet to brink of disaster.

Today, all companies are expected to be organizations with innovative and sustainable approaches to solve problems of people and planet while not profiting from creating harm.

To paraphrase Larry Fink, Chairman and CEO of Blackrock, the largest investment firm, at the beginning of 2022, the only question is if your company is a leader or a laggard.

One of the keys to leadership is an effective organization, with clear, agile, and integrated structures and processes.

The role of the board

The most fundamental task of boards is to define, articulate and interpret the purpose of the company. What is the ultimate value that the firm is creating? What is the firm’s strategic contribution to sustainable future? Which problems of people or planet is the firm going to solve profitably? What are the firm’s values and beliefs?

The board then needs to define the value generation model for the firm. What are the different types of value that the firm is generating? What are the parameters within which the value is to be generated? How does it oversee the value generation and how is it  to be sustained? What are the strategic goals to be achieved? The value dimensions, parameters and goals are expected to produce an adequate return on financial capital, as well as on natural, human, and social capital.

Today we know that many of these capitals have threshold values that determine sustainability. Just because there is a reduction in greenhouse gases does not mean it is enough. Good is only achieved if each firm contributes its scientifically determined part in the collective challenge of limiting climate warming to 1.5 Celsius above the pre-industrial average in this decade.

Boards, therefore, need to determine what constitutes value and the parameters, including risk appetite, given the context of specific interdependencies. They must engage with strategy, and they need to exercise oversight, which includes course corrections. They need to account for the reasonableness of their actions and result.

That is very challenging work. Boards must therefore refresh their composition and add competencies to deal with these matters. Boards often delegate the responsibility for preparing detailed advice and oversight to board committees, such as the audit and/or the nominations & governance committees. The key now is to generate and maintain an integrated governance and decision-focused view, an approach by the board as a whole.

The role of top management in ESG

Management develops the strategic plan and leads the actions through which value is generated so as to fulfil the organization’s purpose. Management develops the organizational structures, processes, culture and capabilities for execution and continuous improvement.

An integrated management team guides the approach with information across functional areas. Advanced practice sees the formulation of a strategic business model and choice questions that lead to sustainable value generation decisions. Framing the decision questions leads to meaningful and effective data collection, information generation, and decision engagement across the organization.

The top level team develops the overall approach for how the purpose of the firm is activated through all spheres of organizational life. ESG informed decisions are taken throughout the organization and integrated into operations through policies, priorities, identification of risks and opportunities, coordination of internal and external communication, review of disclosures, and reports to the board.

Operations

When it comes to operations, successful ESG practice takes into account the following:

Collect strategic data:  That means that only data that is material to stakeholders both inside and outside of the organization should be collected. It is important to have a clear definition of the purpose, value generation dimensions, and to engage stakeholders effectively. That is the basis for understanding what decisions need to be made, what interdependencies exist within a specific context, and what thresholds need to be considered. To guide this work, firms also consider international frameworks, standards, protocols, practices by peers, expectations of stakeholders and regulators.

Integrate and automate data collection: Best practice for non-financial parameters (ESG) is to integrate data collection into the Enterprise Resource Management (ERM) and decision support systems, built with the rigour, controls, security, and data analysis practices of financial data. Far too many firms gather non-financial data in Excel, which takes a lot of effort, is risky because of errors and manipulation, and wasteful because it is not useful for actual decision making. Inappropriate output measures that are presented out of context, do not contain uncertainty information, links to outcomes and impacts, or for which there is no feedback loop nor tracking over time can be dangerous for organizations; these generate noise and the illusion of progress instead of clear signals and better decisions.

Verify and assure: Framing and mapping who needs to take decisions, based on data, information to support recommendations, is key for responsibility and accountability. ESG is complex and requires professionals from different disciplines to review, verify, certify and assure information. It is important to build in controls, including quality assurance, fraud prevention, whistleblowing, and segregation of duties. Assurance by third parties plays an increasingly important role, just as it does for financial information.

Greenwashing, gaming and deception, and plain incompetence are threats that endanger individual companies as well as our societies.

Dr. Axel Kravatzky

Dr Axel Kravatzky is managing partner of Syntegra-ESG Inc., chair of TTBS/TC309 Mirror Committee, vice-chair of ISO/TC309 Governance of organizations, and the co-convenor and editor of ISO 37000 Governance of organizations – Guidance. He is currently the project leader for ISO 37006 Indicators of effective governance.

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