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The Industry Composition Changes From COVID-19 Fallout

The industry composition changes from the COVID-19 fallout will be enormous. The firms with the most robust operating models that deliver value without people needing to leave their homes will emerge in a dominant position. The firms that rely on in-person service delivery will struggle to rebuild their revenue once social distancing becomes a new way of life. The impact on households will be dark as many stores closing now will never reopen.

The rapid spread of COVID-19 and the accompanying public health restrictions have caused millions of job losses globally. The speed of the economic collapse of the entire industry sectors of tourism, air travel, retail, hospitality and personal services is unprecedented. Different countries have responded with varying policy responses to slow the spread of the virus.

Some have focused on the banks and business. Others have focused on jobs and wage subsidies. Some have tried to balance a mixture of support across the economy. This human tragedy is a real-time policy experiment across countries where everyone can see the different outcomes of different ideological belief systems.

We are dealing with both a health and an economic crisis. It is juvenile to ignore that there are tradeoffs governments are making, whether we agree with them or not. There is some modelling behind their decisions to move from one level of restrictions to a higher level. One of the things politicians are responsible for is making the calls based on the advice they receive. That’s part of what modern Westminister democracy entails – outsourcing political judgment to politicians, supported by the public service.

One concerning aspect of the policy response so far is that the crisis has highlighted the weaknesses of many existing business models. Typically, a recession would lead to those businesses closing down as part of the normal business cycle of creative destruction. In this case, a rapid collapse in economic activity in some cases because of government decisions means that many businesses are closing well ahead of where they would have failed in the next economic downturn.

The rational response of many boards and senior executives has been to lobby the government to secure an industry-specific support or bailout package. Small businesses don’t have that option. The support offered to banks to extend lending terms or provide low-interest bridging finance for an indeterminate period looks good at first blush but doesn’t pass the real-world test.

The reason why many businesses won’t take on additional debt in a time of high uncertainty is that if their revenue has gone to zero, they are still incurring fixed costs. They will try and reduce as many of those fixed costs as possible, and may not have the cash to be able to top up wages for a wage subsidy or even let people take annual leave or sick leave for a month.

Hence, many layoffs and redundancies have happened already irrespective of whatever policy response the government has deployed. The likely announcement of a wage subsidy in Australia today is too late for all the people already lining up at Centrelink. In New Zealand, every second day, MBIE announces little tweaks to the wage subsidy in perhaps the best example of iterative policy implementation in the country’s history.

When it comes to identifying industry composition changes from COVID-19, strong balance sheets are a crucial factor. In the hospitality sector, a clearout of small businesses is likely, leaving many countries with national chains and franchises the last ones standing on the other side of the bridge. Unless retail landlords give rent holidays, lots of cafes, bars and restaurants will have no choice but to close down. Given that very few own their premises, the prospects for independently owned hospitality operators is bleak.

Because of the uncertainty of the COVID-19 pandemic, it’s unlikely many small business owners will take on more debt other than out of pure desperation. If you trace back the impact of zero revenue and work backwards to who loses, generally it is property owners and the banks. Their tenants may default, and their borrowers may default. This reality is how a health crisis becomes a financial crisis.

There are now three crises – health, economic, financial. All three are interlinked, but the primary focus of many governments has been the economic and financial crisis. The health crisis has had far less government money directed to it. There will be real-world consequences from this approach.

For example, the purchase of residential mortgage-backed securities by the central bank is a significant change in the expected behaviour of a central bank. If the central bank is becoming the entity holding the credit risk hot potato, what is the point of the banking sector? What was the justification of the enormous investment in higher regulatory standards since the Global Financial Crisis if a stress event of 1 month changes everything?

The US Federal Reserve mainly spent a decade doing and then trying to rewind quantitative easing. Now it is going full speed on quantitative easing again. How can you price risk responsibly in such an environment? There are enormous problems that will stem from the panicked responses to this crisis. Those who most need a bailout don’t have a hope of getting nearly as much as they may require through no fault of their own.

The impact of COVID-19 on the retail sector is another one to watch. With physical retail stores closed, and staff stood down, how likely is it that firms will reopen them on the other side of the bridge? Already, retail in Australia was struggling. Many firms will use this crisis as an opportunity to accelerate plans to reduce store numbers and increase online shopping share of their revenue.

Some will use the crisis to close underperforming brands or chains and exit onerous lease obligations wherever they can. The face of retail will never be the same again. The impact on major landlords such as shopping centres will be grave. In the USA, commercial mortgage-backed securities could be in deep trouble. How many rent payments will they receive on April 1? Many retail chains there have told their landlords they would not pay the rent for the duration of this crisis.

The most challenging impact so far is the people who have already lost work because of this crisis. Recessions are particularly brutal because a proportion of people who become unemployed in downturns never work again.

Many parts of the economy will “bounce back” from this crisis. However, lots of people will lose their lives due to COVID-19 complications, and many will have ongoing issues like lung scarring and respiratory problems. The human cost will be enormous, and the overall human tragedy will be higher if the economic situation keeps accelerating towards a global Great Depression.

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We Will Judge Businesses – ESG Risk And COVID-19

The rapidly escalating COVID-19 global pandemic is causing enormous pain for people affected by its spread. The rising death toll and number of cases around the world is growing exponentially, just as experts predicted it would earlier in the year. The different response of many countries is a real-time experiment with people’s lives. There couldn’t be a more tragic way for 2020 to have turned out so far.

We will judge businesses and their response to COVID-19. The good ones are doing what they can to do right by their customers, their employees, their suppliers and their communities. The not-so-good ones are using a public health crisis as a lobbying opportunity for industry-specific bailouts and carveouts that protect executive compensation in a time of mass layoffs. Many boards and senior executives still haven’t learned the lessons from the Global Financial Crisis – your social license to operate can be revoked at any time in this new political climate if you act up.

One of the lessons of the past few weeks is that many well-managed businesses have been able to deal with this crisis as good corporate citizens. They had strong balance sheets, clear business continuity plans invoked, and the right attitude towards their stakeholders. These businesses operated in industries where their margins enable them to invest in preparedness and do the type of work where they can send their staff to work from home with no issue.

