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When German consumer goods group Henkel published its 2021 sustainability report, it set forth its sustainability ambitions up to 2030 and beyond. Its goals were to accelerate climate positivity in production, contribute to a circular economy in plastics, achieve gender parity in management, expand community education work, shape the future of work, and link funding to its sustainability strategy. Is this suitably ambitious for a giant of industry, or does it not go far enough?
In recent years, companies have been increasingly compelled to address the sustainability agenda and commit to formidable targets on environmental, social and governance (ESG) issues. A December 2018 survey conducted by information technology company Accenture suggested that consumers would only buy a brand’s product if its sustainability purpose matched their own. When there is no match, 42% walk away and 21% never return.
Employees are also keen on sustainability. A survey carried out by tech provider Unily indicated that 80% of the workforce said their company’s environmental values are not, or only partially, aligned with their own. Investors too are increasingly aware, basing investment decisions on ESG ratings of funds, and society at large views sustainability as the meeting of current needs without compromising the ability of future generations to meet their own needs.
So how can companies decide on ambition levels within such a multi-stakeholder context without overpromising and underdelivering? There are three sustainability strategies being deployed at present with varying degrees of ambition level.
The first level of ambition focuses on maintaining a license to operate, namely being permitted to conduct business subject to regulation or supervision by a licensing authority, such as the European Green Deal and it’s set of policy initiatives to be carbon neutral by 2050 is an example of a regulatory framework that guides companies within the EU. In order to expedite the agenda on financial sustainability accounting standards, we saw the creation of the International Sustainability Standards Board as an outcome of the COP26 conference in November 2021.
Just like financial accounting standards, it has the objective to develop, in the public interest, a single set of high-quality, understandable, enforceable, and globally accepted financial reporting standards on sustainability disclosure based on clearly articulated principles. The goal is to enhance the international comparability and quality of financial information, enabling investors to make informed economic decisions, and reducing the gap between providers of capital and those entrusted with the money. Similar to accounting standards, sustainability standards will be incorporated in the license to operate.
The number of authorities and standards is growing apace, prompting companies to continually adjust to maintain their license to operate. As an example, US aluminum company Alcoa must disclose its reductions in greenhouse gas (GHG) emissions to comply with the US GHG reporting program launched in 2010/2011. Two years ago, Alcoa additionally committed to aligning its GHG emission reduction goal with the below 2ºC decarbonization path defined in the Paris Climate Accord. The pledge includes reducing the carbon intensity by 30% by 2025 and 50% by 2030. Many such companies, late in taking decisive action to tackle climate change, engaged initially in corporate social responsibility (CSR) initiatives whereby a company goes beyond its interests and legal compliance to engage in activities to advance social good. By doing so, they maintain their core focus on profitability and shareholder return while attempting to mitigate the risks involved in owning the business by complying with the standards set by authorities and doing social good. This compliance-driven agenda is a risk-minimization approach, and ensures the company stays in business.
The second level sustainability strategy focuses on value enhancement, which is often characterized by the combination of profitability and sustainability. Where possible, sustainability initiatives should raise profitability , either in operations or in customer-facing initiatives. Risk mitigation is a given.
A prime example of this would be the initial efforts by Schneider Electric, a French electrical equipment group which benefited greatly from a surge in global demand for electricity. Between 1990 and 2020, worldwide demand multiplied by 2.5 times, but with a large number of people still without access to reliable power. With an increasing appetite for electricity and an ever-growing demand for non-carbon-based energy, conventional supplies were fast becoming unsustainable.
The company first responded by changing the energy sources to low carbon renewable energy, especially wind, photovoltaics, and biomass. It also focused on increased energy efficiency processes in its power plants. To enhance the value of its offer, the company also expanded into services and solutions, and created a platform that allowed consumers to manage their energy more efficiently and to be less carbon intensive. As a result of this value-enhancing strategy, sales, profits, and the stock price soared. But Schneider didn’t stop there.
In 2015, the company changed its mission statement to: “We empower all to make the most of our energy and resources, ensuring ‘Life Is On’ everywhere, for everyone, at every moment.” Over time, ambition levels rose and the Schneider sustainability impact (SSI) program – a pledge to where Schneider should be in 10 years’ time – ushered in incremental sustainability improvement initiatives while setting an ambitious target for value creation which did not seem possible at the outset.
The third and most ambitious level focuses on redefining the company’s purpose, and is centered around value creation into the future. One such business is Ørsted, the Danish state-owned energy company founded to provide the nation’s electricity and household heating facilities. The company originally invested heavily in coal-powered plants, but in 2017 switched to renewable energy sources “to develop and deploy market-leading green energy solutions that benefit the planet and customers alike, further driving down the cost of green energy”. By deploying renewable energy resources at scale, the company set out to revolutionize the power industry and reduce the effects of climate change.
