The board’s role in sustainability (1)
Sustainability has gone mainstream in the corporate world. Investors increasingly understand that a corporation’s performance on pertinent environmental, social, and governance (ESG) factors directly affects long-term profitability - a recognition that is transforming “sustainable investing” into, more simply, “investing.”
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Most CEOs also now recognize that ESG issues should inform their corporate strategy.
But one important constituency remains a stubborn holdout in the sustainability revolution: corporate boards. It is an unfortunate truth that directors tasked with securing their company’s future are often holding the enterprise back with an outdated emphasis on short-term value maximisation.
A 2019 PwC survey of more than 700 public-company directors found that 56 per cent thought boards were spending too much time on sustainability. Some of the myopia can be traced to a lack of diversity on boards.
Most directors are male, white, and from a similar background, and many are retired executives who came of age professionally at a time when the link between ESG factors and corporate performance was not clearly understood.
But a large part of the problem is that until recently, boards didn’t have a mandate to grapple with sustainability; instead, their time was consumed by compliance tasks driven by the corporate secretary and by inside and outside counsel.
The concept of “corporate purpose” provides the impetus that boards need to increase their focus on ESG concerns and manage their firms for long-term success.
A clear and compelling mission should be at the heart of every company’s effort to enhance its positive impacts on the environment and society. Without such a purpose, a company cannot have a sustainable corporate strategy, and investors cannot earn sustainable returns.
And the ultimate responsibility for defining that purpose must rest with the board, because it has a duty to take an intergenerational perspective that extends beyond the tenure of any management team.
Our research on injecting purpose into corporate governance draws on extensive conversations with board chairs, executives, and owners of more than 100 corporations operating across a wide range of industries in more than 20 countries.
We’ve undertaken that research as part of the Enacting Purpose Initiative, a multigroup project led by the University of Oxford in conjunction with the University of California, Berkeley; the investment management firm Federated Hermes; the corporate law firm Wachtell, Lipton, Rosen & Katz; and the British Academy.
The initiative brings together leaders from academia and practice in the United States and Europe to provide research and guidance on linking corporate purpose to strategy and performance.
A major output of this effort is a framework to help boards deliver on purpose. Called SCORE, it was initially devised by Rupert Younger, the director of the Oxford University Centre for Corporate Reputation and the chair of the Enacting Purpose Initiative.
SCORE outlines five actions - simplify, connect, own, reward, and exemplify - that can help boards articulate and foster a firm’s durable value proposition and its drivers.
Simplify
Enacting purpose begins with knowing what it is. For that reason, purpose needs to be simple and clear - straightforward enough to be understood by the entire corporate workforce, the wider supply chain, and other stakeholders.
How should purpose be communicated? A good place for boards to start is with a statement of purpose signed and issued by all the directors. The board chair and the governance committee should take the lead in drafting it.
The statement should define how the company aims to create value by fulfilling unmet needs in society. It should acknowledge the negative impacts the company must mitigate if it is to retain public support and its license to operate.
And it should present a distinctive message—not something so generic that the name of any major competitor could be substituted.
If those criteria are met, the statement can be a powerful tool for sharing a company’s vision for long-term value creation, even in industries with negative externalities.
EQT, a global private-equity firm, describes its purpose this way: “to future-proof companies and make a positive impact.”
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EQT defines future-proofing as anticipating what companies need to do to stay relevant amid increasing social and environmental pressures.
Its one-page purpose statement, which was first published in its 2019 annual report, explains the firm’s commitment to “being more than capital.”
EQT requires that any investment meet clear financial objectives but also contribute to the United Nations Sustainable Development Goals.
The company’s founder, Conni Jonsson, told us that writing the statement was fairly easy and that publishing it unites executives, directors, and investors on the company’s priorities.
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“For us,” he said, “aligning on the statement of purpose was merely manifesting what has been our mindset since inception.”
Connect
Once corporate purpose has been articulated, it must be connected to strategy and capital allocation decisions.
Strategy is about making certain choices and consciously rejecting others after serious deliberation.
Capital allocation decisions naturally follow. Sometimes the process might lead a firm to sacrifice short-term profits by abandoning a lucrative but socially harmful product, such as when Dick’s Sporting Goods decided to stop selling assault weapons.
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Other times a company might undertake a project that will certainly lose money, such as when Medtronic publicly shared the design specifications for its ventilators early in the Covid-19 pandemic to speed up manufacturing of the lifesaving devices.
Connecting purpose to strategy gives a CEO the necessary foundation to prioritise long-term goals and resist pressure from activist investors and others who care only about short-term returns.
“We have made some specific investments that we might not have made without our purpose being so clearly articulated,” Mark Preston, the executive trustee and group CEO of the property behemoth Grosvenor Estate, told us.
“More importantly, there are probably some investments that we have not made, as a result of our purpose.”