SUSTAINABILITY TOOLBOX
The Business Case for Sustainability
SUSTAINABILITY TOOLBOX
The Business Case for Sustainability
Contents Background + Introduction ................. 1 The Role(s) of the Business Case ........ 2 Elements of a Business Case— From Risk to Opportunity .................... 5 Trends and Special Considerations .. 25 Conclusion .......................................... 26 Resources ........................................... 27
The Business Case for Sustainability
1
Background + Introduction BACKGROUND Corporate sustainability—optimizing a business’s economic, environmental and social performance1— has taken hold. Far from the single-issue perspective of years past (most often, minimizing environmental damage), addressing sustainability in an organization now requires both a broad and a deep approach, backed by a strong, goal-oriented commitment to invest the resources necessary to achieve those goals. The commitment must be embedded throughout the business’s various functions to make the company truly sustainable.
In some cases, the corporate commitment comes about because sustainability is a cause celèbre of an internal stakeholder (the CEO, a board member or committee) or because an external stakeholder (a customer, the media, a business partner or a regulator) is pressuring the company to act. But most situations—ranging from discrete projects to enterprise-wide strategies—still require a sound business case for sustainability work.
As corporate sustainability takes hold, we see leading organizations charting new territory in areas from products to processes. Organizations that have some experience with the work are embedding it
into their business in methodical, purposeful ways. Organizations new to sustainability are scanning the issues, determining priorities, setting goals and launching pilot projects.
How does this work get started? More specifically, what are the reasons behind the investments of time and resources (such as financial and human capital, technology and process re-engineering). What is the business case for corporate sustainability?
INTRODUCTION This issue brief provides a comprehensive overview of the business case for advancing sustainability in an organizational setting. It complements a series of sustainability “toolboxes” that the Erb Institute has developed to help sustainability practitioners understand and manage sustainability risks and opportunities in their organizations. Toolbox topics range from Materiality Analysis, to Global Value Chain, to Metrics and Reporting.
1
Erb views sustainability as a “triple bottom line” endeavor—encompassing economic, environmental and social impacts related to business. Organizations must be environmentally and socially responsible while paying attention to the value they bring to their owners, business partners, stakeholders and society.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
1
While the toolboxes are practical, “how to” documents, this issue brief is intended as a landscape survey of key issues surrounding the business case topic, including:
the role of the business case
the elements of a sound business case
Throughout this document, you will find both narrative information and research-based evidence of the principles and arguments being made. In several instances, this evidence is in the form of case studies, but it also includes some academic studies, articles and quotes from executives that offer insight into sound business reasons to invest in sustainability. You will find examples from various industries and companies of different sizes, in keeping with our view that while every business case is audience- and circumstance-dependent, there are common threads that bear understanding.
2
trends and special considerations influencing the business case for sustainability
Because this document may not answer all your questions and because the field of organizational sustainability continues to mature, you may be interested in accessing additional information on this subject. At the end of this document, you will find a curated list of additional sources of information.
The Role(s) of the Business Case Companies sometimes invest in sustainability work because “it is the right thing to do.” Even if the business case is weak or the timing is off, they forge ahead. The moral imperative to be a good corporate citizen has underpinned many sustainability-related investments, and this fact should not be discounted. However, the “business case”—whether it is quantitative/ROI-based or based in an assessment of risk and/or opportunity—is usually a precursor to sustainability work in an organizational setting. So, whether the business case stands alone or complements the ethical considerations, here, we explore its role before looking at the common characteristics. Business cases behind sustainability work are rarely one-dimensional. Of course, building a business case for a sustainability strategy or project may have a primary role, but it is likely to serve multiple purposes. This section of the issue brief sets forth some of the more common roles a sustainability business case serves. We believe that executives and managers should understand from the outset the purpose(s) behind developing and presenting their business case. Bringing this understanding to the front of the process creates
2
a better result. For example, knowing the role of the business case informs the type of information collected and presented. This knowledge can also affect the time horizon of the case. If seeking only to “green-light” a discrete project, the case is likely to include something different from what it would contain if the primary purpose for developing it is to brainstorm strategy. So we encourage you to think about the role(s) up front. Let’s look at a few of the most common roles that the business case for sustainability serves.
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
OBTAINING APPROVAL Sustainability work competes with other business priorities. Almost every program, plan, strategy, initiative or project in a business must vie for resources—time, money, personnel and expertise. Managers whose responsibility includes approving strategies, plans, initiatives and/or projects must analyze each of these and decide whether to green-light the request.
They are likely to consider:
•
the financial return (ROI, IRR and similar metrics)
•
the likelihood and overall impact of any increase in intangible benefits and/or goodwill
•
the opportunity cost associated with not going ahead (on the requested timetable)
•
how well the strategy, initiative, plan or project aligns with overall corporate goals
•
the availability and sources of non-financial resources
•
the availability and cost of capital
Beyond these considerations—which are common to approval analyses—people who request investments in sustainability work should also include information on the specific risks and opportunities the work addresses (see Elements of a Business Case, below). For example, a project to audit Tier 1 suppliers for the presence of human trafficking should be pitched with a strong emphasis on how it will mitigate risk—especially legal, reputational and supply risks. A plan to engage suppliers to reduce the amount of item-level packaging on a product line should be pitched as an opportunity for cost containment, customer satisfaction, innovation and supplier collaboration. Including this information as part of the business case for approving the work gives a fuller picture of the upsides of the work than a singular focus on ROI.
FORMING STRATEGY Developing and presenting the business case for sustainability work can help form organizational, department, regional or individual strategy. This is because the steps involved in building the business case (issue identification, data collection, analysis) and presenting it to key stakeholders (reportwriting, oral presentation) require the people engaged to think through both the execution strategy and the strategic value of the initiative, plan or project.
Managers and other stakeholders will necessarily sort through strategic (and tactical) issues related to the work, including how it relates to other sustainability and non-sustainability work taken on by the organization, department or individual.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
3
MEETING A FIDUCIARY OBLIGATION OR COMPANY MANDATE Another role the business case for sustainability work serves is meeting the individual and organization’s fiduciary obligation and/or company mandate. Individual employees, whether by contract or common law principles, have a duty to their employer to use their best efforts to properly manage the business. That obligation extends to managing for sustainability-related risks and opportunities, especially when there is explicit C-level or board-level direction on the topic. CEOs and boards can send clear signals to managers about the sustainability risks and opportunities that need to be part of the business case.
