How Boards can drive positive sustainable change: top five governance and culture challenges

As firms look to meet their sustainability-related commitments, most notably on the transition to net zero, it is crucial that they have a robust governance and supportive culture. To do this, firms will need to make a sustained push across a number of themes such as purpose, governance, responsibility, accountability, remuneration and incentives, and training.

In some respects, these themes are familiar, and firms will have addressed them as part of previous transformation programmes. However, the sustainability transition introduces unique and significant opportunities and challenges that will affect nearly every aspect of a firm’s business. Therefore, we think that it is important that Boards prioritise how they can both leverage and improve upon their tried and tested methods on governance and culture.  Only then can they realise the opportunities and address the risks from the transition and make a positive difference to the environment and society.

This article sets out our reflections on the collective view of the board members, executives, and regulators of the top five governance and culture challenges that Boards will need to address to achieve their sustainability ambitions.

1. Commerciality

A key challenge is, the difficulty of reaching a clear view on how a firm’s sustainability strategy will affect financial returns. It is essential that Boards tackle this question head on. The sustainability strategy should not be something separate from business strategy and financial planning; the business strategy should drive the sustainability approach.

To do this, Boards need to understand the material sustainability opportunities and risks to their firm and the sustainability impact of their firm. Armed with this information, they will then be able to take a more informed approach to the tough decisions that need to be made, for example, on transition finance and when to divest.

As indicators of whether they are taking a commercial approach to sustainability, Boards can look at the proportion of time they spend on sustainability at key points, such as the Board planning cycle or Board strategy days.

In addition, there has been significant focus to date on climate change and the “E” in ESG. However, there is a real appetite among Boards to see a more holistic view on the implications of social opportunities and risks.

2. Outcomes

Across regulation, we are seeing increasing focus by the authorities on outcomes. While Boards do need to understand the progress their firm is making on their sustainability transformation programmes, the more important questions they should ask are whether they are seeing tangible change in the business and the impact their activities are having on the environment, society, the market, and their customers.

Board Committees could request deep dive assessments that look at how the sustainability strategy is influencing capital and investment decisions, for example, (i) how many conflicts or dilemmas are escalated to Reputational Risk Committees, or otherwise flagged and discussed; (ii) the value and type of business that is rejected on sustainability grounds; and (iii) where risk appetite is biting. While data of this type may be difficult to expose, it is important that Boards seek to understand what is changing as a result of their strategy.

3. Consistency

Over the last few years, many Boards have dedicated significant resources to agreeing their sustainability strategy, upskilling, and ensuring that they are disclosing their approach to the market. But there is often a dissonance between the Board and the business, and across the business, with differing perspectives on sustainability and understanding of the firm’s strategy.

Boards should seek to ensure that there is a common understanding of the sustainability strategy both vertically and horizontally across the firm. There needs to be a clear thread running from the firm’s purpose, through to its strategy, objectives, targets, plans, governance, remuneration, and incentives. Sustainability shouldn’t be viewed as an “add on”, but as business as usual and integrated into decision-making and embedded into culture across the firm. Individuals will need to understand why the actions they are taking in relation to sustainability are integral to the firm’s purpose.

4. Engaging the business

Many Boards are demonstrating strong and consistent messaging or “tone from the top” on sustainability and may have a sponsor for their sustainability programme in place. In addition, due to the rapidly evolving regulatory landscape, sustainable finance considerations, such as climate risk and greenwashing, are now a key part of the second line of defence’s role, and increasingly part of the third line of defence’s role.

The next step is engaging the second tier of leadership in the business, as it is these individuals that need to execute the sustainability strategy. Scenario-based discussions are likely to be effective. When thinking about sustainability, the starting point should not be regulation or risk management. Instead, the focus should be on ensuring that the business understands the impact that their firm has on the environment and society and the commercial opportunities and risks. Firms could consider facilitating workshops where staff can raise and discuss specific opportunities or challenges or invite staff to respond to or engage in case studies that the business puts forward.

Firms will also need to ensure that their strategy is translated into credible actions and targets, with clear accountability.

Remuneration is also an important way to incentivise the behaviours that the Board would like to see. The metrics and targets firms use as they include climate and sustainability considerations in executive scorecards and long-term incentive plans will need to link clearly to the strategy to provide the right incentives. Measures used will need to be meaningful, stretching, and transparent.

5. Joining the dots

Firms should ensure that they take a joined-up approach as they deliver on their sustainability agenda, and on broader initiatives, and only “dig up the road” once. It is a common and unfortunate reality that connections are not made between functions, and this would at times result in double work and effort.

There is likely to be an important role here for the Board Chair to ensure alignment between and across Sustainability Committees and the more traditional Committees, such as the Audit, Risk and Nominations Committees.

Conclusion

As the authorities continues to refine regulations and their implementation, boards should proactively integrate sustainability principles into their strategies.

Boards’ work needs to start now, to ensure compliance, and also to benefit from first movers’ advantage. Firms should utilise the insights from all developments while focusing on a holistic approach that synchronises sustainability efforts with other significant initiatives and future plans.