Small businesses are in a completely different situation. Already, non-compliance with regulation and community norms is an issue for small businesses. They are likely to be under-capitalised, trading on modest margins in highly competitive industries and aren’t going to have the balance sheet to “get to the other side of the bridge”.

Many small business owners will have looked at proposed support from their bank and wondered how on earth that helps them make lease payments and pay trade creditors. Many will have realised they can’t even last a month without revenue, and the rational course of action is to layoff their staff and close the business down.

Larger businesses not big enough to land a bailout will have moved fast to plan and execute redundancies and stand-downs. This fast decision making is because their cash flow pressures mean they can’t even wait a week because of how fragile their business model is to adverse external shocks.

There is a real-time example in New Zealand: Air New Zealand was able to secure a government loan with associated conditions, still stood down most of its people. Virgin Australia was not able to obtain any support, so is now consulting on closing its entire New Zealand operation.

There are many arguments from both sides – letting businesses close down isn’t the end of the world as long as there are strong social security supports for the people impacted. Because of the speed at which this crisis has developed, the welfare system in many countries is being overwhelmed. Lots of business owners have realised the uncertainty ahead and just pulled the trigger, likely without advice or engaging with any potential support avenues.

We will judge businesses by how they respond to this crisis. Already, some major corporations have shown their true colours and gone back on all of the ESG statements and claims they have made over the past few years. By re-running previous crisis playbooks, they are unlikely to have the goodwill of their stakeholders on the other side of the bridge. It’s already a difficult enough time for the world – doing the right thing is seemingly too hard for many. It’s great to see some businesses stepping up responsibly, they’re the ones who’ll survive.

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The Economic Impact of COVID-19 On Australia And New Zealand

The economic impact of the COVID-19 pandemic on Australia and New Zealand is going to be enormous. The governments of both countries have already announced substantial support packages, the central banks are easing monetary policy on a vast scale, and the private sector has begun to make enormous changes in how they do business.

The scale of the impact from a public health perspective is enormous. Everyone apart from essential workers self-isolating is going to happen within weeks. Many experts suggest it should already be in place, and some businesses able to offer working from home have already embraced it. For businesses, this is a massive health and safety issue. Your people should not come into the office unless they have to.

For frontline workers, enormous focus on deep cleaning and provision of appropriate safety equipment is the bare minimum you should be providing. If a business is making no revenue, it needs to cut its costs. It no longer matters if there are contracts involved. Fixed expenses will go down.

The advice from public health officials is always changing. However, the impact of social distancing and self-isolation means that the hospitality and tourism sectors are now over. For the duration of these restrictions industries in deep trouble include aviation, most non-essential retail, and any discretionary or entertainment spending.

What this crisis and the response is highlighting is the fragility of the current economic order. Casual workers, households and small businesses are now the unprepared shock absorbers of risk in the system. The rapid deterioration in asset prices around the world represents a rational reaction to uncertainty over what the present value of those future cash flows is under these economic circumstances.

However, asset prices going up or down doesn’t help households paying bills. The inflexibility of many contracts entered into by businesses or families will accelerate the economic fire we are experiencing. The relevant public health requirement of social distancing flies in the face of economic reality for many households. They simply cannot afford not to work, and their small business cannot afford to operate with $0 in revenue.

There are many ESG risks for firms here. How do they treat their employees? How do they treat their customers? How do they treat their suppliers? Doing the right thing is more important than ever. The behaviour of firms throughout this process will be under the microscope, and any poor decisions will be franchise destroying. All of the goodwill built up inside a brand or reputation can be damaged by making silly decisions like making people come into the office when they can work remotely.

The operating model impacts will be severe. Because of the fragility of many value chains, the reliance on outsourcing, and lack of investment in technology over many years, the inability of some firms to deliver on their contractual commitments after they implement their business continuity plans will become glaringly obvious.

Some companies are doing the right thing: everyone who can work from home already is, flexibility with customers and suppliers, and customers treated properly with credits or waivers offered due to radically changed circumstances.

Some companies are not doing the right thing: lobbying for taxpayer money when there are higher priorities, worrying about their particular industry when this is a societal issue, or treating the parties they have contractual relationships with inflexibly.

Boards and senior executives will need to think very carefully about the impact of their decisions on their communities. Their customers and employees aren’t silly – they know the implications are likely to be negative.

If there are six months of drastically lower economic activity, protecting essential capabilities ability to deliver key value streams on the other side of the slow down is an important consideration. For example, airlines need to preserve some ability to operate domestic flights and cargo freight.

The overall economic impact will be much higher than 10% of GDP. Unemployment will be more than 10% in Australia and New Zealand within months. Underemployment will be even worse because of the number of casuals now out of work and part-time workers who will never get more hours under these circumstances and could also have to take leave without pay to keep their jobs.

The unfortunate economic response from governments so far has been very much about business. This focus underestimates the economic impact of this crisis. The real issue is people being able to pay their bills. If hundreds of thousands of companies go to the wall, asset owners and lenders should be taking a hit. This reality means commercial landlords being flexible with their tenants and banks bending over backwards for their business and institutional customers will be necessary.

The pace of this economic slowdown is so fast that attempts to use fiscal and monetary stimulus during the midst of a public health crisis simply won’t be fast enough. The impact on people’s wellbeing will be devastating.

If you thought that the Great Depression-era generation had unusual attitudes about many things, the scars from the economic side of this crisis alone would last decades. Let alone the enormous changes in societal behaviour that will be required to flatten the curve.

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ESG Risk, Technology Risk And Reducing Inequality

One of the UN Sustainable Development Goals is about reducing inequality among and within countries. The UN SDGs are a high-level framework of 17 goals that the world can achieve by 2030. They are useful as a way of understanding your firm’s social impact and identifying how to change your operating model to reduce any adverse effects or enhance any positive ones.

ESG risk and reducing inequality may seem entirely unrelated. However, there are ever-increasing community and employee expectations when it comes to issues such as executive compensation, wage growth, sharing in productivity increases, and managing rising living costs.

The detailed sub-goals of Goal 10 are really about the developing world, and not the relative poverty issues in developed countries. Many countries cannot afford social protection policies and legislation that richer countries can. Some richer countries place high tariffs on goods exported from poorer countries which makes it more difficult for people in these countries to trade their way to higher living standards.

