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Corporate sustainability starts with leadership in the boardroom

(Photo: Jo Johnston/Pixabay)

What big companies do in creating a more sustainable world can be as important as actions taken by governments.  And how they bring about change, for the most part, comes down to a roomful of people: the board of directors.

A research paper presented last week at the Geneva Summit on Sustainable Finance provides evidence to show that directors play an instrumental role in driving a company’s sustainability performance and that the impact can, in fact, be measured.

To single out this effect, the authors focused on directors that hold board positions in both the United States and abroad and studied what happened when new social or environmental regulations were introduced in that respective country.

They found that these rules, or so-called “sustainability shocks” taking place abroad were having a knock-on effect on US firms’ performance when a director sat on the board of companies in both countries.

“What we believe is that the salience of this reporting requirement increases and potentially gets imported from that director who experienced his regulation change in that the US firm,” said Lukas Roth, co-author of the research and associate professor of Finance at the University of Alberta.

“We show that directors matter and we hope our identification strategy is convincing that this is a causal effect,” he added. Lukas co-authored the paper with Peter Iliev, associate professor of finance at Pennsylvania State University.

Directors matter. Corporate sustainability policies have quickly moved into the spotlight in recent years as firms face increasing outside pressure to step up in tackling climate change. However, the role of the board in shaping a company’s sustainability agenda has not been closely looked at, Lukas and Iliev said, with literature until now mainly focusing on the board’s role in guiding governance practices.

“We add to this literature by demonstrating that the board’s influence is not limited to managing governance risks and setting executive compensation but also takes an active role in shaping corporate sustainability policies,” they said.

Carrots & Sticks Reports, a database compiled by KPMG, Global Reporting Initiative (GRI), the United Nations Environment Programme, and the University of Stellenbosch, was used to track different regulatory changes related to sustainability. For example, UK regulations introduced in 2013 requiring firms to report on their greenhouse gas emissions. Or Australia’s Carbon Credits Bill in 2011.

These were then linked to US firms using database directory BoardEx to trace which directors had international board connections during that period. MSCI environmental, social governance (ESG) indicators were used to score the performance of the US companies as well as the intensity of the sustainability shocks. In total, a sample of 2,860 US firms was gathered over the 2001 to 2016 period.

Their findings also showed:

  • Firms exposed to these “shocks” performed better and were more productive in the years that followed than those that were not exposed.

  • CSR performance improvements were larger for firms in ‘clean’ industries as well as those with lower financial risk.

  • A company’s “environmental” scores, or the “E” in ESG showed the strongest improvement although social sustainability scores also fared well.

  • Board directors have a weaker role in companies with a large investor base or strong institutional ownership.

  • The results suggest that a board that is exposed to a non-US sustainability regulatory changes increases a firm’s CSR performance by 4.7 per cent. Speaking at the one-day summit on 9 November, Lukas said:

“The results are important for investors. They're important for regulators for other stakeholders who care about a firm's sustainability performance and to those stakeholders that care, our message would be to pay attention to the board and pay attention to the directors if you want to push for a system that yields a better performance.”

The research paper was one of five pieces of academic work discussed on 10 November at the Geneva Summit on Sustainable Finance, which was organised by the University of Geneva’s Finance Research Institute, Sustainable Finance Geneva and the Swiss Finance Institute.

This year’s virtual event, which was condensed to a day due to the pandemic, focused on topics including carbon premiums and their impact on stock returns, the divergence of ESG ratings, and the impact of climate shocks on global supply chains. The aim for next year’s summit is to return once again to a bigger event with voices from both academia and the professional sphere.