When the Board and the C-suite speak sustainability

The governance part of environmental, social and governance (ESG) issues often gets forgotten or even overlooked. It doesn’t have the immediacy of environmental, or the campaigning weight of social. However, getting governance right is absolutely critical to delivering on everything else. This is particularly clear with recent developments on mandatory sustainability disclosures and due diligence in the supply chain. The Corporate Sustainability Reporting Directive (CSRD) and the Corporate Sustainability Due Diligence Directive (CSDD)  give us an opportunity to take a step back and look at what these directives really mean for companies and especially for directors. Let me be clear about this: directors’ duty of care means they will be put on the spot under these ambitious rules. It’s by no means clear that all directors have understood that.

Understanding directors’ duty of care in ESG and sustainability

To understand what we mean by directors’ duty of care, we first need to understand what we mean by ‘c-suite’ and ‘board’. The c-suite, or CXOs, have a responsibility for day-to-day decisions about how to run the company. The board is in charge of more strategic decisions, including the remuneration of the c-suite. The definition of ‘directors’ depends on the jurisdiction, but generally covers anyone in a position to take decisions about the company, meaning both board and c-suite.

The CSDD places an obligation on directors to oversee the implementation of due diligence processes and include these considerations in corporate strategy. The CSRD is aligned with the Taskforce on Climate-Related Disclosures. It will require that there is board oversight on climate change issues and the role of management (meaning executives). Companies therefore need to have a governance structure to deal with climate change topics and develop a strategy on these issues.

Fundamentally, this means that board and c-suite members must have an overview of what is happening, and be aware, informed and educated around environmental topics, especially those related to climate change. This is particularly relevant because directors will have to define the strategy of the company.

This duty of care has existed for some time.  For example, the UK Companies Act 2006 says that directors must act to promote the success of the company and its members, having regard for employees, the need to foster the relationship with suppliers, and the impact of the company’s operations on the community and the environment. The difference is that the duty is now being given legs to make it more enforceable.

Delivering governance in ESG: becoming a competent board member

In 2022, we saw some landmark cases in which several CEOs were unseated by investors because they were not thought to be competent on ESG or sustainability and therefore unable to deal with the challenges posed by climate change. The investors suggested that these CEOs were not fit to take strategic business decisions for the company in the current global context.

One particular issue is supply chain disruptions, strongly highlighted by the COVID-19 pandemic. Supply chain disruptions are linked to major events like terrorist attacks and pandemics, but also other causes such as extreme weather conditions, human rights violations, or supplier bans because products are contributing to deforestation. There is also pressure to ‘nearshore’ to reduce emissions. These are all issues that have to be considered by decision-makers in the current regulatory landscape.

Increasingly, therefore, investors and other stakeholders are putting pressure on companies to ensure that the directors include people versed in these topics, or at least are advised by people with some knowledge on ESG and sustainability issues. Companies with a depth of knowledge on these issues will undoubtedly end up stronger than their less equipped peers.

It has become common to tie bonuses to sustainability KPIs. I am not sure that this is helpful, because it can encourage directors to make short-term decisions, instead of looking at long-term results. However, I do believe that boards and c-suites should be equipped with the skills needed to serve the company and its stakeholders. They must also facilitate the development of structures to improve the governance and direction of the company, taking into account existing and anticipated challenges, including the importance of being resilient.

At this point, it is worth mentioning the concept of competence washing. This is defined as “the professional ESG skills-related inflated or overstated claims of environmental competence or non-financial sustainability-related expertise in absence of material or credible educational or professional track records.”

Good corporate governance practice suggests the importance of having a competence matrix to make sure the board is suitably equipped, or to identify areas that need to be strengthened. This is a key part of ensuring that board members are competent—but also that the board as a whole has the expertise it needs.

Governance as a way to future-proof the business

The implication of the new disclosure obligations for companies and other sustainability legislation is that companies need to reinvent themselves. Understanding the impact of your business will be key to future-proofing it—and governance is the key to developing this understanding.

Companies must take this opportunity to strengthen their internal and external communications, and understand the context wherever they have a presence. This will help to understand and address the impact of their actions. However, it will also allow them to engage more confidently with investors.

Disclosure obligations must not be seen as a mere tick-box exercise. Companies cannot afford to hope that nobody will question them. Administrative enforcement remains relatively weak, but investors and customers can still request detailed information. Third-party assurance is a big element of the CSRD. What’s more, there are many ways to establish how well your company is doing on employee health and safety, working conditions, and environmental matters.

Sustainability means putting the G into ESG through better governance

In conclusion, decision-makers in boards or c-suites must make sure they are up to the governance challenge of delivering on sustainability and ESG issues. They must develop their knowledge on these issues, so that they can speak and act with confidence. You don’t need to be an expert but you do need to understand your role and how to take decisions in light of the new challenges imposed by ESG and sustainability.

Understanding your legal obligations is the first step in going beyond compliance in a credible way—but more is required. Sustainability matters affect almost every step that a company takes, from how a product is developed to how it is distributed or used. You need to be clear about the impact on people’s safety and on the environment.