An example of the ESG risk in this space is the cost of migrant remittances. Hundreds of millions globally send billions every year back to relatives in their home country. Often, there are high fees associated with this and many global financial institutions have encountered a lot of issues ensuring AML/CTF compliance in this space.

Goal 10.C is quite sad – reducing the cost of remittances to no more than 3% by 2030 and eliminating remittance channels that cost more than 5% in transaction costs. The rise of startups in developed countries that enable you to send money overseas at wholesale FX rates when poor people are charged enormous premiums is definitely in the social risk category.

Product management and pricing decisions around FX or overseas transfers will be even more complicated over the next decade than they already are. It’s certainly an area that is being disrupted by firms with better technology and customer experience than the banks. People who are moving between developed countries or paying less for their overseas holiday shopping and dining out capture much of this benefit in reduced costs.

When researching this particular UN SDG, the issue of technology startups in developed countries coming up with great ways to solve problems that only work in developed countries became quite clear. Many amazing innovations will only work if you have a passport from an OECD country. There are still enormous increases in transaction monitoring capability required to change negative screening for entire countries that some financial institutions still feel the need to do because their technology is decades behind Silicon Valley.

The strength of the focus on risk and compliance over the past decade has led many boards to authorise investment in their technology platforms. But merely spending hundreds of millions of dollars on technology isn’t necessarily enough.

How many ESG risks are hiding in the legacy technology ecosystems of major financial institutions around the world? A target operating model for a risk function includes more than just the implementation of transaction monitoring software. The people, processes and systems all need to work to clear principles and deliver the right outcomes for a broad group of stakeholders.

The irony of the enormous spend on risk and compliance technology, particularly regarding regulatory and legislative compliance, is that it has provided many large firms with the right model for how they might need to prioritise investment in climate change risk reduction.

The problem for the customer experience is that if you already have a poor customer experience that will cost $X to fix, and now your bank needs to spend a further $X on more risk and compliance programmes of work, then very soon you start running into a point where the duplication of all of these technology investments across different companies becomes redundant.

The role of a board is to provide governance to an organisation, and this includes making tradeoffs between Project 1 and Project 2. The problem is that many of the loudest voices criticising their every move on ESG risk don’t exactly appreciate the concept of constrained resources. For many financial services firms, they will face a point where they need to consider their entire current operating model and seriously rethink their purpose and strategy.

What is the link between this and the central problem of reducing inequality among countries and within them? Well, previously, a firm could make tradeoffs inside its operating model transformation that included plays like outsourcing or radical restructuring. Now, every person with a Twitter account could set off a backlash for something as random as invoice payment times for SMEs.

The reporting on this issue in Australia has been great because nothing could demonstrate more clearly to a board and senior executives that the operational-level decisions inside their operating model are now fair game. ESG risks must now be fully understood and considered at the customer interaction level and the supplier interaction level.

A board that wants to obtain an independent assessment of its ESG risk and current operating model should consider what social license to operate means in the 2020s. A higher proportion of people will increasingly demand more and more of the private sector.

Unlike politicians, CEOs face the market test. Many are already far advanced in changing their firm’s way of doing business to differentiate themselves from competitors. Higher enterprise value is likely to accrue to firms that have low ESG risk relative to other investment opportunities. Protecting access to finance at all should now be a consideration of boards – one serious enough ESG controversy could see lines of credit cut, investment banks no longer willing to work with you on a debt issue, or even suspension from trading on an exchange.

The level of seriousness boards and senior executives have to take these issues is quite clear. They are skating on thin ice in a real-time communication world. Independent assessment of the ESG risks they face and the steps to take to mitigate, reduce, or eliminate them will be a top focus for 2020 and beyond.

Large transformation projects that have already started may require even larger investments or potentially cancellation and writedowns. The business strategy of a large financial institution is also facing severe risk in an ultra-low interest rate environment. A pandemic related recession could be on the cards in many countries.

When interest rates go down, eventually there is no choice but for net interest margins to go down. The subsequent pressure on high bank operating expense ratios increases ESG risk even further due to the short-term earnings pressure from many shareholders. What a fascinating era!

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Sustainable Infrastructure And ESG Risk Management

The UN Sustainable Development Goals are a useful high-level framework for business to use in assessing its negative or positive social impacts. Global partnerships between government, NGOs, and the private sector will be required to achieve them by 2030.

The rise of community expectations around climate change and other ESG risks means that boards and senior executives can no longer function in “press release” mode when it comes to sustainability initiatives.

The management of ESG risk is a crucial part of your risk management framework, and firms need to identify and manage both quantitative and qualitative risks. The excuse that it is difficult to quantify some ESG risks will not cut it with stakeholders over the coming decade.

Institutional and retail investors will increasingly expect rapid and decisive responses to controversies, including the immediate resignation of directors and senior executives. “Riding out” the storm of displeasure will be very difficult given the increasing volume in the media on these issues.

One of the important considerations when thinking about sustainability reporting and the achievement of the UN SDGs by 2030, is that innovation and profitability in the private sector is a crucial success factor.

Many businesses have the opportunity to assess their current operating model, identify where and how they can make a positive social impact, and move towards implementing a responsible operating model that delivers for a full group of stakeholders while still generating an appropriate level of profit.

Goal 9: Build resilient infrastructure, promote sustainable industrialisation and foster innovation

Goal 9 of the UN SDGs is about how essential investments in underlying infrastructure are to enabling sustainable development. Technological efficiency, energy-efficiency, and increased productivity enabled by investments in transport, energy, technology, healthcare, education, and irrigation will all help developed and developing countries alike in improving their standard of living.

A lack of necessary infrastructure in developing countries means that their people are at a clear disadvantage when it comes to ease of access to more markets to sell their products and services. Sustained employment growth will become more realistic for some countries once appropriate infrastructure investments are made and brought online.

Environmentally sound infrastructure development will help achieve other sustainability outcomes while providing lower environmental impacts from infrastructure development. Firms who operate in the infrastructure sector will be able to share their best practices with developing countries to enhance ecological efficiency for new projects.