Not long after becoming CEO of [WELL-KNOWN US TELCOM COMPANY], [CEO NAME] set some ambitious sustainability goals. Among them were reducing greenhouse gas (GHG) emissions, reducing spending on energy and increasing the percent of energy sourced from renewables. This mandate needed to be executed in various business functions, including those responsible for network infrastructure. Managers overseeing the network set their sights on replacing the diesel generators that serve as sources of backup electricity for network equipment with something more environmentally friendly. They designed and implemented a hydrogen fuel cell solution to maintain network resilience with a non-fossil-fuel source—just as the company mandate required. According to {MANAGER NAME], [COMPANY NAME AND TITLE], “We needed to find a way to help achieve these goals. The C-level mandate and executive backing got this project off the ground.”2
Similarly, organizations hold an explicit duty to their owners (shareholders) to properly manage the business. Here, the landscape is a bit trickier, because people may argue that a business’s fiduciary obligation to its shareholders is solely profit maximization. This may at times discourage sustainability-related investments, especially when the ROI case is weak. However, this traditional view of the obligation is being challenged by new business models (including “benefit” corporations or B-Corps, now a legal form of organization in many U.S. states) that broaden the nature of the obligation owed to shareholders. Even those adhering to the traditional view can make a strong argument that long-term shareholder value is preserved, enhanced or even maximized by investing time and resources in sustainability work.
2
4
In any case, identifying business reasons behind sustainability-related investments is part of the due diligence required of executives and managers as they run the business to the best of their ability. Scanning the organizational and external landscape for how sustainability work can address risks or exploit opportunities and building this into a business case statement for the work is similar to the work lawyers do in collecting and analyzing details behind a proposed business deal, or underwriters collecting data and running numbers prior to pricing an equity offering. It is a rigorous process that meets the fiduciary obligation that managers owe to their company and that the company owes to its owners.
Telephone interview with [MANAGER NAME, TITLE, COMPANY], January 10, 2019.
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
3
Elements of a Business Case— From Risk to Opportunity It is useful to think of elements of the business case as falling into two “buckets”—risk or opportunity— and that all companies build business cases with this dual taxonomy in mind. But it is not that straightforward. Most obviously, some of the circumstances represent both risk and opportunity, especially under certain circumstances. For example, the business case for removing volatile organic compounds (VOCs) from a product includes both risk mitigation elements (possible legal/regulatory compliance issues, responsibility for product take-back) and opportunity exploitation elements (innovation and engaging sustainability-motivated customers).
Another important point is that companies that are just beginning their sustainability journey tend to focus first on risk mitigation when assessing the business case. Only after having some success (and some failure) with sustainability work do most companies venture into work that is rooted in exploiting the significant opportunities that can be derived from addressing sustainability. This “maturity arc,” of course, is not universal, and some companies dig right into capturing opportunities. And some companies take a more organic, ad hoc approach. But in our experience, companies typically focus first on the risks and then on the opportunities.
Whether it is a case of risk or one of opportunity, evidence, data and metrics play an important part in developing and presenting the business case. The people responsible for building and presenting a case need to search for hard (and, sometimes, anecdotal) evidence and data that support their case (including trends and forward-looking projections). Also, the business case needs to include a set of metrics that can measure and track progress as the strategy, plan or project moves forward. For example, tracking the number of under-legal-age people working in supplier factories can serve as a metric to assess efforts to eradicate supply chain child labor.
So, what are the risks and opportunities that make up the elements of a business case for sustainability work? Let’s look.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
5
Common Risks in Sustainability Business Cases As with non-sustainability risks, identifying and managing risks is a common part of a business case for investment of time and resources in sustainability work. However, because sustainability entails the triple-bottom-line focus, unique environmental, social and other risks should be considered in a sustainability work business case.
CLIMATE CHANGE RISKS We are learning more every day about the multiple risks associated with our planet’s changing climate— from extreme weather events, to drought, to sea level rise. Scientists have successfully tied these climate changes to certain human behaviors, so we have a good idea of the things we need to change to address the situation (this part of the work is generally referred to as “mitigation”). We are also learning that we must
adapt to some of the inevitable effects of climate change—effects we are already experiencing despite efforts to slow down climate changes. Adaptation plans are now becoming a major, urgent part of corporate sustainability work.3 In a business setting, mitigation and adaptation work must include company operations and value chain activities.
The risks are wide and varied. How does a company decide how to address climate change? Let’s look at one case from a global consumer brand: Coca-Cola.
“In 2017, we partnered with Business for Social responsibility (BSR) to develop a more holistic picture of our value chain climate risks and identify opportunities to build resilience across our operations, supply chain and communities where we operate. As a starting point, we identified seven markets— Argentina, Brazil, China, India, Kenya, Mexico and the United States—and two commodities—coffee and tea—to serve as initial proxies for the full Coca-Cola system value chain. Using analysis from these proxies, combined with other information, we developed a framework for identifying and prioritizing climate-related risks, and mapped our existing programs and initiatives to high-priority risks. The framework aims to integrate resilience into our existing strategy and risk management and sustainability systems. . . .”4
3 4
6
In January 2019, scientists published a report stating that oceans were heating up more than 40 percent faster than earlier estimates. See http://science.sciencemag.org/content/363/6423/128. As oceans heat, sea levels rise because of thermal expansion. This leads to more extreme and more frequent flooding. The need for adapting to these effects is more urgent than ever. https://www.coca-colacompany.com/stories/2017-climate
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
But what was the business proposition for Coca-Cola’s work on climate change? Ben Jordan, Coke’s senior director of environmental policy, provides some insight: “Given our investments to date, understanding climate resilience was a natural next step in our business and sustainability evolution. It also offers significant business benefits. A more resilient CocaCola will be better able to anticipate, avoid, accommodate and recover from climate risks.”5
You can see that the concept of resilience runs throughout Coke’s example. Resilience is a major part of the business case for addressing climate change risks in a business and its value chain. Similarly, you may position the business case in terms of preparedness:
Miami-based logistics giant Ryder System, Inc., states: “We consider our company to be exposed to physical risks such as natural disasters (e.g., flooding, tropical cyclones and storms, etc.) or changing weather patterns that may be associated with climate change. [One of] the most important components of our long-term strategy influenced by climate change are business strategies to ensure disaster preparedness.”6
These examples stand for the proposition that there is a strong business case for climatechange-related sustainability work, primarily rooted in risk mitigation and resilience. Another climate-change-related business case is discussed under “Legal Risks,” below— the requirement for public companies to disclose and discuss climate change and related plans in their publicly filed documents.
RISKS ASSOCIATED WITH OTHER ENVIRONMENTAL IMPACTS Other environmental impacts of concern include water (both availability and quality), chemicals/toxic substances and waste. These issues—especially water— are often local or regional in nature, but, for a global
5 6
enterprise, they require a global strategy. That strategy is often grounded in environmental risk, but because many of these impacts are also subject to regulation, there are legal/compliance risks as well.
https://www.coca-colacompany.com/stories/coca-cola-journey-toward-climate-resilience https://ryder.com/about-us/sustainability, p. 31.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
7
Water Throughout the world, sources of water are under stress. While certain areas have an oversupply at times, the global supply of fresh water is a matter of concern, because of pollution, population growth and climate change (among other factors).
This situation represents business risk in at least two dimensions: (a) a direct risk to those companies that rely on water for product and process reasons and
(b) an indirect risk to all businesses, because humans require fresh water for drinking, bathing, agriculture and recreation.
Water is life.
The issue of fresh water availability presents a significant risk to Mars and Diageo, two global businesses that rely on water as a product ingredient and for other purposes.
