LONDON: At the end of this month, the UN climate change conference COP26 will kick off in Glasgow. Here, governments are expected to review progress towards Paris Agreement goals and establish new Nationally Determined Contributions (NDCs). While governments are expected to set the fiscal, legal and regulatory framework to achieve NDCs, it will be up to the private sector to deliver on its promises.
The financial sector occupies a central place in the achievement not only of the climate commitments, but also of a vast program of sustainable development. Is it ready for delivery?
I sit on the boards of three financial services companies across a wide range of industry – a global asset manager, a European bank and a UK listed investment firm. Within these councils, ESG has established itself as part of the natural rhythms of governance. While there are unmistakable signs of commitments to positive change, something deeper may be happening that needs to be recognized.
It is clear to me that we are moving from the era of Milton Friedman’s doctrine of âshareholder primacyâ, first formulated about 50 years ago. In the decades that followed, the doctrine was interpreted to mean:
- the only responsibility that an entity has to assume is to its shareholders;
- delivered in the form of maximized shareholder value;
- and that social responsibility rested with the shareholders themselves and not with the entity itself.
Today, that seems outdated. It is rapidly developing into the idea that companies exist to serve multiple stakeholders – the stakeholder value model. Shareholders, employees and customers have been recognized for some time as stakeholders that companies need to recognize. But this is rapidly evolving to include a comprehensive list including vendors, service providers, the communities in which they operate and of course the environment.
She even moved in the fields of social and political justice. These include racial, religious and gender equality – factors that have been around for some time. But this is expanding rapidly to include, for example, a fair distribution of income and educational opportunities. Likewise, political empowerment, as evidenced by the corporate campaign in the United States against recent electoral law changes in Georgia, which have been deemed unfair to black and minority communities.
Society’s expectations for sustainable and inclusive economic growth will only increase inexorably in the future. The shift from shareholder value to stakeholder value will have profound implications for companies:
- performance will increasingly be judged on the value of stakeholders. Financial reports will no longer suffice. Those who make judgments will include shareholders, employees and customers;
- it will impact the content of our reports, the design of corporate and employee incentive programs, and the way we conduct and conduct our business;
- to succeed in this new environment, companies will need to lead the evolution from the top. This will include re-articulating corporate strategy, redefining corporate culture and refining governance structures, procedures and programs accordingly.
There are positive externalities for companies of this change that should not be missed: more competition in hiring and retaining staff; attract capital and customers and increase market share; and reduce regulatory costs and frictions in accordance with all regulatory guidelines imposed by stakeholders.
The challenge is that, to be successful, companies will need to embed this stakeholder model into long-term strategies, re-operationalize the business and governance model accordingly, and change the corporate culture. We may believe that we are providing the right answers, but if they are punctual or responsive, we risk being left behind.
Play a role
Every challenge comes with a risk. Although this is a moving train that cannot be stopped, you have to be careful when setting off. It is true that the industry has to play its part, maybe even lead, but the way in which it participates requires careful thought.
The minimum will be what is required by law and regulation. From there, you have to be realistic. We may wish to state principles. We may wish to establish formal policies, but we need to ensure that processes and controls are in place to ensure compliance. Otherwise, if we do not follow our principles and policies, we are exposed at best to accusations of greenwashing and at worst to scrutiny and embarrassment.
I see examples of companies in the financial sector moving quickly in this area, adopting charters, adhering to global principles, making statements about what they will and will not do and drafting policies accordingly. We are inundated with fundraising launches, disclosures and advertisements designed to demonstrate serious or top-notch sustainability credentials. The claims of âactive ownershipâ that make the difference and âinvesting for a better futureâ imply that the industry has accepted its responsibility as an intermediary in the allocation of capital.
I am sure they are well intentioned. But I’m also sure we’ll be reading the headlines soon about how Company A failed to meet its emissions targets; has failed to reduce its carbon footprint; or organized a physical conference in Miami or Rome for hundreds of clients when it could have been held virtually. When a self-proclaimed policy or principle is violated, it is the violation that will make the headlines – the problem itself and the underlying ESG performance of the company will be secondary.
While on the one hand we cannot afford – and should not – engage in shallow or incomplete ESG efforts, on the other the ESG landscape is blurry. I’m seeing industry ESG awards popping up and receiving an increasing number of stakeholder questionnaires asking for peer group performance comparisons. Their relevance when there are no recognized, homogenized, measurable standard definitions of ESG factors and their relative weight and importance is highly questionable. In response to the profound shift from shareholder value to stakeholder value, are we, as an industry, hiding the complexities involved and the lack of coordinated leadership across the industry on our role? in saving the planet?
For what it’s worth I believe that if the industry is serious the starting point should be to identify an ESG industry czar, capable, at least, of guiding and leading the debate; coordinate and stay informed; and help move the discussion forward and define the path we need to take, together and not as separate agents in pursuit of competitive advantage.
Robert Kyprianou’s 32-year career in finance includes stints at Citibank, Salomon Brothers and Axa Investment Managers, where he was Global Head of Fixed Income. He has also served on the Bank of England Fixed Income Committee. He chairs the Polar Capital Global Financials (PCFT) investment fund. He writes in a personal capacity.
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