For firms operating in developed countries, assisting in developing countries and providing technology investments where feasible can help accelerate sustainable development. For example, substantial investment in mobile phone networks in Africa has enabled a wave of entrepreneurship and innovation to take place in previously unconnected communities.

Board and Senior Executive Considerations

Boards and senior executives in other sectors may not think they can have any impact on this particular goal. However, UN SDGs are a broad church of targeted outcomes for a global society. One of the more effective ways that any business can make an impact on these goals indirectly related to your business is through due diligence and standards for your broader value chain.

The first exercise is a current operating model assessment that looks at your present purpose, strategy, and operating model. The outputs of this exercise can be mapped at a high-level to each of the 17 UN SDGs to provide input into the next activity.

The second exercise is mapping the current operating model outputs to each of the UN SDGs and identifying the positive or negative social impacts your business currently has. There may be somewhere there are none, there may be others where some substantial impact is possible.

The third exercise is taking the first two exercises into account and re-examining the purpose of the business. Why do you do what you do? Is your goal relevant in the 2020s? Are you a sunrise or a sunset business?

The fourth exercise is then revisiting the business strategy. Does it help or hinder the achievement of sustainability outcomes? Are there any products or services that need changes or closing down in light of changes in community expectations today or anticipated changes in community expectations tomorrow?

Once the current operating model, mapping exercise, purpose re-examination, and strategy re-examination are complete, a broad group of stakeholders should participate in the development of a responsible operating model.

The current trend in transformation is to speak of the target operating model; however, in the 2020s, it will be necessary to design and implement a responsible operating model. Sustainability outcomes must be incorporated into the design and planning stages of any transformation program. If they aren’t, they won’t be delivered.

One of the changes in thinking about ESG risk is that the business case is about the enterprise value of the business itself. Issues that even five years ago may not have merited a mention in a footnote to a presentation could now present themselves as existential crises for a board of directors.

Over the past decade, the cost of implementing appropriate systems and controls to manage compliance risk has been billions of dollars for the financial services sector. The coming decade will see a further increase in required technology and project expenditure to give boards and regulators assurance that a framework is in place and monitored actively at all levels of a business when it comes to ESG risk.

Other industries have faced similar costs, such as the impact of health & safety legislation on the construction sector. But no one would argue that making sure everyone goes home from a worksite at night is less important than making a profit at any cost. However, 30 years ago, those arguments were undoubtedly being made by some construction sector executives and boards.

Times have changed, and old attitudes towards ESG risk will need to be updated. The current economic environment globally, where the asset markets have boomed, and many companies rebounded from the Global Financial Crisis after brief tests in 2008 and 2009 of their operating model, means that the next downturn will provide an opportunity for deep introspection and consideration of what a responsible operating model needs to look like for a secure strategic position relative to your competitors in the coming decade.

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Sustainable Economic Growth And ESG Risk Management

An environment of ever-increasing expectations on corporate leaders to do the right thing when it comes to sustainable business means it’s an issue to be taken seriously from the board-level down. The identification, active management, mitigation, or elimination of ESG risk from your operating model is a vital part of building a sustainable business that makes a positive social impact as well as delivering a profitable business for shareholders.

The UN Sustainable Development Goals provide a useful high-level framework for assessing your firm’s ability to deliver sustainability outcomes and is increasingly used by global firms as the core 17 areas for reporting their sustainability focus in their annual report.

You can map the 17 UN SDGs against your current operating model to identify the areas where your firm is making a positive or negative social impact. This exercise could assist in the analysis work before a transformation programme begins, ensuring that the development and deployment of the target operating model incorporate sustainability outcomes.

Ever-increasing community expectations around what businesses are doing to reduce ESG risks and deliver a positive social impact for a full group of stakeholders means that thinking about what a responsible operating model for your business incorporates can help the process of positioning your firm ahead of the curve.

Boards and senior executives might consider assessing their current risk management framework to identify whether the broad array of ESG risks as some choose to define them are present in their existing risk register.

Environmental, social, and governance risks can be much harder to quantify than many financial or operational risks. Firms should develop a defensible framework for estimating the cost of these risks and the severity of their impact on the operations of the business.

The business case for making significant investments into projects that reduce these risks and enhance the enterprise value of your business is clear. Increasingly, firms that do not take these issues seriously or engage in a press-release driven approach will find it difficult or impossible to raise capital.

Institutional investors in 2020 expect well-aligned corporate behaviours and communications on sustainability issues with their preferred responsible investing frameworks than even five years ago. Investor relations and corporate access teams at investment banks will have higher rates of inquiry from stakeholders who may previously never have engaged with them, and that means that the operating model for an investor relations function or corporate sustainability function needs to adapt and improve as part of the core operating model of the business, instead of being tucked away in a small department.

Goal 8: Promote inclusive and sustainable economic growth, employment and decent work for all

Goal 8 is about sustainable growth that cares about people. Eradicating global poverty depends on increasing the quality and compensation levels of workers around the world through raising productivity and sharing some of those gains.

In many developing countries, having a job doesn’t mean that your family is out of poverty. Roughly half of the world’s population lives on less than US$2 a day even with global unemployment around 5.7% according to the UN.

“Sustainable economic growth will require societies to create the conditions that allow people to have quality jobs that stimulate the economy while not harming the environment. Job opportunities and decent working conditions are also required for the whole working age population. There needs to be increased access to financial services to manage incomes, accumulate assets and make productive investments. Increased commitments to trade, banking and agriculture infrastructure will also help increase productivity and reduce unemployment levels in the world’s most impoverished regions.”

Some of the detailed sub-goals associated with Goal 8 include per capita economic growth, higher levels of productivity supported by investment in technology, a focus on high-value-added services, implementation of development-oriented policies, and eradicating forced labour and modern slavery.

