How advisory boards can raise the bar on ESG advocacy

THE board of directors of a large family-owned conglomerate in Asia was intensely discussing a proposal to invest millions of dollars to enhance emissions standards and worker safety across their power plants.

The founder chairman wanted the board's eight qualified non-executive directors to weigh in - and the majority of them seemed to favour this proposal. However, some directors endorsed the idea of deploying the capital to create additional capacity through brownfield investments. This would have a faster payback period and the earnings impact would be accretive and quantifiable. There was no consensus after several hours of debate. As a passionate sustainability advocate, the chairman of the board eventually stepped in and approved the decision to proceed with the first option.

As accountability for sustainability and stakeholder capitalism increases, more boards will be required to make difficult choices such as the one highlighted in the case above, where environmental, social and governance (ESG)-related initiatives may compete with other enterprise priorities for capital.

Many progressive boards have gone beyond "optics" such as citations in annual reports, or sponsorship of charity events. Several boards have now established a regular audit of their key internal processes and controls for ESG alignment. Some have incorporated ESG-related criteria in their annual balanced scorecard to assess senior management performance and incentives.

A few have even attached key ESG (for example, emissions, workplace safety) and diversity criteria to the allocation of management's share awards, and provided "malus clauses" to annul unvested awards in cases of material ESG violations. But material change can be brought about only when boards ensure that management diligently embeds the ESG "lens" across key resource allocation and operating decisions.

A dedicated ESG advisory board can play an invaluable role in weaving the ESG mindset into the fabric of the firm. Qualified individuals who are reluctant to assume financial or reputational liabilities of a governing board member may be more open to step into such roles.

Advisory boards can provide distinctive and deep subject matter expertise on specific issues such as adoption of science-based carbon emissions reduction targets, adoption of best practices on integrated reporting, or commitment to income inequality or human rights issues across markets where the firm operates.

Stakeholders on the advisory board can bring valuable networks and lobbying prowess that can help the firm better monetise ESG investments that may otherwise be labelled as intangibles. The specialist nature of their role equips them to drill into the details and act as a "sparring partner" for management. Members of the advisory board can also mentor other "pivotal stakeholders" (for example, head of plant, head of procurement, head of facilities) to catalyse mindset change across the organisation. A governing board may neither have the capacity nor the capability to add value at such levels of detail.

More importantly, an advisory board can also shine the spotlight on the governing board's performance on ESG issues by providing unbiased, "outside-in" feedback during the annual board evaluation process.

ESG ADVISORY BOARDS IN ACTION

As early as 2011, the Dutch-headquartered DSM, one of the largest nutritional and health sciences firms, established an external sustainability advisory board comprising thought leaders and practitioners on issues such as malnutrition, inequality, climate change and renewable energy. The advisory DSM management committees regularly co-opt the advisory board to sharpen focus on important issues, deepen understanding of stakeholder needs, conduct advocacy efforts and handle dilemmas.

In the case of Daimler, the advisory board for integrity and corporate social responsibility comprises independent members from Europe, Asia and Africa. Both the supervisory and the management boards of Daimler co-opt the advisory board for guidance on diverse areas such as emissions, human rights, integrity and ethical aspects of autonomous driving. Mitsubishi and Eisai Global, both headquartered in Japan, have also established sustainability advisory boards since the early part of the last decade.

Advisory boards have provided valuable counsel to strengthen the board's leadership role in such areas as digital transformation and risk management. An ESG advisory board that is staffed suitably and backed visibly can go a long way to embed sustainability in operating practices and bring about meaningful, deep-rooted change throughout the organisation.

• The writer is partner, South-east Asia, Human Capital Solutions, at Aon