Working with a coalition of businesses and nonprofits, Mars has made efforts to increase the water efficiency of rice production in the Guadalquivir River Delta area in Spain.7 The result is a Sustainable Rice Platform Standard. In discussing why Mars has put so much effort into a global water strategy, the company states, “Water scarcity is a major challenge facing humanity, with 40 percent of the world’s population already affected.”8 Clearly, Mars understands the global risks associated with water—from the impact on its operations to the impact on its customers—and incorporates those risks into its reasons to focus on this issue.
Diageo, which has developed a “Water Blueprint” to deal with scarcity issues, says in its sustainability report, “For example, drought has recently affected harvests of ingredients in Africa and South America, while water scarcity is an important operational consideration in water-stressed areas in Africa and India.”9 The report also says, “A variety of trends . . . affect our business, in particular the risk to water scarcity, given that water is a main ingredient in all our products.”10
Chemicals Chemicals and toxic substances present health and safety risks and contribute to air and water pollution. Most developed economies have a robust regulatory framework for chemicals used in workplaces and those that end up in products. But the same is not true in much of the developing world.
7 8 9 10
8
Regardless of location, however, chemicals and toxic substances represent a risk to business. Addressing these risks—through a sound chemicals management system and a transparent understanding of productrelated toxicities—can be an essential part of a business case for sustainability.
https://www.mars.com/docs/default-source/sustainable-in-a-generation-plan-report-2017-2018/1803_mars_sigp-report.pdf?sfvrsn=6 p. 11. Ibid. https://www.diageo.com/PR1346/aws/media/6111/diageo_sustainability-responsibility_perfaddendum_2018_final.pdf p. 7. Ibid, p. 29.
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
Toyota has a strong focus on chemicals management. Primary risks the company addresses include “substances of concern” (initially, four heavy metals known to cause environmental and health effects and, more recently, other additional materials) and volatile organic compounds (VOCs) in automobile cabins. Regarding the risks associated with chemicals, Toyota notes, “Toyota minimizes the impacts to the environment from the use of chemicals in our operations and at the end of a vehicle’s life.”11
Waste Business activity generates megatons of waste and electronic waste (e-waste). A long history of “linear” product production and use models have institutionalized inefficiencies in the amount of inputs necessary to create, transport and sell a product and in the way it is managed once it has lived a useful (first) life. Production and packaging waste and the very
product itself may all find their ways to waste heaps around the world, resulting in poor land use practices and causing significant environmental damage. Companies that do not investigate and implement ways to reduce or eliminate waste (particularly e-waste) bear excessive risk.
Ford Motor Company understands the waste issue well. Ford is concerned about environmental harm and the ever-growing scarcity of resources. In its 2017/18 sustainability report section on waste issues, the company states, “The automotive industry is a resource-intensive one, so we need to work hard to optimize our resource efficiency. This means generating less waste, and repurposing or recycling any waste we do generate. This not only keeps it out of landfill but provides us with an additional supply of valuable resources.”12 Ford set a goal of reducing the amount of waste sent to landfill by 40 percent from 2011 to 2016; in 2017, it reported that it actually achieved a 61 percent reduction.13
SOCIAL IMPACT RISKS Business activity impacts on people and society can be both positive and negative. On the positive side, businesses create jobs, teach skills and provide
valuable benefits to employees. But they can also affect individuals, groups, communities and society at large in harmful ways.
Some of the social impact issues of concern are:
•
forced labor
•
lack of respect for indigenous people’s rights
•
child labor
•
human trafficking
•
gender inequality
•
conflict enablement
•
•
unsafe labor conditions
underrepresentation of diverse groups in the workforce and supply base
•
low wages
11 https://www.toyota.com/usa/environmentreport2013/operations.html, scroll to “Operations Materials Chemical Management. 12 https://corporate.ford.com/microsites/sustainability-report-2017-18/doc/sr17-operations.pdf p. 35. 13 Ibid.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
9
A wide variety of stakeholders care deeply about these sustainability issues. And they often attribute transgressions by a brand’s supplier to the brand itself. Therefore, companies must screen their operations and their value chain for this long list of potential issues. Then, they must create and implement a strategy to mitigate the risks and, in many instances,
prevent recurrence. They must also track and report progress to a wide variety of stakeholders, including NGOs, regulators, customers and investors. But before they do any of this work, executives and managers must include their assessment of social impact risks in their business case for sustainability investments.
Unilever has developed a risk-based approach that “allows us to have the greatest impact in preventing and remediating human rights and labor issues in our supply chain.”14 For example, Unilever carried out a “social footprint” mapping of its tea supply chain to discover areas of potential risk. “This has enabled us to create a plan to address improvements based on the level of traceability we have for each sourcing location, the human rights risks in each location and the procedures in place to respond to identified risks.”15 Why does Unilever invest in social footprinting and specific plans to address issues? Dhaval Buch, Unilever’s chief procurement officer, stated that these actions “help us mitigate risk and build trust among consumers and stakeholders.”16 Modern-day slavery is a serious problem. Even for people with experience in corporate social responsibility, the scale of the problem is daunting. According to the International Labor Organization (ILO) and the Global Slavery Index, an estimated 40.3 million men, women, and children were victims of modern slavery on any given day in 2016. Of these, 24.9 million people were in forced labor and 15.4 million people were living in a forced marriage. Women and girls are vastly over-represented, making up 71 percent
of victims. Modern slavery is most prevalent in Africa, followed by Asia and the Pacific region.17 Modern slavery takes many forms, from employment being made contingent on surrender of travel documents to debt bondage (when people pay exorbitant fees to “job brokers” that cannot be repaid through wage earnings). The issue has rapidly risen to prominence in the business world, particularly for companies that have global value chains or operations in regions of known risks.18
Apparel company Eileen Fisher makes public its concern for, and approach to, slavery issues in its global supply chain. Its concern as an organization is genuine, but it is also rooted in a sense that others need to be involved: “Consumers must be engaged, and brands must exert long-term effort and continuous attention. At Eileen Fisher, we have engaged nonprofit partners to guide our efforts and we have reached out to like-minded companies to collaborate on change-making ideas. We cannot do this work alone.”19 The company understands the risks associated with this issue. Amy Hall, Eileen Fisher’s well-known director of social consciousness, has said that pressure from a nonprofit concerned about workers in Uzbek cotton fields propelled ever-increasing engagement on this issue.20 Complying with anti-slavery disclosure laws is only a baseline for their work.21 14 15 16 17 18
https://www.unilever.com/Images/human-rights-progress-report_tcm244-513973_en.pdf, p. 18. Ibid, p. 64. Ibid, p. 73. http://www.ilo.org/wcmsp5/groups/public/@dgreports/@dcomm/documents/publication/wcms_575540.pdf and https://www.globalslaveryindex.org/2018/findings/global-findings/ In addition to the concern about social impacts, modern-day slavery is the subject of an increasing number of legal regimens, most notably the U.K. Modern Slavery Act 2015 and the California Transparency in Supply Chains Act of 2010. See http://www.legislation.gov.uk/ukpga/2015/30/contents/enacted and https://oag.ca.gov/SB657. 19 https://www.eileenfisher.com/preventing-human-trafficking-and-slavery-in-our-supply-chain/ 20 https://www.eileenfisher.com/human-rights/the-bumpy-path-to-the-high-road/ 21 Ibid.