8.1 Sustain per capita economic growth in accordance with national circumstances and, in particular, at least 7 per cent gross domestic product growth per annum in the least developed countries

8.2 Achieve higher levels of economic productivity through diversification, technological upgrading and innovation, including through a focus on high-value added and labour-intensive sectors

8.3 Promote development-oriented policies that support productive activities, decent job creation, entrepreneurship, creativity and innovation, and encourage the formalization and growth of micro-, small- and medium-sized enterprises, including through access to financial services

8.4 Improve progressively, through 2030, global resource efficiency in consumption and production and endeavour to decouple economic growth from environmental degradation, in accordance with the 10-year framework of programmes on sustainable consumption and production, with developed countries taking the lead

8.5 By 2030, achieve full and productive employment and decent work for all women and men, including for young people and persons with disabilities, and equal pay for work of equal value

8.6 By 2020, substantially reduce the proportion of youth not in employment, education or training

8.7 Take immediate and effective measures to eradicate forced labour, end modern slavery and human trafficking and secure the prohibition and elimination of the worst forms of child labour, including recruitment and use of child soldiers, and by 2025 end child labour in all its forms

8.8 Protect labour rights and promote safe and secure working environments for all workers, including migrant workers, in particular women migrants, and those in precarious employment

8.9 By 2030, devise and implement policies to promote sustainable tourism that creates jobs and promotes local culture and products

8.10 Strengthen the capacity of domestic financial institutions to encourage and expand access to banking, insurance and financial services for all

8.A: Increase Aid for Trade support for developing countries, in particular least developed countries, including through the Enhanced Integrated Framework for Trade-Related Technical Assistance to Least Developed Countries

8.B: By 2020, develop and operationalize a global strategy for youth employment and implement the Global Jobs Pact of the International Labour Organization

https://www.un.org/sustainabledevelopment/economic-growth/

Board and Senior Executive Considerations

Boards and senior leaders will see that, like the other SDGs, there are several areas where any business can make a positive social impact. Procurement processes need to ensure that risks such as forced labour and modern slavery are not in your supply chain.

When you assess your current operating model, the key areas to explore when considering Goal 8 include people and culture processes and policies. If you are in financial services, finding what actions you could take to support the achievement of goal 8.10 would be a key focus. If you are in transportation or travel, exploring sustainable tourism such as going beyond net-zero or carbon neutral and thinking about carbon-negative operating models that create local jobs where you operate your business would be worth consideration.

The use of the UN SDGs as a high-level framework to map your current operating model against the ability of your business to deliver a positive social impact is a useful exercise for businesses. Many leading global firms already incorporate this reporting in their annual reports.

The decade ahead will be necessary for firms as they strategically position themselves to be ahead of their competitors on ESG issues. Moving beyond reporting and engagement to actively choose where your operating model (people, processes and systems) can adjust to improve positive outcomes or reduce adverse consequences will be tables stakes.

Institutional and retail investors are growing their awareness of ESG risks and expectations of the pace at which boards and senior executives will respond decisively if any controversies arise. Waiting it out or sending out a press release won’t cut it. Resignations and ending supplier relationships will become far more frequent and building a responsible operating model with in-built flexibility that can respond if a critical supplier needs to be changed because of an unacceptable level of ESG risk will increasingly mark the leaders in this space distinctly from the laggards.

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Sustainable Energy Goals And ESG Risk

The UN Sustainable Development Goals are a useful high-level framework to assess your firm’s ability to make a positive social impact. They cover a wide area of topics including equality, energy, climate change, responsible growth and more.

There are many frameworks that governments and NGOs try and get business behind. Each has its pros and cons. The UN Sustainable Development Goals are a global framework which enables comparison sustainability reporting between companies that operate in different jurisdictions or industry sectors.

Boards and senior executives should assess their current operating model against the 17 high-level SDGs to capture a baseline. They can then identify the areas of their operating model that make a positive or negative impact on these goals and generate sustainability reporting to track their progress in moving towards a responsible operating model that incorporates sustainability outcomes into the transformation process.

Goal 7: Ensure access to affordable, reliable, sustainable and modern energy

Goal 7 of the UN SDGs is to ensure access to affordable, reliable, sustainable and modern energy. Almost 1 billion people still don’t have access to reliable electricity, half of them in sub-Saharan Africa. Energy production and consumption are responsible for nearly 60% of total greenhouse gas emissions globally.

Globally, not even one-fifth of global electricity production is from renewables. There are many areas of energy that will need to improve over the next decade including energy efficiency, battery storage technology, renewable energy production, and reliable energy supplies for developing countries that doesn’t cost too much.

The benefits of clean energy for our planet are enormous. Reliable and affordable energy sources mean that cooking, cleaning, and necessary business activities become possible for people in developing countries.

In developed countries, increasing energy efficiency, even more, means that marginal energy producers that rely on fossil fuels such as coal, natural gas, and oil can sunset older plants and invest in renewables such as solar, wind, geothermal, and hydropower.

 Some countries have already made enormous progress in developing their renewable energy sources, including China which has some of the most significant solar and wind power initiatives in history in operation and under construction.

The ability to make an impact on goal 7 isn’t just for businesses in the energy sector. Responsible electricity consumption and energy efficiency initiatives are realistic in a company that uses electricity.

Thinking about the energy efficiency of your entire value chain including the energy efficiency of your suppliers and partners means that operational due diligence on suppliers should start to include questions around their electricity provider, their investments in energy efficiency, their analytics and insights into their energy use, and developing a strong understanding of their strategy to reduce their carbon emissions and increase the proportion of their electricity supply from renewable sources.

Board And Senior Leader Considerations

There are many different frameworks and reporting guidelines for sustainability and ESG risk. As at January 2020, there are no global standards like IFRS that enforce certain levels of disclosure. Some companies will not care about transparency on these issues because, for some, it could be “brand destroying” to be open about some of the ESG risks that exist in their value chain.

Boards and senior leaders should start with a high-level assessment of their current operating model. Working through the basics of your business model is necessary before launching into exhaustive ESG risk analysis.

  • What is your purpose? Why do you do what you do?
  • What is your business strategy?
  • How do you deliver your strategy?
  • Who delivers value to your customers?
  • Where are your operations located?
  • Who are your key suppliers?

The business model needs to be understood and decisions made on the boundaries of how much the board and senior leaders are willing to change the business model to achieve the targeted level of ESG risk in their business.

The risk management framework and risk registers will already include many of the risk themes that emerge during a strategic review of this nature. However, some of the ESG risks like social risk and environmental risk, are facing ever-increasing community expectations.

Boards and senior leaders need to be forward-looking in their identification, mitigation or elimination of these risks. They need to be ahead of the curve because an acceptable business practice today could be completely unacceptable from a social license point of view after one newspaper article or one tweet goes viral.

