Viewpoint: Sustainability and Boards—Why Linking Significant Audiences and Materiality Matter to Long-Term Success

What could be the biggest challenge in developing infrastructures that meet sustainability standards?

One can enumerate a lot of them, but I would want to raise a flag for the one which I think has not been addressed enough and that is—the board of directors of companies and asset managers. Most of these “fiduciaries loyal to their principals” are purely focused on short-term financial performance, but at the cost of the organization they represent and the global community and planet they live in. This might be due to their muddled fundamentals. My suggestion to dramatically improve the situation—and that too with a simple one-page—is to issue a “Statement of Significant Audiences and Materiality,” the one that is published every year by a company’s board of directors.

Executives, stakeholders and many more at some of the world’s biggest companies—and even those international asset owners and managers—now firmly believe that “sustainability” is something that no longer can be swept under the rug. (see image 01 below)

Why are Big Company/Big Investors So Critical to the Developing World?

If you look at the revenue figures of Wal-Mart, the world’s largest company, it was at $486 billion, greater that the GDP of 86% of the countries in the world. So now while we have thousands of asset managers; the top five are the ones who control and manage 20% of the entire world’s assets—where the top 50 control 60%. I think this clarifies my stance for why the world’s largest companies and investors can be a tremendous force for the betterment of the global community and planet they thrive on. But are they taking the driver’s seat in this regard? Mostly—at both the company and investors side—they are not.

Sustainable strategy for corporations is based on pillars of long-term focus and rigorous analysis that determine the limited number of environmental, social and governance (ESG) issues that are of importance for a company. However, I am of the opinion that “materiality” is an elusive fundamental for any company; it is entirely specific and based on judgements which may or may not go wrong. At the end of the day, it is the company leadership, and this includes its board of directors, who are ultimately responsible for questions of this nature as they impact sustainable directions at the corporate governance level.

Materiality is a Function of the Audience

Whether you agree with this position or not, if the corporate board sees, or finds, “short term shareholders” as the only critical audience, then few ECG issues will become material to its key decisions. In such scenarios, these companies will have their sole focus on accurately reporting the short-term performance, often backed by their quarterly earnings guidance to “meet or exceed” expectations, in order to drive the stock prices higher and higher.

However, if the board sees, or finds, NGOs that represent social (human rights) or environmental (water) challenges, and longer time frames (at least five years as is the time while these issues affect financial performance) as the other key audience, they will report on these material issues.

Ultimately, it is up to the board to decide if sustainability is important to the company or not. They can communicate their decision by publishing an “Annual Audience and Materiality” statement. Upon issuing the statement, the board acknowledges the significant audiences beyond that of the shareholders, and of their direct responsibility for sustainability. By doing this they also create appropriate contexts for management to make long-term decisions—the ones required for sustainable energy. In absence of such a statement, the management is both at liberty and likely bound to take up “short-term shareholder” pressures, especially activist investors seeking quick profit through short-term transactions such as stock buyback or slashing R&D spending, and so on. I nowhere claim that the board can never, or should never, decide that sustainability is not important, of course that is their liberty. But in such scenarios, the board should be transparent and issue a simple one-line statement which clarifies the significant audience of the company as short-term shareholders. This makes clear to the world audience and capital markets exactly where the company stands in regards sustainability versus significant audiences.

Common objections to this modest proposal is “Urban Myth”

A common objection to this proposal is that boards, or the so called fiduciaries, never have to, or they even can’t, issue such a statement as their muddled fundamentals compel them to put the interests of shareholders first. This is not true. Law firms across G20 countries and 14 others have issued legal memos, which counter this myth and clear the primary duties of the board—that is to look for long term interest of the corporation as a separate legal entity. This clearly is an indication that there are not, and cannot be, any legal obstacles for the board to identify significant audiences, which obviously are beyond the shareholders. I would go to the extent of saying that it is certainly in the favor of the board as their decision will certainly affect a company’s long term ability to survive and prosper.

I am not against the board. If take a look at the burden on companies, I would say they are correct to report on what they feel is material. Fine. However, then they need to explain how and why they determined what they did, and hence, “The Statement”—which defines “material to whom? It works as the foundation to the companies disclosing how they decide what is material? If the board is wise enough, under their guidance, the management can then go ahead to determine the particular metrics that can, and will be used, for reporting material issues for significant audiences.

There is a pitfall here I would like to draw the reader’s attention to. All said and done, if the management is ready to make tough choices, then only the execution and reporting on sustainable strategy is possible. No company can thrive if they “meet and beat” the expectations of all stakeholders. Companies with better financial performance are the ones who focus their resources only on the ESG issues which matter to their industry, in relation to industry expectations and competition. In order to achieve this “better financial performance,” you need to have some audiences more significant than others.

Any Hope?

The latest development is that an increasing number of C-suites, nowadays, considerably factor material environmental, social and governance (ESG) sustainability issues into corporate and investment strategies. This has resulted in genuine sustainable strategies and not mere sustainability programs that are viewed as slide shows to any company’s corporate social responsibility.

MORE: Viewpoint: International Climate Change—Is it a Turning Point for World Architecture

It will not be wrong if I say that we now live in a world where “sustainability” has slowly but steadily entered mainstream cultures. It is evident from the fact that more than 72% of S&P 500 companies are reporting on sustainability, demonstrating a growing recognition of the strong interest expressed by investors. Sustainability strategies, formed and executed at scale, by some of the world’s largest companies and investors are likely to contribute big time towards planetary benefits, as mentioned by United Nations in the September 2015 Sustainable Development Goals and as committed to in the Paris COP31 climate change accords.

Sustainability: Embed It Deeply Into Your Organization’s Culture and Values

Like always, new ideas can and will have initial teething issues, because everyone is waiting for the other to go first.  It is high time board members understand that they are not there to look after the interests of stockholders. They also should see to it that whatever they are doing is within their moral character, including social responsibility towards society.

The management of sustainability issues needs to be deeply embedded into an organization’s culture and values.

• Responsibility at the board level, ideally a CEO
• Clear sustainability goals which are measurable in quantity and time
• An incentive structure for employees to innovate
• External auditors to review progress

The need of the hour is to change the old mindset of “profit, the more the better”—which is both sub-optimal for corporate long-term survival and sometimes almost criminally narrow. Corporate “social responsibility,”  sustainability, and a lot more, can lead a corporation to a more positive mindset. Leadership and cultural adjustments with omnipresent advantages will also play a major role. It will certainly help the best of the human nature to flourish in the commercial and societal marketplaces.

Corporations also need to understand that they have the power to take care of, or respond to the sufferings of the community and the society they live in, by not allowing the managers to abuse power. Mere good intentions nowadays does not pay, but going out of the way to resolve the challenges of life and businesses, does pay.

Not being skeptical will certainly help the ultimate long term value creation potential for every organization that goes beyond transparency. It will lead everyone to the enterprise’s reason for existence and the best conceptual and behavioral mindset.  Success will take care of itself—if everyone is moving together in one direction.

About the Author

Bhushan Avsatthi is an Associate Director at Hi-Tech Outsourcing Services. Bhushan imbibes the prophecy of efficient and prudent use of energy in his day to day life and advices his team to do so as well. He is also involved in green initiatives like nonprofit tree plantation project and promotes using cycles for commuting small distances. Bhushan, handles a team of architects, Structural and MEP engineers, LEED consultants and Energy modeling experts.