10
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
REPUTATIONAL RISKS For every business, its reputation is a key underpinning of enterprise value. While companies can survive mistakes and bad press, mass-scale defections of customers or increased scrutiny from stakeholders can be expensive or impossible to overcome. So, protecting a company’s reputation in its market, community and society is a key obligation of executives and managers.
The Walt Disney Company has stated that its assessment of key issues in the realm of social and environmental responsibility is a strategy aimed in part at “enhancing brand and reputation.”22 Companies that share Disney’s view believe that reputational risk is a part of the business case for sustainability work. They are aware that customers, activists, media (traditional and social), nonprofits and
other stakeholders constantly scrutinize corporate behavior for wrongdoing on the environmental and social fronts. So, they explicitly incorporate reputational risk into their sustainability business case.
The relationship between sustainability and reputational risk is complicated. Some argue that doing and publicizing sustainability work opens up a company to the type of scrutiny that can lead to increased risk. A 2015 study by think tanks CSRHub and RepRisk seems to bear this out.23 The study found that companies with many publicly available sustainability data points did experience higher reputational risks, unless those data points were associated with work in the areas of human rights, supply chain, leadership ethics and resource management. Companies that reported having strong programs in community development, philanthropy, environmental policy and reporting, or compensation and benefits seemed to have higher risk exposure. The study also showed that companies that had less-available information overall experienced less risk exposure. We believe that the key point here is that a risk mitigation opportunity arises from creating and implementing sustainability programs in the areas of human rights, supply chain, ethics and resource management and reporting results in an authentic way.
22 https://www.thewaltdisneycompany.com/wp-content/uploads/2017disneycsrupdate.pdf , p. 22. 23 https://blog.csrhub.com/2015/05/csrhub-reprisk-study-links-csr-performance-reputational-risk.html
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
11
LEGAL RISKS Environmental and social impacts caused by business are subject to multiple laws, rules and regulations. There is hardly a sustainability issue that is not subject to regulation somewhere on the globe. People with knowledge of the situation have commented that more than 6,000 global regulations are related to batteries alone. And a vast compliance infrastructure exists to enforce these laws, rules and regulations, including regulators, administrative agencies, courts and lawyers. For a business, the cost of compliance is high. The cost of noncompliance is usually much higher, from fines and penalties, to continued regulatory oversight, to losing the license to do business. Significant legal risks are associated with a company’s public disclosure of how it handles sustainability issues. A great example of these risks is the obligation imposed on companies publicly traded in the United States to disclose and discuss possible climate change impacts on the company and its related plans and strategies in the documents it files with the U.S. Securities and Exchange Commission (SEC).
Since 2010, the SEC has required disclosure of climate change risks in various parts of these filings, including: •
description of business
•
legal proceedings
•
management’s discussion and analysis of financial condition and results of operations
•
risk factors24
This rule, which is mirrored by rules created by other regulators and securities exchanges, is intended to provide investors with adequate information about the company’s situation regarding climate-related impacts and its plans to address them. Because companies can incur significant fines for missing, incomplete or misleading disclosure, the legal risk is significant and creates a strong business case for investing in sustainability work.
STRATEGIC/COMPETITIVE RISKS Companies in competitive markets risk customer defections and dissatisfaction from business partners if they do not address the sustainability concerns of these key stakeholders. Customers may choose to buy
from competitors, and business partners may see more strategic value in dealing with companies pursuing sustainability in an authentic and transparent way.
For example, if part of your company’s marketing and sales strategy is to maximize business opportunities with large, global brands, you need to address your social impact sustainability risks if you want to get Unilever’s business. In its sustainability report, Unilever points out: “All our suppliers are asked to complete a self-declaration regarding their compliance to the Mandatory Requirements of the RSP [responsible sourcing process]. We segment suppliers based on a risk assessment using externally available indices of business and human rights risks from expert sources. Suppliers in the highest risk segment are required to undergo an independent third-party audit. Raw material or finished goods suppliers are required to undergo an on-site audit, while service suppliers need to undergo a remote (desk-top) audit.”25
This is a good example of the strategic and competitive challenges businesses that don’t invest in sustainability face—from additional costs to win and keep business to the possibility of not winning the business at all. These risks are increasing as sustainability takes hold, and they should be part of the sustainability business case. 24 U. S. Securities and Exchange Commission, 17 CFR PARTS 211, 231 and 241 [Release Nos. 33-9106; 34-61469; FR-82] Commission Guidance Regarding Disclosure Related to Climate Change. 25 https://www.unilever.com/Images/human-rights-progress-report_tcm244-513973_en.pdf p. 18.
12
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
OPERATIONAL RISKS sustainability is integrated into business operations is influencing operational outcomes. For example, the way a company manages the use and storage of chemicals onsite can affect the number of workersafety incidents as well as the risk of being temporarily shut down by regulators for infractions.
Company operations—from manufacturing to HR to real estate—should add value to the enterprise. Academics and others have long studied the opportunities and risks associated with business operations, and business schools devote parts of their curricula to the subject. Today, however, how
Sustainability is a part of operational risk. Without operational risk management, sustainability goals are less likely to be achieved. In Automation World magazine, Matt Littlefield of consultancy LNS Research wrote, “Companies must acknowledge how important operational risk management is to the overall performance of the firm, including sustainability. Given that risk touches the entire product lifecycle, from design and manufacturing to sales and service, successful risk management is a proxy for operational risk. It therefore becomes increasingly important for manufacturers to explicitly manage risk and employ people and processes dedicated to this aim.”26
This quote, although speaking specifically about manufacturing operations, applies equally to the design and delivery of a service and other business operations essential to sustaining a business. Here’s another example of a company addressing operational risks through sustainability: [US TELCOM COMPANY] undertook a sustainability project in part to address operational risks. Swapping out diesel-fuel-powered backup generators for hydrogen fuel cells created a much more environmentally friendly solution. But, with communities and regulators clamping down on diesel emissions, [US TELCOM COMPANY] also saw a threat to its operations. “Our network needs to be up and running. That means we need backup power generation at our sites that can last a few days. Diesel equipment had done that job, but with communities and regulators (especially the California Air Resources Board) increasing scrutiny of diesel’s pollution and carbon footprints, we took advantage of an opportunity to introduce a very sustainable fuel source for backup power. This way, we can ensure operational reliability and meet sustainability goals,” said [MANAGER NAME, US TELCOM COMPANY].27
26 https://www.automationworld.com/article/sustainability-operational-risk-management-any-other-name 27 Telephone interview with [MANAGER NAME, TITLE, US TELCOM COMPANY], January 8, 2019.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
13
FINANCIAL RISKS Financial risks associated with environmental and social impacts usually stem from lax oversight, lack of compliance with laws and regulations, faulty planning, poor execution or misleading reporting. These risks include:
Fines and penalties Companies that run afoul of environmental and social impact laws and regulations face the possibility of losing their license to operate. More commonly, however, regulators levy large fines and penalties against transgressors.
