2020 undeniably brought the "S" pillar of ESG into greater focus, including issues such as employee wellness, human rights, and diversity, equity and inclusion. But investors didn’t exactly ignore the "E" component and are poised to emphasize it even more in 2021 and beyond, according to a recent Conference Board corporate sustainability disclosure analysis.
In fact, three environmental issues — climate risks, water risks and biodiversity impacts — are poised to be in sharp focus this year for investors, and companies should prepare. Here are three ways sustainability executives can anticipate investor requests on each issue.
1. Strengthen climate risk disclosures by replacing boilerplate text with specific risks and opportunities.
As more companies include climate risks in financial disclosures, investors will turn their focus to the content and quality of those disclosures.
The Conference Board finds that the number of S&P Global 1200 companies referencing climate risks in their financial reports has more than doubled in the past five years. Almost half (44 percent) of global companies include these risks in their 10-Ks or equivalent reports.
Investor pressure on companies to report climate risks — and investors’ backing of reporting frameworks such as the one recommended by the Task Force on Climate-related Financial Disclosures (TCFD) — have been key drivers of the uptick in climate disclosure.
Regulatory initiatives are also playing a big role in spurring disclosure. The EU Taxonomy, for example, requires certain financial institutions to make climate risk disclosures by the end of this year. This regulation already has an impact: Companies in the financial sector had the greatest uptick in climate risk disclosure, with almost half of financial companies (47 percent) disclosing these risks in 2020, up from 31 percent in 2019.
As climate risk disclosure becomes more prevalent, companies should anticipate investors will scrutinize their content. A recent report by The Conference Board and Datamaran found most climate risk disclosures remain general and lack mention of specific risks and opportunities. To prepare for this increased scrutiny companies should examine their current climate disclosures and consider replacing boilerplate text with more specifics, including physical impacts or transition impacts related to climate change.
2. Assess your exposure to water risks and prepare to report on them.
For companies in certain industries, it is not a question of if but when water crises will cause major disruptions.
But awareness of these risks has not translated into much action — water crises have been listed by the World Economic Forum as a top five global risk in each of the last nine years, yet few companies publicly disclose their water risks.
Indeed, BlackRock has labeled water risks as "under-reported," and The Conference Board analysis confirms disclosure levels are low across most sectors.
For example, fewer than one in 10 companies report their water stress exposure (which refers to the percentage of freshwater withdrawn in regions with high baseline water stress).
As companies prepare for this year’s proxy season, they should pay close attention to their efforts on climate, water and biodiversity.
There are signs that disclosure activity is picking up in some sectors, however. One-third of companies in the materials sector, for example, disclose their water stress exposure, up from 7 percent in 2019. The energy sector also saw disclosure rates more than triple in one year.
Investor-focused reporting frameworks are clearly having an impact on disclosure: Both the Sustainabiity Accounting Standards Board (SASB) and TCFD include water stress exposure as a significant metric for companies in the materials and energy sectors. Companies that have not already done so should assess their exposure to water risks and prepare to report on them. Their competitors are increasingly doing so, and investors are paying attention.
3. Take a fresh look at your biodiversity initiatives and examine your value chain for "hidden" impacts.
The COVID-19 pandemic has highlighted the interconnection between environmental health and public health. Among other things, the pandemic has reminded us that biodiversity-loss increases the risk of infectious diseases. As a result, companies should expect greater urgency for biodiversity-protection efforts.
There is already evidence investors are paying more attention to biodiversity issues: The topic hit headlines in the U.S. last year when nearly 70 percent of P&G’s shareholders voted "yes" on a resolution aimed at addressing deforestation in the supply chain.
This issue is likely to feature again in this year’s proxy season as investors are keen to understand how companies are managing their biodiversity impacts. Sustainability executives should also keep an eye on developments related to the Task Force on Nature-related Financial Disclosure recommendations, an initiative modeled after the TCFD recommendations.
The time is right for companies to examine (or re-examine) their biodiversity impacts. Just over one-third (35 percent) of global companies have published a biodiversity policy, yet the number of companies exposed to such risks is likely much higher. Companies that may seem safe from these risks, such as those in the services sector, should take a fresh look at their value chains — doing so may reveal significant biodiversity impacts.
Last year’s proxy season demonstrated that the crises of 2020 did not distract investors from the "E" pillar of ESG. Instead, support for shareholder proposals on environmental issues is at an all-time high: Last year these proposals received an average of 32 percent of votes cast — almost double the support they garnered five years ago.
As companies prepare for this year’s proxy season, they should pay close attention to their efforts on climate, water and biodiversity. Companies that have not prepared disclosures in these areas should consider the materiality of these impacts to their business. And for those companies that currently have disclosures in these areas, now is a good time to assess the content and quality of those disclosures.