As a result, the company disinvested from coal-powered plants and reinvested into wind farms, building multiple offshore and onshore wind farms with mega capacities at economies of scale. In fact, it is now the world’s largest offshore wind farm developer. Ørsted achieved this feat by encouraging its supply chain ecosystem to align to reduce carbon emissions and achieve its net-zero goals. This required the kind of major technological risks and ROI uncertainties that are typical for a company in transition. Clearly in this case, we see a CEO-driven agenda to push towards an ambitious target that sets out to create impact for today and tomorrow.
Managing the transition towards a value creation, purpose-driven agenda might be the most difficult challenge for any CEO. While the first-level sustainability strategy “license to operate” is a must, and thereby a defensive strategy, setting an ambitious purpose-led target is an offensive strategy with high degrees of risk and uncertainty. Inputs such as technology or capabilities are unknown, as is the potential response from stakeholders. Internally, there may also be opposing schools of thought on whether to focus on shareholder or stakeholder value creation.
Some investors may not be interested in foregoing short-term profit maximization for long-term benefits to society at large. So, is it about trading off the long-term vs. the short-term? In a world where multiple stakeholders need to be considered to optimize value creation, the trade-offs might indeed be poised to co-exist. An overemphasis on short-term sustainability practices might harm the longer term, as there are limited resources to invest in profit-generating activities. At the same time, too much investment in long-term sustainability practices might harm profitability in the short-term. Yet, both can co-exist. If properly implemented, both can have profound benefits.
The key question is how to balance short and long-term sustainability at different ESG development stages and in different business environments to maximize short-term efficiency and future prosperity. Ambition setting is only the starting point. On the agenda of any CEO is the need to phase the transition by making continuous adjustments between the short- and long-term as strategic decisions on resource-intensive priorities are made.
The key challenges of managing a transition at an accelerated pace are fivefold:
Incubating and scaling innovations might at first appear the easiest, as new technologies invariably emerge to allow for a more efficient use of natural resources – such as solar photovoltaic or electric vehicles – or a more efficient production process. The key is to accelerate the diffusion of these innovations through upscaling the technologies, often supported by regulations in the form of taxes or subsidies. This upscaling might not be achieved without riding on the wave of regulatory policies.
And yet, innovations, especially the more radical ones, require systemic changes that go beyond a company’s purview. Take the example of renewable energies such as solar, wind or decentralized energy production at a household level which require storage technologies. Without a transmission grid capacity to transport energy innovations, they will not benefit the wider consumer until the necessary system changes have been made. While this provides companies the opportunity for making investments, policy shifts need to incentivize the move from singular innovations to managing wider system transformations. In industry-specific forums such as the Community of Glass Associations, this is already partially happening – yet given the competitive dynamics, there is also a reluctance to be the first mover, as it often entails higher costs due to first entry.
Tension between and within systems can also emerge. Take the example of agriculture and energy. While creating biomass for fuel can in itself be seen as a welcome replacement of fossil fuel with more sustainable resources, it can cause stress to food security if land is no longer used for food production. This can also occur in an industry where the competition for standards can play out. In the glass industry, it might be in the best interests to have the latest, most environmentally friendly production process for glass developed as an industry standard to achieve net-zero, but the joint development might not be in the interest of all players, as those that are technologically advanced will lose out on their competitive advantage.
Addressing resistance to the phasing out of non-sustainable technology is another transition to manage. In the mining industry, phasing out of a bauxite mine may be in the interest of some stakeholders such an environmental groups, but resistance could come from unions, workers, or local indigenous groups whose livelihood is at stake. A quick transition might be opposed until resources are deployed to pace the transition in a way that the different stakeholder groups can envision the benefit.
The consumer challenge relates to influencing the social practices required to mainstream sustainable innovations. While early adopters of electric vehicles were ready to plan trips around refueling practices, the majority might be less willing, which reduces the speed of transition. The most impactful sustainability practices often have the lowest consumer acceptance, so the firm’s role is to not only develop sustainable innovations but also to change consumer behaviors through marketing and branding efforts to encourage change.
To support an ambitious, purpose-led agenda, we need innovative technologies that can help in the transition towards sustainable modes of production and consumption. For most organizations, this means managing two phases: emergence and acceleration. The emergence phase often requires not only innovations but building system coalitions. The acceleration phase requires managing social acceptance, compensating those that resist change, and a supportive regulatory framework from policymakers. In this context, making resource-based choices on investments can only succeed when proactively managing the phases and deciding when to accelerate. Timely action is of essence. As a result, it is not only about setting an ambitious purpose-driven agenda, but managing the transition in a phased approach.
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