•
•
After its oil spill, BP had to spend over $61.6 billion in court fees, penalties and clean-up costs.29
•
In 2017, ExxonMobil was ordered to pay $19.95 million for excess air pollution that had come from one of its refining and chemical plants between 2005 and 2013.30
In 2010, the State of Kerala, India, recommended fining Coca-Cola $48 million for unlawfully depleting and polluting water resources in the village of Plachimada.28
Increased costs Companies not addressing sustainability may incur increased direct costs in several ways, including buying more resources than they need (resource suboptimization) and making unplanned human capital and other expenditures to rectify unaddressed sustainability lapses. In the insurance industry,
increased costs associated with sustainability issues come in the form of (a) higher-than-average payouts related to increased damages from more extreme weather and even sea level rise and (b) decreased value of invested assets.
Insurance giant Allianz flatly states its understanding of the potential financial impact. When discussing financial risk in its public disclosure documents, the company states, “Allianz believes climate change will materially affect all economies and all our lines of business.”31 Allianz is focused on “financial risks . . . resulting from climate change liability or the process of transitioning towards a lowcarbon economy, including changes in climate policy, technology or market sentiment, and impacts thereof on the market value of financial assets.”32 As a result, Allianz has built a robust scenarioplanning strategy as a part of its insurance and investment stress-test process.
28 https://in.reuters.com/article/idINIndia-47150120100323 29 https://www.washingtonpost.com/business/economy/bps-big-bill-for-the-worlds-largest-oil-spill-now-reaches-616-billion/2016/07/14/7248cdaa-49f0-11e6-acbc-4d4870a079da_story. html?noredirect=on&utm_term=.0365b61eef47 30 https://uk.reuters.com/article/us-refinery-pollution-exxon-penalty/judge-says-exxon-owes-19-95-million-for-texas-refinery-pollution-idUKKBN17T08H 31 https://www.allianz.com/content/dam/onemarketing/azcom/Allianz_com/investor-relations/en/results/2017-fy/180410-en-Sustainability-Report-2017.pdf p. 87. 32 Ibid.
14
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
Loss of Revenue Companies that do not focus on sustainability issues also run the risk of losing sales and market share. This is because an increasing percentage of buyers (both B2B and B2C) are demanding that environmental and social responsibility be reflected in the products they
buy and the companies they buy from. Companies understand that the financial risks associated with neglecting sustainability are part of the case for making the necessary investments.
For example, Eaton’s supply chain sustainability team had to develop a complex, cross-functional due diligence approach to determining the source and origin of tin, tantalum, tungsten and gold (commonly referred to as “conflict minerals”) in its products. During the strategic planning and implementation process, a cross-functional team from product engineering, supply chain, sustainability, legal, and marketing and sales developed a business case for an end-to-end due diligence and reporting process that effectively addressed not only regulatory requirements, but also Eaton’s vision to improve quality of life, reduce environmental impacts and meet growing responsible sourcing expectations from key customers and other stakeholders. “Eaton was able to identify and incorporate best practices that went ’beyond-compliance’ and aligned with its vision to help ensure that Eaton is not only meeting its regulatory requirements, but further enables us to retain key customers and even possibly attract new customers,” said Jonathan Newton, Eaton’s senior manager responsible for supply chain sustainability.33
33 Telephone interview with Jonathan Newton, Eaton Corp. Senior Manager, January 10, 2019.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
15
CAPITAL RISKS Beyond direct costs or loss of revenues, companies that do not invest in or poorly manage sustainability issues face risks associated with the availability and cost of capital. They face evergrowing pressure from the business media, investment analysts and institutional investors to identify material concerns and design and implement strategies to address these issues.34
The evidence is clear and mounting: Companies that failed to perform well on material sustainability issues based on the Sustainability Accounting Standards Board criteria saw only a 1.50 percent stock return in annualized alpha. However, companies that did invest in material sustainability issues saw a 4.83 percent stock return.35
ESG risk events have caused companies’ stock prices to fall dramatically. For example, the Deepwater Horizon oil spill caused BP’s stock price to tumble 28.2 percent in one year. The Volkswagen automobile emissions scandal led the company’s stock price to drop by 26.4 percent in one year.37
A Barclays study found “that portfolios that maximize ESG [environmental, social and governance] scores while controlling for other risk factors have outperformed the index, and that ESG-minimized portfolios underperformed.”36
The Norges Bank in Norway, which holds $260 billion in assets, requires companies to show climate risk mitigation and water management strategies, or it will be more likely to divest.38
As with equity investments, debt may be priced differently for companies that fail to address sustainability. Institutional lenders can deny credit or charge a premium for borrowed capital. A study by researchers at the Georgia Institute of Technology looked at the relationship between corporate environmental performance and the cost of capital. Scanning a large data set, the research team found that lenders charged companies with greater environmental risks almost 20 percent higher interest (around 25 basis points) on their bank loans.39 Conversely, lenders reduced interest rate spread for firms with environmentally friendly products or services: These companies enjoyed about 20 percent lower interest on their loans.40 For companies that tap the equity and debt markets, or that borrow from financial institutions, capital risks present a strong business case for sustainability work.
SUPPLY RISKS 34 35 36 37 38 39 40
16
In the investment community, sustainability concerns are referred to as “ESG,” which stands for “environmental, social and governance” issues. https://hbswk.hbs.edu/item/corporate-sustainability-first-evidence-on-materiality https://www.investmentbank.barclays.com/content/dam/barclaysmicrosites/ibpublic/documents/our-insights/esg/barclays-sustainable-investing-and-bond-returns-3.6mb.pdf https://www.morganstanley.com/im/publication/insights/investmentinsights/ii_esgandthesustainabilityofcompetitiveadvantage_us.pdf https://www.theguardian.com/sustainable-business/2014/sep/23/business-companies-profit-cdp-report-climate-change-sustainability https://nbs.net/p/risky-business-lenders-charge-premiums-to-finance-risk-7710f47c-c923-4def-9b12-5fdb961190b3 Ibid.
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
We know that a significant portion of a business’s overall impact on the environment and society is not contained within its four walls but rather in its “upstream” supply base. Companies source and procure goods and services from hundreds—and often thousands—of domestic and foreign suppliers. And those suppliers themselves (“Tier 1” suppliers) in turn source and procure goods and services from other companies (to the first company, these are “Tier 2 and beyond” suppliers). The activities of each
of these businesses create value all the way along the line. But they can also represent risk that can flow downstream. This is true if there are negative environmental or social impact activities in these upstream businesses—they can cause direct or indirect harm to their customers. But the real supply risk here is that one of these upstream businesses, because of lax sustainability management practices, will be unable to deliver the goods and services required at the cost contracted for.