A great example of an ESG risk related to energy is the proportion of your electricity supply that comes from renewable sources. Some organisations have changed their procurement procedures to ensure that only the suppliers with the best effort on increasing renewable sources of electricity supply are even in the running for tender opportunities.

What does this mean? It means that because the era of the press release is over, boards and senior leaders need to be thinking long-term about how to position their business strategy so that their operating model does not give rise to any potential ESG risks that will put their economic engine at risk.

The business case for building a responsible operating model and reducing or eliminating as much ESG risk as possible is not just about return on investment. Customer satisfaction, shareholder approval, cost avoidance, revenue retention, regulatory compliance, social license maintenance, and employee satisfaction all have some elements that can be quantified to support the financial side of any business case for a programme of work to build your responsible operating model.

The UN Sustainable Development Goals have one significant advantage for boards thinking about how to measure and monitor their social impact. They are a global framework, and many major global companies already include their SDG reporting in their annual reports.

One consideration is that some companies are already so far ahead on adjusting their operating model to deliver better sustainability outcomes, that they could already “lock-in” a strategic competitive advantage.

Costs to businesses not taking ESG risk seriously can arise in visible areas such as the ability to raise capital. Look at how thermal coal companies are on the way to becoming unbankable as an increasing number of financial institutions globally stop lending, cut lines of credit, don’t take commercial paper, and don’t invest in equity or debt raises for thermal coal companies.

Thermal coal miners are currently losing their ability to raise capital. Retail and institutional investors will increasingly demand near-perfect delivery from boards and senior leaders on the reduction and elimination of their preferred definition of ESG risk.

The rising community expectations on these issues will impact a firm’s social license to operate, and focusing on short-term operating model changes that deliver outcomes will be judged better than long-term ambitions that will take decades to achieve.

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Clean Water, ESG Risk And The UN Sustainable Development Goals

The UN Sustainable Development Goals are a useful high-level framework for thinking about your firm’s ability to deliver a positive social impact. Goal 6 is to ensure access to water and sanitation for all.

In a world with ever-increasing stakeholder expectations, boards and senior executives must to actively engage with and ensure that environmental, social and governance risks in their organisations are identified, managed or eliminated.

Zooming out to consider the global context in which your firm operates is a helpful exercise. The UN Sustainable Development Goals help boards disclose these ESG risks because the 17 high-level goals align with the classification of the material risks your business faces.

Through embracing sustainability reporting with the UN SDGs as part of the reporting framework, comparability between businesses and across industry sectors and countries becomes possible. Over time, institutional investors will increasingly demand more disclosure around sustainability outcomes your business is delivering for stakeholders.

The current focus on ESG risk is predominantly on responsible investing. Setting up processes and frameworks for asset managers to consider whether or not a particular company is suitable to invest capital into or lend to is also known as impact investing.

The focus for the next decade will need to be on building a responsible operating model. A responsible operating model is an evolution of a target operating model that incorporates sustainability outcomes and positive social impact into the strategy, design principles, and execution of the new operating model.

An exercise for boards and senior leaders to run is an assessment of your firm’s current operating model against the UN Sustainable Development Goals. Once you have that, consider your purpose and fundamental value proposition for your customers. Are there parts of your operating model that could be modified or enhanced to deliver a positive social impact as well as deliver value to your shareholders?

If you are going through a transformation, it can be like turning a container ship in a large organisation. During the programme initiation and spin-up phases, the sustainability outcomes need planning and analysis. Projects required to enable these outcomes to be delivered will never be scoped, budgeted, delivered and used by the business unless they are there from the beginning.

Goal 6: Ensure access to water and sanitation for all

The goal of ensuring access to water and sanitation for all has particular application for some companies. They may operate in countries where clean water and adequate sanitation is behind the country where their headquarters are.

Poor access to clean drinking water, inadequate sanitation, and poor access to reliable water supplies at all are problems faced by hundreds of millions of people every day. Water scarcity affects almost 40% of the global population. Nearly 1,000 children die every day because of preventable water or sanitation-related diarrheal diseases.

If your business operates in the water, sanitation, or engineering industry sectors, there is a clear opportunity to deliver a positive social impact and support the achievement of Goal 6 by 2030.

A business doesn’t have to have an office in a developing country to help. They can use their people and resources to assist developing countries in improving water and wastewater systems. They can offer secondments to experienced engineers and technicians to assist impoverished communities. They can use their voice to lobby for global efforts that improve access to sustainable and affordable finance for water and sanitation projects in developing countries.

Many technologies can benefit from further investment in research & development such as water recycling, desalination, water and wastewater analytics, wastewater treatment, recycling and reuse technologies.

If you are running a business that works in an office in an OECD country, starting with the water and sanitation efficiency and sustainability of your building and any other premises you own or occupy is a vital part of any current operating model review.

You will need to work with your building manager and landlord to understand the sustainability performance of your office space. There are sustainability analytics tools that can assist in reporting on this. Some older buildings may not be able to deliver sufficient levels of water reuse and recycling without substantial investment from landlords.

If you are a manufacturing company, ensuring there is no environmental impact from water or wastewater pollution from your factories is table stakes for the 2020s. Ironically, many manufacturers are well ahead of many service industry businesses because of environmental regulation and stakeholder pressure over the past few decades in identifying and managing these risks.

Goal 6 is about water and sanitation, and every business will be able to do its part to identify and report how it is supporting the achievement of this goal. It may not be the highest priority for a business in terms of how it can help sustainability outcomes, but similar to supporting gender equality it is table stakes for being able to communicate to stakeholders how it holistically considers its overall social impact.

Considerations for directors and executives

Boards and senior leaders that decide to use the UN Sustainable Development Goals in their sustainability strategy and reporting should consider a wide-ranging review of their current operating model against the 17 high-level goals.

The active engagement and governance of ESG risks inside a business will become increasingly critical for boards of directors. Boards should consider how they want to incorporate ESG risk into their risk management framework and ensure there is sufficient budget available to spend on sustainability projects, reporting, and assurance.

