Why ESG Risks Matter For Businesses

CEO's Thoughts

Why ESG Risks Matter For Businesses

  • Why ESG Risks Matter For Businesses You have probably heard the popular maxim, “Change is the only constant in life”, widely attributed to the Greek philosopher Heraclitus.
  • Date: Aug 30, 2021
  • Category: CEO's Thoughts
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In this month’s issue, our CEO, Datuk Muhammad Umar Swift shares three reasons why he believes management of ESG risks should be a top priority for businesses.

You have probably heard the popular maxim, “Change is the only constant in life”, widely attributed to the Greek philosopher Heraclitus. This has been especially noticeable over the past one and half years since the World Health Organisation declared COVID-19 a global pandemic. Throughout the various stages of the pandemic, we had to make adjustments to the way we live, travel and socialise with each other. And this is also no different for companies, as many businesses continue to grapple with unprecedented challenges to survive and adapt to an ever-evolving new normal.  

Against this backdrop of constant change and COVID-19 related challenges, ESG-related1 issues are increasingly gaining more attention among companies, investors, regulators, government agencies and other stakeholders. This is primarily due to the increased public awareness on pressing issues such as climate change, environmental degradation and human rights. All these point to an urgent need to transition towards a more sustainable and inclusive economy.

Therefore, ESG-related issues are rapidly becoming new and urgent business risks for companies, due to their potential magnitude and impact on both financial and operational performances. I strongly believe management of ESG risks should be a top priority for businesses, and these are my top three key reasons:

ESG improves long-term business resilience

According to the World Business Council for Sustainable Development2 (WBCSD), resilience is defined as
a business’s ability to anticipate and prepare for change, then adapt to circumstances in the manner that provides the greatest chance of thriving over the long-term”. In this increasingly interconnected world, the business landscape is constantly exposed to a myriad of uncertainties and disruptions across technological, political and societal norms. Some that come to mind are:

  1. Rapid automation has far-reaching implications on future jobs, wages and workforce transitions;
  2. Ongoing urbanisation raises and alters the demand for housing, food, water and energy;
  3. An ageing population is altering labour force dynamics and socio-economic trends; and
  4. Climate change is increasing the risk of stranded assets, among other physical and transition risks.

As more non-traditional risks manifest, incorporating an ESG lens in companies’ risk management approaches can contribute towards better business outcomes. It enables companies to expand their horizons and identify new sources of uncertainties and threats that can be built into long term strategies, business plans and internal controls. There is also plenty of evidence to back this up. Over the years, we have seen many studies that have demonstrated the positive correlation between good ESG practices and company resilience or outperformance. Case in point: between 2013 and 2021, our FTSE4Good Bursa Malaysia Index has consistently outperformed Malaysia’s benchmark index FTSE Bursa Malaysia KLCI by approximately
3% - 4%.

  ESG promotes investor confidence

Among the key drivers that are pushing ESG to the forefront is growing investor interest in sustainability issues. According to the Global Sustainable Investment Alliance’s latest finding, sustainable investments already account for more than a third of all professionally managed assets in major financial markets globally3.

Closer to home, I noticed that many asset owners and asset managers in Malaysia are actively exploring various ESG-integrated investment strategies. This will inherently influence their investment mandates, monitoring procedures, ownership policies and practices as well as benchmarking approaches. Amid this backdrop, it is only a matter of time before ESG investing becomes the norm in our capital market. We have already started to see greater demand for ESG-related information and data from institutional investors. 

As such, I strongly encourage companies of all sizes and business sectors, to begin integrating ESG considerations into their governance frameworks, risk management approaches, strategy-setting and business plans. A transparent ESG approach allows companies to effectively communicate their ESG risks and value creation activities to investors, thus, giving them a competitive advantage when accessing the capital market. An early start also allows companies to gradually build internal capacities to meet various ESG reporting requirements and investor expectations. 

Maintaining social licence to operate

More recently, stakeholder capitalism has received a lot of attention in numerous sustainability webinars and conferences. Stakeholder capitalism expands business imperatives from optimising shareholder profits to creating long term value for stakeholders. In order to survive and thrive, companies must be capable of managing all its stakeholders who are impacted by their actions. This is necessary to maintain “social licence to operate” which refers to an informal public acceptance that is built on trust and confidence. The incorporation of ESG lens can help companies to identify potential threats in their value chain which could jeopardise shareholder value and their reputation. This could include a wide range of risk events that are often industry-specific, such as human rights violations in the supply chain, natural resource exploitation and pollution concerns. I firmly believe that companies need to invest in meaningful stakeholder engagement initiatives to better manage their ESG performance and demonstrate commitment to stakeholders through concerted efforts and proactive solutions.

ESG risks in a changing world

As awareness levels continue to rise, ESG risk factors will become more prominent and critical to business success. ESG risks are also highly dynamic and are constantly evolving.

Let us reference the automotive industry as an example: as vehicles become more web-connected, companies need to identify solutions to prevent cyber attacks in private and commercial vehicles. As a result, cybersecurity and customer privacy in automobiles is an emerging new ESG risk dimension for car manufacturers to consider. Although ESG risks have unique characteristics, the management of ESG risks should not be dissimilar to how companies manage other types of corporate risks. And as with any other risk, it is crucial to understand the full context of the risk drivers and appropriately measure them in order to design controls to manage the threat. Further, it is also worthwhile noting that management of ESG risks can unlock new business opportunities that companies can capitalise on to drive growth.    

For companies beginning their ESG journey, I encourage you to utilise our online learning platform, BURSASUSTAIN which contains a wealth of news, resources and toolkits on sustainability, corporate governance and responsible investment. It is important that companies adopt a continuous improvement approach to integrate ESG considerations across products, services and business processes, in order to maximise value creation and remain sustainable for the long run.

Footnotes:

1 Acronym for Environment, Social and Governance
2 Building long-term business resilience (Vision 2050 issue brief) by World Business Council for Sustainable Development
3 Global Sustainable Investment Review 2020 (page 5) by Global Sustainable Investment Alliance

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