For example, retail brand Company A sources apparel from contract manufacturer Company B with strict rules contained in a code of conduct. Company B, eager for the work, agrees to produce the products in an amount that is beyond its internal capacity. Company B, therefore, sends some of the orders to Company C, run by good friends. This action violates Company A’s code of conduct; moreover, Company B does not tell Company A of its actions. Company C is visited by local environmental regulators who find serious infractions and shut the company down until the impacts are remediated and a fine is paid. Company C tells Company B, but Company B does not have enough time in the delivery schedule to find another partner to fill its capacity gap. Company B ends up shortshipping on its orders from Company A, backordering almost half of the required goods.
This example shows supply risks associated with supplier sustainability practices. These risks can be called out in a business case statement for sustainability work.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
17
Building on Risk—Opportunities to Consider in a Sustainability Business Case As we noted before, companies often begin their sustainability journey identifying and managing risks, so many of their first business case statements focus on these considerations. But as a company’s approach to sustainability matures—sometimes over months or even years—it inevitably finds more comfort in and desire for work on the opportunity side of the equation. The progression from risk to opportunity is rarely linear, and sometimes numerous business case statements for exploiting opportunities are made very early in a sustainability journey. Let’s look at the most common opportunities that companies explore, each of which can bolster the business case for sustainability work.
COMPETITIVE ADVANTAGE Companies with products that incorporate aspects of sustainability and companies that implement sustainable business practices can use these attributes to their advantage, due to two factors: (a) Not all companies, even within an industry, offer sustainable products or services or display sustainable practices.
(b) A greater number of customers perceive value in these attributes.41
As a result, companies that invest in sustainability now can reap benefits that aren’t available to their peers. •
•
Way back in 1995, respected academics/ researchers Michael Porter and Claas Van der Linde wrote a seminal article in the Journal of Economic Perspectives on the relationship between corporate environmental responsibility and competitiveness.42 Although somewhat of a manifesto for a shift in environmental regulations, the authors presented a strong case for the link between sound environmental management and industry competitiveness.
and talent recruitment and retention efforts.43 In its annual report on the program, Umicore states that it is explicitly “turning our leadership in sustainability into a greater competitive edge.”44 •
Umicore, a leader in clean materials and recycling that is based in Europe but with worldwide operations, launched its “Horizon 2020” plan in 2015. Regarding sustainability, the program includes three planks: sustainable supply/ sustainable products and services, eco-efficiency,
Florida Ice, a Pepsi bottling plant, invested in sustainable technology in 2008 that resulted in reducing the amount of water required to produce a liter of beverage from 12 to 4.9 liters. The company also developed a balanced scorecard and a triplebottom-line accounting system. From 2006 to 2010, Florida Ice recorded a compound annual growth rate of 25 percent and earnings before interest, taxes, depreciation and amortization (EBITDA) margins of 30 percent, both of which were twice the industry average.45
41 A 2014 Nielsen study found that brands that promote sustainability actions through their marketing programs saw an average annual sales increase of 5 percent, compared with a 2 percent increase for those that only made sustainability claims on product packaging and a 1 percent increase for those with no sustainability claims. https://www.nielsen.com/us/en/press-room/2014/globalconsumers-are-willing-to-put-their-money-where-their-heart-is.html 42 Journal of Economic Perspectives, Vol. 9, No. 4 (Fall 1995), pp 97 – 118. 43 http://annualreport.umicore.com/our-progress/horizon-2020/ 44 Ibid. 45 https://hbr.org/2013/03/making-sustainability-profitable
18
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
•
A 2014 study by nonprofit CDP found that companies that actively manage and plan for climate change produce an 18 percent higher return on investment than companies that did not. More significantly, companies that took steps to mitigate
climate impacts saw a 67 percent higher return compared to companies that do not disclose or mitigate emissions.46 This higher ROI suggests that sustainability enables competitive advantage.
INNOVATION AND NEW PRODUCTS Customers—whether B2B or B2C—are always seeking the “new thing.” Whether it is more bells and whistles, lower price or something that satisfies an as-yetunknown need, companies sustain and grow their businesses by offering new goods and services. Some of these are the result of truly remarkable innovation. But what about innovation based on sustainability that leads to new products? Is this part of the business case for working in sustainability? The answer is yes. •
“significantly better margins” once production scaled. •
In 2012, Nike introduced “Flyknit” shoes, manufactured with advanced digital knitting technology that results in 60 percent less manufacturing waste. Nike also partnered with a machinery supplier to eliminate water in the Flyknit dyeing process, saving 100 to 150 liters of water per kilogram of textile. Nike CEO Mike Parker stated that Flyknit would likely offer
“Cradle-to-cradle” and “design-for-theenvironment” approaches to product design are protocols for product innovation that incorporate strong sustainability features. By offering a structured approach to materials selection and “upcycling” product components at the end of their useful lives, these disciplines give companies an opportunity to offer customers truly sustainable products that may replace or complement existing products. These are challenging tools to use correctly, but companies have succeeded in understanding the value investing in this work can bring—new products for existing and new customers.47
CREATING NEW MARKETS FOR GOODS AND SERVICES Companies can create new markets by offering products and services with beneficial sustainability profiles. Again, this upside to investing in sustainability is derived from the fact that customers actively choose to purchase from companies that make genuine sustainability claims. •
46 47 48 49 50 51
Target is a great believer in the power of sustainability to open new markets. Starting from a 2010 customer survey that found that customers cared about products’ environmental attributes, the company created a “Sustainable Product Standard” in 2013 that focused on chemicals, packaging, environmental impacts and animal testing associated with products sourced from
suppliers.48 Target saw a 17 percent growth in sales from 2014 to 2015 related to its “natural and organics” product category.49 •
Unilever launched a new personal care brand at the end of 2017 titled “Love, Beauty and Planet” to go after “growth vectors that are attractive to the highly coveted millennial cohort: ‘brands with purpose.’”50 The products are made from ethically sourced oils, and the bottles are made of 100 percent recycled plastic. Unilever believes these products will continue to grow, since they delivered more than 60 percent of the company’s 2016 growth.51
Download “CDP S&P 500 Climate Change Report 2014” from https://www.cdp.net/en/reports/archive?page=6&per_page=5&sort_by=published_at&sort_dir=desc For a good discussion of the cradle-to-cradle and “life cycle analysis” tools, see https://www.researchgate.net/publication/236631036_Designing_Cradle_to_Cradle_products_a_reality_check https://www.greenbiz.com/blog/2013/10/08/target-and-goodguide-team-rate-sustainable-products https://hbr.org/2015/08/how-target-is-taking-sustainable-products-mainstream http://fortune.com/2017/12/13/unilever-new-brand-love-beauty-and-planet/ Ibid.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
19
CREATING ECONOMIC VALUE ACROSS THE VALUE CHAIN Another opportunity-based part of the business case for sustainability work is the possibility of creating value up and down a value chain. By addressing environmental and social issues together, suppliers and customers can create cost savings and new revenue opportunities and share in the gains. Creating value based on sustainability improvements in value chains is popular. •
According to an HSBC report, 84 percent of businesses are making ethically or environmentally sustainable changes to their supply chains to support cost efficiencies, while 84 percent of companies are looking to make ethically or
environmentally sustainable changes to improve revenues/financial performance.52 •
In a 2012 article in Slate magazine, former Nestlé CEO Kim Jeffrey noted how dematerializing Poland Springs water bottles saved costs up and down the line. Working with its suppliers to re-engineer the bottles saved Nestlé 200 million pounds of plastic at 90 cents per pound.53
•
An academic research study that investigated the complex aspects of creating shared value in supply chain focuses on the role of sustainability.54
EMPLOYEE RECRUITMENT AND RETENTION Current employees and candidates for future employment are interested in working for companies that reflect their values by paying attention to environmental and social responsibility obligations.