 A decade ago, a business could respond to ESG risk issues with a press release. They could even donate to a project in a developing country. These PR focused measures did not involve deep introspection and analysis of their current operating model and its strengths and weaknesses when it comes to sustainability outcomes.

In the 2020s, from the board-level down to the operational level, the enterprise value of the business is increasingly going to be impacted positively or negatively by the ability of the company to deliver value to its customers through a responsible operating model that has sustainability outcomes considered, measured and achieved through the capabilities the business assembles to provide value to customers and a broader set of stakeholders around the world.

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Health, Wellbeing And Sustainability Reporting

The Sustainable Development Goals are the blueprint to achieve a better and more sustainable future for all. They address the global challenges we face, including those related to poverty, inequality, climate change, environmental degradation, peace and justice. The 17 Goals are all interconnected, and in order to leave no one behind, it is important that we achieve them all by 2030. 

https://www.un.org/sustainabledevelopment/sustainable-development-goals/

Is supporting health and wellbeing solely the preserve of companies in the healthcare industry? Goal 3 of the UN Sustainable Development Goals is a complex and detailed one that highlights how far developing countries have come, but also how far they still have to travel to catch up to developed country data on health and wellbeing outcomes.

Increasing life expectancy and reducing infant mortality includes a target of fewer than 70 deaths per 100,000 live births by 2030.

Improving the financing of healthcare systems, boosting economic growth so that countries can afford better healthcare, increasing the number of medical professionals available in developing countries and improving sanitation and hygiene are all ways to improve global health and wellbeing outcomes.

The maternal mortality ratio is still 14 times higher in developing countries, which is a shocking statistic. The specific goals here highlight the enormous gap in health outcomes between developed and developing countries and the importance of taking action to reduce these gaps.

Goal 3: Ensure healthy lives and promote well-being for all at all ages

3.1 By 2030, reduce the global maternal mortality ratio to less than 70 per 100,000 live births.

3.2 By 2030, end preventable deaths of newborns and children under five years of age, with all countries aiming to reduce neonatal mortality to at least as low as 12 per 1,000 live births and under-5 mortality to at least as low as 25 per 1,000 live births.

3.3 By 2030, end the epidemics of AIDS, tuberculosis, malaria and neglected tropical diseases and combat hepatitis, water-borne diseases and other infectious diseases.

3.4 By 2030, reduce by one-third premature mortality from non-communicable diseases through prevention and treatment and promote mental health and well-being.

3.5 Strengthen the prevention and treatment of substance abuse, including narcotic drug abuse and harmful use of alcohol.

3.6 By 2020, halve the number of global deaths and injuries from road traffic accidents.

3.7 By 2030, ensure universal access to sexual and reproductive health-care services, including for family planning, information and education, and the integration of reproductive health into national strategies and programmes.

3.8 Achieve universal health coverage, including financial risk protection, access to quality essential health-care services and access to safe, effective, quality and affordable essential medicines and vaccines for all.

3.9 By 2030, substantially reduce the number of deaths and illnesses from hazardous chemicals and air, water and soil pollution and contamination.

3. A Strengthen the implementation of the World Health Organization Framework Convention on Tobacco Control in all countries, as appropriate.

3.B Support the research and development of vaccines and medicines for the communicable and noncommunicable diseases that primarily affect developing countries, provide access to affordable essential medicines and vaccines, following the Doha Declaration on the TRIPS Agreement and Public Health, which affirms the right of developing countries to use to the full the provisions in the Agreement on Trade-Related Aspects of Intellectual Property Rights regarding flexibilities to protect public health, and, in particular, provide access to medicines for all.

3.C Substantially increase health financing and the recruitment, development, training and retention of the health workforce in developing countries, especially in the least developed countries and small island developing States.

3.D Strengthen the capacity of all nations, in particular developing countries, for early warning, risk reduction and management of national and global health risks.

https://www.un.org/sustainabledevelopment/health/

Board And Senior Leader Considerations

The specificity of the goals above might make you wonder how your firm can make a positive impact on these goals. What is the business case for a healthcare company giving away services for free, for example? That would be an incorrect take on the situation.

The business case for using the UN Sustainable Development Goals as a framework to understand how your operating model supports or hinders the achievement of the goals is compelling – enterprise value decreases through actions or activities that harm society.

In the current low-interest-rate environment, the discount rate to be used when assessing projects has fallen for many organisations. Higher spending on investment projects to deliver sustainability initiatives can make sense if the payoff to the firm is ongoing and has a long time horizon.

Lower cost financing of these projects is possible through the use of sustainable finance strategies such as the issue of green bonds. Alternatively, borrowing from a bank that focuses on supporting businesses wanting to invest in improving the sustainability of their operating model.

When it comes to reporting on the UN Sustainable Development Goals, an example of how an infrastructure firm that owns toll roads could make an impact on goal 3.6 – reducing global deaths and injuries from road traffic incidents – would be to highlight investments in safety on the toll roads they operate.

What is their safety goal? Zero harm on their toll roads? If so, thinking about how to centre their operation around zero damage to their staff, their road users and other stakeholders could lead to innovations in their operating model and capabilities they have around safety.

Infrastructure funds could use the health and wellbeing goals as part of their operational due diligence on prospective investments – at the business-as-usual level of a target company, are they helping or hindering the achievement of these goals?

The additional sunlight on some companies will highlight how their operations either do not help society outside of the shareholders who earn a return on their capital. These processes may lead to divestment or even shutdown of business units or operations that do not meet new community expectations around social performance.

Every business should at least consider thinking through the totality of the UN Sustainable Development goals and then focusing on those it can impact the most. The board should deliberate on whether the company’s purpose, strategy, and operating model are sufficient to maintain a social license to operate with ever-increasing expectations on the private sector.

The initial assessment of a business to identify its current operating model and how it either helps or hinders each of the 17 goals is a process achieved through workshops and interviews with the board and senior leaders.

The report prepared for senior leaders should drive further examination of the strategy and the portfolio of initiatives underway to realise that strategy help or hinder each of the 17 goals. This way, reporting in the management reports and annual reports can include these factors to be monitored by the board.

A business may find that considering a positive global social impact means that significant changes to parts of its operating model are required. Engaging with external support through this process, including setting up appropriate gateways and monitoring of portfolio, programme and project activity and outputs that take sustainability outcomes as crucial success criteria are essential.

