Why do companies avoid ESG innovation?

Research conducted by Henley Business School and Risk Insights shows that there has been a positive movement in South Africa's corporate sector over the past decade when it comes to strategic decision-making around ESG (Environmental, Social and Governance) issues. It became clear that it had not been done. Leading to important strategic changes and innovations. ESG has only scratched the surface and is not having the impact that South Africa, the most unequal country on earth, needs.

Society relies heavily on the private sector to drive necessary innovation.

Of course, this reflects a global trend. After a decade of growth, ESG faces a “mountain of challenges” globally, from net outflows of ESG funds towards the end of 2023 to economic pressures such as inflation and the rise of populism in some regions. Parts of the world ranging from increased negative scrutiny have contributed.

But ESG is more important than ever for companies. Unpredictability and disruption, from climate change-related impacts to social unrest, economic migration, and geopolitical tensions and conflicts, continue to highlight the importance of effectively assessing and mitigating ESG risks. Masu. Furthermore, society relies heavily on the private sector to drive the innovation needed to address these collective problems.

What is holding companies back?

Therefore, it is a useful discipline to “look inside” and understand the internal motivations for implementing ESG, and more importantly, what is preventing companies from going even faster. is.

Henry's research provides a comprehensive analysis of the ESG practices of 63 Johannesburg Stock Exchange-listed (JSE-listed) companies, examining demographics, motivations for ESG adoption, stakeholder engagement, materiality approaches, governance structures, and ESG reporting. We are investigating various aspects of ESG, including books. Framework.

Most of the companies surveyed were large or very large, with 30% employing more than 10,000 people and 70% reporting annual revenues of more than R90bn (£3.7bn). did.

The ESG maturity (number of years since a company adopted ESG) of these companies is also high, with more than 60% adopting ESG principles more than six years ago, and 27% of them with more than 10 years of experience. .

avoidance strategy

What is immediately clear from the research is that most companies are leveraging ESG not to create new value, but to avoid value destruction and optimize existing value. Among survey respondents, 46% said they implemented ESG to reduce risk and improve risk management, and 30% said they implemented it to improve financial performance.

While fostering innovation is cited as one of the top three reasons for adopting ESG, this is primarily driven by more fundamental innovations and strategic There is reason to believe that this refers to improving operational efficiency, rather than transformation. Acquisitions, changes in distribution channels, joint ventures.

In the South African context, improvements have been made in terms of diversity and inclusion, but environmental initiatives have lagged behind.

ESG relates to the environment (including climate change, energy and water use, carbon emissions), social responsibility (including fair trade principles, human rights, product safety, gender equality, health and safety), and corporate governance. It covers a variety of issues. (e.g. board independence, corruption and bribery, reporting and disclosure, shareholder protection).

In the South African context, perhaps unsurprisingly, ESG has primarily focused on social factors and improving governance. For example, while environmental initiatives have lagged behind, there have been incremental improvements in diversity and inclusion, health and safety conditions.

Despite some successes, the potential of ESG in South Africa remains largely untapped. For example, the country has a huge opportunity to become the first coal-based economy in the Global South to successfully transition to a low-carbon economy, particularly in the energy sector.

According to the Climate Bonds Initiative, green bonds can be part of the solution. Global experience has shown that they are a vital tool in leveraging investors' growing appetite for investments with environmental and social impacts. , there are currently no companies willing to take the risk on this.

One reason for this is that companies feel relatively low pressure from market stakeholders (suppliers, customers, competitors) and are increasingly under the impression that the primary motivation for ESG is not inherently strong competitiveness. It is thought that it is being strengthened. But that's not the case.

Barriers to innovation

While there is certainly interest and appetite for ESG, South African companies face barriers in enhancing ESG implementation, particularly innovation in financial products. One of the key issues identified concerns resources and access to resources.

More than two-thirds of executives reveal that there is frequent conflict over ESG resources between different business units, while around half report a lack of integration within their organizations, resulting in He said that business strategy and sustainability strategy are disconnected. Most organizations assign ESG to the Chief Sustainability Officer and a small team, distancing him from the company's core business interests.

Additionally, limited board involvement means that motivated management teams are often isolated and disempowered to make decisions and execute on strategy. They lack the legitimacy, resources, and mission to pursue often difficult long-term strategies that create lasting value for everyone.

Some executives also lamented a lack of incentives related to sustainability performance and disagreements between boards and management on ESG priorities.

What is indisputable is that board engagement can be a key catalyst for ESG acceleration.

What is indisputable is that board engagement can be a key catalyst for ESG acceleration. Currently, his ESG in South African companies is primarily driven by operational requirements, but a strategy-level review that starts with purpose can be far more effective in energizing employees and clarifying strategy. There may be. And research shows that a purpose-driven approach can lead to better future accounting and stock market performance.

Corporate boards therefore have a significant opportunity to drive purpose-driven ESG innovation in areas such as asset sales, mergers and acquisitions, distribution channel changes, and joint ventures that unlock competitive advantage. Masu.

For example, a fundamental strategic move may be to acquire companies with ESG capabilities, engaging in joint ventures that support competition and innovation for environmentally and socially sustainable products and services.

Although critics claim that ESG has “awakened capitalism,” ESG initiatives have been shown to stimulate job creation and economic improvement. Rather than ticking boxes and playing it safe, companies are becoming more committed to the ESG agenda, with decisions taken at the top of their organizations that benefit not only their companies but the broader societies and economies in which they operate. You may be able to lower the . Long-term benefits will set companies apart in the future.

Filipe Morais is Lecturer in Governance and Program Director of the Master of Management for Future Leaders at Henley Business School. Vickey de Villiers is his Africa Research Consultant at Henley Business School.

Read the full report ESG promotion status of JSE listed companies.