The strongest driver here is the values that millennials are bringing to their job search strategies, but a close second is the desire for employees of all sorts to be engaged.
PwC completed a study in 2011 that found that millennials entering the workforce are highly attuned to corporate social responsibility: “Millennials are attracted to employer brands that they admire as consumers. In 2008, 88% were looking for employers with CSR values that matched their own, and 86% would consider leaving an employer whose values no longer met their expectations. Fast forward three years and just over half are attracted to employers because of their CSR position and only 56% would consider leaving an employer that didn’t have the values they expected. Millennials are also turned off by some entire sectors—30% of Swiss respondents said they would not work in banking & capital markets.”55
A Yale study of business school students found similar results.56
52 53 54 55 56
20
https://www.business.hsbc.com/trade-navigator/sustainability https://slate.com/business/2012/06/poland-springs-new-bottles-why-are-they-so-thin-and-flimsy.html https://www.springer.com/cda/content/document/cda.../9783319121413-c1.pdf? https://www.pwc.de/de/prozessoptimierung/assets/millennials-at-work-2011.pdf, p. 4. http://cbey.yale.edu/sites/default/files/Rising%20Leaders%20on%20Environmental%20Sustainability%20and%20Climate%20Change%20Nov_2015.pdf
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
A 2018 survey of millennials by Deloitte found that only a minority believes that corporations behave ethically (48 percent) and that business leaders show commitment to improving society (47 percent). Three-quarters of respondents said that businesses focus on their own agendas rather than considering societal needs. A majority (67 percent in developed economies) agree with the statement that businesses “have no ambition beyond wanting to make money.”57 These figures suggest that the business community faces significant risk associated with recruiting the next generation of valuesdriven leaders.
Marks + Spencer’s “ambitious customer-focused sustainability plan,” dubbed “Plan A” and launched in 2007, has several environmental and social impact planks. It is a well-studied and well-regarded plan by a major retailer. In discussing the business case behind Plan A, M + S management notes,
“In interviews, candidates often mention Plan A as a reason why they want to work for Marks & Spencer, and we know they’re not just saying it to get the job! The Plan A team are regularly contacted by new starters to find out more about how they can get involved. Our employee survey also confirms that Plan A contributes significantly to job satisfaction.”58
THE UN SUSTAINABLE DEVELOPMENT GOALS In 2015, countries adopted the United Nations’ 2030 Agenda for Sustainable Development and its 17 Sustainable Development Goals (SDGs). The SDGs are a follow-on to the Millennium Development Goals and complement the Paris Accord on climate change reached in 2016. According to the UN, “The SDGs build on the success of the Millennium Development Goals (MDGs) and aim to go further to end all forms of poverty. The new Goals are unique in that they call for
action by all countries, poor, rich and middle-income to promote prosperity while protecting the planet. They recognize that ending poverty must go hand-inhand with strategies that build economic growth and addresses a range of social needs including education, health, social protection, and job opportunities, while tackling climate change and environmental protection.”59
The 17 SDGs are: 1.
no poverty
10. reduced inequalities
2.
zero hunger
11.
3.
good health and well-being
4.
quality education
12. responsible consumption and production
5.
gender equality
6.
clean water and sanitation
14. life below water
7.
affordable and clean energy
15. life on land
8.
decent work and economic growth
16. peace, justice and strong institutions
9.
industry, innovation and infrastructure
17.
sustainable cities and communities
13. climate action
partnerships for the goals
57 https://www2.deloitte.com/content/dam/Deloitte/global/Documents/About-Deloitte/gx-2018-millennial-survey-report.pdf 58 https://corporate.marksandspencer.com/documents/plan-a-our-approach/key-lessons-from-the-plana-business-case-september2012.pdf, p. 19. 59 https://www.un.org/sustainabledevelopment/development-agenda/, scroll to “About.”
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
21
While the SDGs are couched in terms of national policies, the business community has embraced them as a framework for addressing sustainability. Reviewing how the SDGs can help transform business, consultancy EY has written: “Companies are facing challenges that limit their potential to grow, such as scarce natural resources, weak financial markets, limited local buying power and lack of qualified talent. We see a clear business case for companies to harness the SDGs to create opportunities to address these challenges across four key themes: growth, risk, capital and purpose.”60 Siemens sees real value in using the SDGs not just as a management tool but also as door-openers: “We believe that the SDGs are a responsibility but also offer new business opportunities to Siemens, notably by opening doors to work with national and local governments that want to reshape their own development agenda.”61 Commenting specifically on implementing SDG 17 (partnerships for the goals), Siemens states, “We regularly adjust to trends and specific requirements based on constant dialogue with key stakeholders such as investors, suppliers, employees, communities, policymakers, media, non-governmental organizations, business organizations and academia. These engagements create opportunity on all sides of the equation through the exchange of knowledge and information and creative partnerships.”62
Pepsi has aligned its enterprise-wide sustainability plan with the SDGs: “Our Performance with a Purpose 2025 Agenda sets goals informed by some of the world’s leading experts and institutions, and we have mapped our plans against the United Nations SDGs.”63
60 61 62 63
22
https://www.ey.com/en_gl/assurance/why-sustainable-development-goals-should-be-in-your-business-plan https://www.siemens.com/investor/pool/en/investor_relations/siemens_sustainability_information2017.pdf, p. 10. Ibid., p. 11. https://www.pepsico.com/docs/album/sustainability-report/2017-csr/pepsico_2017_csr.pdf?sfvrsn=4bee0b1d_24, p. 9.
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
NEW BUSINESS MODELS Companies that adjust their business models (in whole or in part) in response to sustainability are more likely to reap rewards than those that do not make changes. Existing companies can make changes to specific elements of their business model—research and development, manufacturing, marketing, sales—and see better financial results with each change. This is the conclusion of a research study conducted jointly by the MIT Sloan School of Management and the
Boston Consulting Group.64 The research revealed that almost 70 percent of companies that made at least one sustainability-initiated change saw some added value. Moreover, companies that made more changes saw more added value. This held true across sectors and geographies. Clearly, the opportunity to increase profits by changing business model elements from having a sustainability plan bolsters the business case for sustainability.
