ESG for the Small and Medium Sized Enterprise
Last month, during the United Nations climate change conference, COP26, the International Financial Reporting Standards Foundation (IFRS) made a major announcement regarding the creation of an International Sustainability Standards Board (ISSB) to develop comprehensive sustainability disclosure standards for investor needs. Similarly, in the US, the Securities and Exchange Commission (S.E.C.) is also currently evaluating Environmental, Social, and Governance (ESG) disclosure rules and is expected to release guidance in 2022. For many years, there has been an “alphabet soup” of sustainability and ESG standards organizations, making it difficult for investors to compare ESG metrics and performance across organizations and industries. The formation of the ISSB and subsequent guidance from the S.E.C. are significant steps toward defining a common set of standards that will help drive consistency in ESG reporting, much as the IASB (formerly the IASC) and FASB did for accounting standards in the 1970s.
Many large public companies are already aware of these changes in ESG standards, and are beginning to make changes to their sustainability reports and disclosure statements. However, for Small to Medium Sized Enterprises (SMEs), it can be hard to know whether any of these new standards will have an impact on their business.
Despite this uncertainty in the use of standards, many SMEs will need to start tracking ESG metrics in the near future, even though they may never publish a full externally facing Sustainability Report. Two important areas that will drive the adoption of tracking sustainability data are in corporate finance and customer management. In both of these activities, having detailed and consistent ESG metrics will give executives an advantage over their competition.
CFOs across industries are finding benefits in tracking ESG metrics, utilizing them to make better business decisions. Not only does focusing on sustainability related activities help drive down costs, but investors and banks are increasingly looking for these metrics to guide their own decision making within their portfolios. In a study of over 2,000 companies, reviewing over two decades of performance, those that made material improvements on ESG issues outperformed their competition in their industry. Corporate performance and impact like this are quite attractive to portfolio and investment managers, from community banks to private equity firms alike.
But establishing meaningful and material ESG metrics that are important to investors is more than just taking a more detailed look at invoices from utility vendors. Organizations must of course identify what is material to their specific business through the products or services they offer. However, it is equally important that the data collected is comparable across other similar organizations. This is where consistent standards, like those from the ISSB, will come into play. Executives that make use of these standards, in conjunction with relevant data sets for comparison (like the recently announced ESG Book), will help provide a value-added dimension to their business profile and showcase a level of transparency that is critical during investment decisions.
The multi-national customers of SMEs are also beginning to play a larger role in driving the adoption of ESG metrics and sustainability tracking. These large corporations have been focused on their internal sustainability metrics for several years, but as they start to look at where they need to generate more impact to meet their defined risk mitigation and greenhouse gas reduction goals, many have realized that the greatest opportunities can now be found by looking outward at their supply chains. For an SME vendor of these multi-nationals, this will often look like a request for sustainability data points, sometimes as a part of an overall vendor scorecard initiative. Knowing that many organizations lack resources and knowledge on ESG data management, some of the larger corporations are also creating novel training programs to support their SME vendors while making these requests.
In the dynamic business environment of today, it is as critical as ever to not only be responsive to customers, but also to anticipate their needs. As the customers of SMEs focus more and more on their supply base to meet their sustainability goals, organizations that have taken a proactive approach to gather and manage ESG data will have a competitive advantage in both retaining customers and gaining new ones.
For many years the field of sustainability and ESG metrics has been highly volatile, with very little consensus and consistency across organizations. However, with the establishment of the ISSB and other changes in the ESG metrics space, it is becoming clearer how companies will best be able to measure and disclose their sustainability performance and create value. Starting the process of identifying and tracking ESG data now, if not already begun, is the best way to stay ahead of the coming set of expectations from customers and investors, positioning SME organizations for long-term performance.
Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, investment, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.