Social and environmental risk is financial risk

Social and environmental risk is financial risk
13/11/2020 James Middleton
esg

A persistent misconception that is only being very slowly eroded is that prioritizing ethics comes at the expense of financial performance. The belief is that by putting environmental and social considerations on a par with making profits, a company cannot maximize its return to shareholders. But the evidence suggests this isn’t the case and ethical health is a good indicator of financial health. 

An article in the Guardian references Ethisphere, an institute that measures ethical business practices, which found that in its list of the world’s most ethical companies, their share price had on average outperformed a benchmark index of comparable large companies by 13.5% over the preceding five years.

It’s recognized that consumers like to buy from businesses that reflect their personal values, so ethically-minded buyers support ethical businesses. But there is also a suggestion that company actions that benefit the environment and society are often indicators of good corporate leadership.

Ultimately, strong Environmental, Social and Governance (ESG) practices are proxies for good management and can reflect a manager’s attitude to long-term risk – particularly the ability to view social and environmental risks as financial risks. 

In 2020, the global economic fallout from Covid-19 has demonstrated just how interconnected social and financial risks can be but we have also seen evidence of this through the widespread impact of social movements like Black Lives Matter.

The impact investment arm of sustainable bank Triodos which features in the article, says good social practices mean treating employees well, which results in less churn and associated training costs. But also means more loyalty from suppliers, clients and employees, and a more productive workforce.

But when companies disregard ethical and social considerations, they are often also turning a blind eye to real-world business risks.

Many corporations treat ESG programs like a cell phone case, which is just something added for protection. But corporate leaders need to replace this mentality with an ambitious and differentiated ESG strategy if they want to see real financial returns.

An effective ESG program can provide strategic differentiation from competitors as part of an Ethics & Compliance strategy. The key, as with any compliance program, is defined by a top-down approach with commitment and examples set by leadership, as well as a bottom-up culture that rallies around the ESG initiatives.

Learn more in our latest eBook on corporate ethics and culture