Waste Management, Inc., the $14 billion market leader in garbage disposal, thought strategically about shifts in its business related to sustainability trends. In 2007, it estimated that some $9 billion worth of reusable materials might be found in the waste it carried to landfills each year. At about the same time, its customers, too, realized that they were throwing away money. Waste Management established a business unit, called Green Squad, to generate value from waste. For instance, Green Squad partnered with Sony in the United States to collect electronic waste that was being sent to landfills. Instead of being just a waste trucking company, through adopting a new business model, Waste Management has built a new business and shown customers how to reduce waste and how to recover value from waste.
THE CIRCULAR ECONOMY Traditional economic models create value by transforming inputs (materials, labor, technology, know-how) into products and services. This structure has created enormous benefits to society. But it also has inherent problems: Economic growth and prosperity are tied to consumption, resulting in inefficient use of scarce resources and waste impacts that harm the planet rather than adding value. What if there were another way? The “circular economy” concept suggests that a better alternative exists.
As defined by the Ellen Macarthur Foundation, “a circular economy aims to redefine growth, focusing on positive society-wide benefits. It entails gradually decoupling economic activity from the consumption of finite resources and designing waste out of the system. Underpinned by a transition to renewable energy sources, the circular model builds economic, natural and social capital.
It is based on three principles: •
Design out waste and pollution
•
Keep products and materials in use
•
Regenerate natural systems.”65
64 https://sloanreview.mit.edu/files/2012/12/f0bfde1b37.pdf 65 https://www.ellenmacarthurfoundation.org/circular-economy/concept
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
23
This rethinking of how to maximize organizational and societal value—a true paradigm shift— can underpin the business case for sustainability work, from enterprise-wide strategies to one-off projects. “Drive. Recycle. Wear.” Footwear and apparel manufacturer Timberland has used circular economy principles in its partnership with tire manufacturer Omni United. The two companies have jointly produced a line of premium passenger tires that are recycled into Timberland products after serving their initial purpose. “Timberland tires are the first tires ever purposefully designed to be recycled into footwear outsoles after their journey on the road is complete. The most low-tech, least intrusive way to break down tires and reuse them is the best option for our ecosystem.”66
Nonprofit CDP’s director of water security reports that the organization has seen a 61 percent increase since 2016 in the number of companies employing circular economy principles and tools to improve water quality.67
66 https://www.timberland.com/blog/archive/timberland-tires.html 67 http://sdg.iisd.org/news/cdp-data-show-more-companies-voluntarily-disclosing-performance-on-sdg-6/
24
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
4
Trends and Special Considerations We’ve presented an overview of the role and elements of the business case for sustainability in the current business environment. One important trend—the increasing importance of ESG-based investing and the evolution of the capital markets—bears discussion because of its strong influence on both the role and the elements of the sustainability business case.
ESG-MOTIVATED INVESTORS AND THE FLOW OF CAPITAL We discussed financial risks associated with poor sustainability practices in the section above. But what about the converse? Does the possibility of a premium on enterprise value or attracting capital more readily create a new opportunity for business value through sustainability work? For some time, academics and others have tried to find evidence of a link between sound sustainability practices in a business and its
enterprise value. Numerous studies have confirmed the link, although no concrete evidence shows that the sustainability practices alone are the cause of the value premium. In any case, there is a sense that companies that manage environmental and social impacts well attract capital from both the socially responsible and traditional investment communities.
A Barclays study noted that investors were increasingly focused on corporate responsibility: “The rise in responsible investing has followed the growth and increasing sophistication of large institutional investors such as pension plans, sovereign wealth funds, insurance companies and mutual fund managers. As these institutional asset owners are ultimately accountable to a large base of individual policyholders, they have in many cases found it necessary to align their investment processes with the priorities and values of their beneficiaries.”68 The study found that “portfolios that maximize ESG scores while controlling for other risk factors have outperformed the index, and that ESG-minimized portfolios underperformed.”69 But the study noted that of the three aspects of ESG, governance mattered the most to asset managers, who control where capital is invested, whereas asset owners were most focused on environmental responsibility.70
Daniela Foster, senior director of global corporate responsibility at Hilton, gave a compelling speech to the United Nations in 2016. In many interviews, she has noted that she had presented Hilton’s board of directors with multiple business cases to show that investors are increasingly interested in sustainability and see ESG as an opportunity.71
The rise of the ESG investor is a trend to watch. In time, we believe that capital will flow more easily (and at a lower price) to those companies that have invested in sustainability than it will to laggards in environmental, social and governance performance.
68 69 70 71
https://www.investmentbank.barclays.com/content/dam/barclaysmicrosites/ibpublic/documents/our-insights/esg/barclays-sustainable-investing-and-bond-returns-3.6mb.pdf, p. 6. Ibid., p. 30 ff. Ibid., p. 13. A recorded interview is available at https://innovation-forum.co.uk/analysis.php?s=microsoft-and-hilton-on-sustainabilitys-business-case-and-how-to-save-1bn.
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
25
5
Conclusion Because sustainability is a relatively new concept to the business world, it is worth asking why companies invest in this journey. After all, a business’s journey to a sustainable enterprise includes investments of time, money, physical assets, know-how and collaborative skills. It includes large-scale strategies supported by multi-initiative pillars, functional-level activities and one-off projects. And it competes with other corporate and functional priorities for management’s attention and commitment.
This issue brief has cast the business case for sustainability in terms of both risk mitigation and opportunity exploitation—and sometimes a combination of the two. We have shown how environmental and social impact risks can compel investments in sustainability work. And we have shown how companies can call out opportunities such as competitive advantage, value creation and improved employee recruiting and retention results in their sustainability business case. Finally, we have noted the power of the responsible-investor movement to shape corporate behavior in the realms of environment, society and governance.
Peter Senge, in his seminal book The Necessary Revolution, notes that “companies that do little or nothing to address sustainability issues risk losing market share, cutting off their access to the best and brightest employees, and causing severe damage to corporate reputations and market capitalization.”72 Further building on this concept, Senge refers to comments made by Jeffrey Immelt, then-CEO of General Electric, regarding the sustainable-business imperative:
“When society changes its mind, you better be in front of it and not behind it, and this is an issue in which society has changed its mind.”73
72 Peter Senge, Bryan Smith, Nina Kruschwitz, Joe Laur and Sara Schley, The Necessary Revolution (Doubleday 2008), p. 104. 73 Ibid., p. 106.
26
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
6
Resources {to come}
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
27
Notes
28
UNIVERSITY OF MICHIGAN | Erb Institute | Business for Sustainability
The Business Case for Sustainability
THE BUSINESS CASE FOR SUSTAINABILITY | JANUARY 2019
29
PREPARED BY: Robert W. Kuhn, Kuhn Associates Sustainability Advisors LLC
EDITOR: Sara Soderstrom, Ph.D., Assistant Professor of Organizational Studies and Program in the Environment, College of Literature, Science and the Arts
January 2019
Š 2019 by the Regents of the University of Michigan