In this series of posts, as I work through each of the UN Sustainable Development goals, it is clear that the ability of a business to positively impact the achievement of these goals is in one of the 2nd level goals or through considering an alternative way of supporting the achievement of the outcome through clever use of scarce resources.

Focusing on the outcomes desired and creatively exploring ways to support them if applicable to your business or industry gives boards and senior leaders freedom to act boldly in a manner increasingly expected by stakeholders and an increasing proportion of shareholders, particularly institutional investors for whom ESG considerations are now standard due diligence for new or continued investment in any asset class.

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Zero Hunger, Your Business And Sustainable Development

The Sustainable Development Goals are the blueprint to achieve a better and more sustainable future for all. They address the global challenges we face, including those related to poverty, inequality, climate change, environmental degradation, peace and justice. The 17 Goals are all interconnected, and in order to leave no one behind, it is important that we achieve them all by 2030. 

https://www.un.org/sustainabledevelopment/sustainable-development-goals/

The UN Sustainable Development Goals are a useful high-level group of global sustainable development goals that can be used as a framework to assess how your business makes a positive social impact.

This series of posts explores each of the goals and proposes some considerations for boards and senior leaders. The rising pressure on business leaders to make genuine changes in their operating model to ensure that their people, processes and systems work together to make a positive social impact means that trade-offs must be made with scarce resources.

Considering how to benefit all stakeholders means that careful consideration of your firm’s purpose business strategy and target operating model to realise that strategy is a crucial part of building a sustainable enterprise.

Traditionally, value creation for shareholders was achieved by delivering value to customers and earning a reasonable profit. Today, value creation for stakeholders is the more popular terminology.

What does this mean? It means keeping customers happy, shareholders happy, regulators happy, politicians happy, industry partners happy, suppliers happy, employees happy, and certification authorities happy.

This mixed group of actors is outside the traditional boundaries of the firm, meaning that when it comes to approaching ESG issues, a press release won’t cut it.

Environmental, social and governance risks have to be identified, triaged, managed, mitigated or eliminated through the risk management process. A board should set clear expectations around how the operating model of the business ensures that the capabilities developed to deliver value to stakeholders actively consider these risks both during project phases and in a business-as-usual environment.

Goal 2: Zero Hunger

Goal 2 of the UN Sustainable Development Goals is Zero Hunger. In 2017, over 821 million people were under-nourished. Over the past few decades, enormous reductions in this number have occurred, but there is still work to do.

Differences in markets and institutions between developed and developing countries can explain much of the problem with hunger. Many states don’t have the infrastructure or even electricity to take advantage of agricultural productivity-enhancing technology at an appropriate scale.

One of the most disturbing statistics concerning hunger is the number of children who die every year from poor nutrition – 3.1 million each year. But merely sending more donations doesn’t solve the societal problems in these developing countries.

Businesses in developed countries can make a positive impact on the goal to reduce hunger in the world. An example of how technology positively impacts developing countries would be the spread of mobile phones, enabling farmers to trade more easily with neighbouring towns and villages to sell their produce or livestock, raising incomes and encouraging more trade inside countries.

One way the private sector can assist developing countries is helping the internal free movement of goods and services. Mobile phone networks, education, infrastructure investment in roads, and assistance with agricultural productivity are crucial.

How might a developed country firm help reduce global hunger? Consider pricing frameworks and intellectual property protections for agricultural productivity-enhancing goods and machinery. Is what makes sense in Canada, a wealthy developed country, necessarily appropriate in sub-Saharan Africa if you’re selling into that market?

How about the issue of subsidies and tariffs? Lobbying for tariffs on some goods predominantly produced in developing countries takes money out of the mouths of the global poor. Even more concerning is marketing cooperatives who play on fair trade to pay a fixed price for goods below the world market price and then capture the price premium for those goods in hipster neighbourhoods in developed countries.

One of the themes in the UN Sustainable Development goals is the removal of unfair subsidies and tariffs that disproportionately privilege farmers in developed countries over farmers in developing countries. If we consider global hunger, losing some farms in the West to keep bringing millions out of poverty in developing countries could be regarded as a reasonable tradeoff as long as the West budgets for appropriate transition payments and arrangements for the impacted farmers.

Banks and insurers don’t need to open a branch in a developing country to make an impact. Letting subject matter experts spend a month upskilling their peers or conducting a training course in a developing country is a modest cost but high impact way of sharing knowledge and capability.

If your global supply chain includes agricultural products exported from developing countries, performing due diligence on the supply chain is essential. Ending unfair labour practices and exploitation of small farmers is something any business trading with these countries should incorporate into their operating model.

One example of how adjusting your operating model to ensure that a positive social impact occurs is by physically tracing the entire value chain for a particular product.

  • Who does the work?
  • How is it done?
  • How are they compensated?
  • Is it fair, giving account to local realities and expectations?
  • Where is it done?
  • Who captures the value?
  • Are there any health & safety concerns?
  • Are there opportunities to provide upskilling or coaching to suppliers?

Corporate Governance Considerations

If your business trades with developing countries, you need to make investments in technology so that qualitative information associated with your supply chain can be captured and analysed for insights.

Setting up a framework for supply chain risk management with the right supporting policies and processes is a complex project. Many businesses are already doing a great job at ensuring the integrity of their supply chain, but this is a topical issue and emerging issues when it comes to agriculture must be monitored.

Eliminating global hunger is just one of the many UN Sustainable Development goals. As an exercise, working through the plans may convince you that your business can only make an impact on 1 or 2 of them. But the activity itself is valuable because using a high-level framework for considering social impact will enhance your understanding of your operating model and offer up possibilities for small adjustments that could make a positive impact on others.

The drive to have companies consider a more comprehensive set of stakeholders doesn’t mean that no one can make a profit anymore. Many sustainable business practices can lead to lower operating costs and enhanced shareholder value.

There is only one planet Earth, and using the UN Sustainable Development Goals as an initial broad set of considerations can help refine the purpose of a business. Simplifying your operating model and identifying business units that may no longer be suitable to own and need to be divested or shut down will be a natural outcome of more boards and senior business leaders thinking about these issues deeply.