"ESG has become a popular shorthand for all the non-financial issues that affect business and investor success. It stands for environmental, social and governance and represents a range of criteria companies use to help run themselves responsibly – and report the outcomes of their ESG practices to investors and others." What is ESG and why is it important, St. James' Place
Rising concerns about the environment have raised interest around ESG and given financial commitments associated with the initiative. It shares similarities with sustainability in that they both address environmental and social aspects. However, sustainability carries different meanings depending on the organisation whereas ESG follows a specific set of criteria denoting environmental, social, and governance.
Why has ESG become important in 2021 and where are most organisations in their ESG initiatives?
Achim Wenning: In our latest study (Horváth CFO Study 2022 - Deep Dive) we addressed these questions and the results are clear: Sustainability is no longer a temporary issue. Companies which are not yet intensively grappling with the transformation of their business in the direction of greater sustainability will be confronted with competitive disadvantages in the medium term.
As a result, the topic of sustainability and thus ESG is on the agenda of almost all companies these days. The increasing relevance cannot be attributed to one isolated driver but is instead being driven from various directions.
Many of the participants identified customer behaviour and expectations as the most significant influence factor (58%). In addition, the own organisation (53%), external reporting obligations (50%) and the capital market (43%) are further reasons for the increasing importance. According to our survey, 85% of participating companies see their positioning and state of development as being above the minimum level stipulated by the statutory regulations. The biggest proportion (38 %) of the companies are actively dealing with the issue and see it as an opportunity to generate benefits in the medium to long term – in terms of both sales and costs. Furthermore, the results show that companies have a focus on the ecological dimension nowadays.
From a technology standpoint, what are the biggest ESG pain points facing the firms today?
Achim Wenning: First, companies must be clear about which KPIs they want to measure in the context of the individual ESG dimensions. Once this step has been taken, companies must be able to measure and track the relevant metrics.
However, the procurement of data is a particular problem. Many companies currently have few standardised processes to collect the relevant data and therefore compile the figures manually, for example in Excel.
The main technical pain point is that the required data can rarely be accessed from existing software respectively databases. For example, without special customising and manual adjustments, there is no information on a company's current emissions in its ERP system such as SAP S/4 HANA.
Why should the CFO be involved in ESG? What can he or she do in this regard?
Achim Wenning: In general, the finance department is responsible for recording, preparing, and reporting data as well as providing measures and management impulses. Therefore, it is obvious that the CFO should also be involved in the topic of sustainability and fulfil these tasks. Beyond that, the CFO should have ambition in this subject.
Corporate decision-makers have grasped that the transition to sustainable business practices is becoming an existential issue for them. Therefore, finance departments should get actively involved in the sustainability transformation as “Sustainability Performance Managers” and help to shape the transformation going forward.
As Sustainability Performance Manager, the CFO is responsible for the integration of sustainability into corporate performance management and the long-term sustainable development of the company.
According to our study, the ambition was and is clear: The CFO function wants to exploit the opportunity to generate business impact and contribute its core competencies to planning, measurement and management of goals and performance. Finance departments should seize this opportunity to take a proactive role in the sustainability transformation of their companies.
Especially when it comes to defining key performance indicators, which is by all accounts the most important task at present, CFOs must succeed in identifying cause-and-effect relationships and making them measurable in the form of KPIs.
The required KPI set must satisfy all known quality criteria for KPI definition: Universal and comprehensible definition, quantifiability, influenceability, clear responsibility, and good data availability - to mention just a few very central criteria.
What are the current tools available to help CFOs to prepare for a more effective ESG initiative or strategy?
Achim Wenning: Basically, a distinction can be made between standard and individual software. Meanwhile, there are many providers offering software for sustainability reporting. The appropriate software depends, as is often the case, on the requirements and the current running system.
Many companies currently buy standard software to collect their sustainability data, especially for environmental reporting. On the other hand, tailor-made BI software can be sufficient to manage the ESG initiative depending on the company's goals and external reporting requirements.
In terms of tech, where should CFOs begin?
Achim Wenning: Digital methods and tools such as AI, ML, Big Data and more are gradually finding their way into operational business via pilots and implementations. The starting point depends on the current stage of development and the industry and activities.
From our point of view, companies should always start with the proof of concept by identifying the advantages and thus the additional value that a new method or a new technology can provide. Those considerations should consider a short term and a long-term time horizon.
In our CFO Study 2022, we have divided the implementation level into the following levels: No initiative or project started yet; Proof of Concept Phase; Pilot/prototype phase; In the handover to productive operation; Productive phase (implemented).
According to our study results, the categories AI, ML, Big Data and Advanced Analytics (AA) show quite similar results. Many companies (share between 30%-50%) are currently in phase one (No initiative or project started yet). About 20-30% are already in the proof-of-concept phase (maximum value AA with 30%) and approximately 10% are currently in the pilot/prototype phase.
The remaining share is distributed over the last two categories. If we look at the Productive phase in detail, Big Data shows the highest value with 16%, followed by AA with 10%, ML with 8% and AI has the lowest value (6%).
What is your advice for CFOs prepping for the upcoming ESG-led transformation?
Achim Wenning: The CFO function should view sustainability and therefore the upcoming ESG-led transformation as an opportunity to grow into a key role in the process of shaping sustainability policy in their own company.
Especially when it comes to the task of managing profitability and sustainability in a joined-up and efficient manner, there is simply no getting around the finance department. A consistent and targeted effort needs to go into advancing the cause of sustainability with clear economic parameters.
Seeing this process through in a structured way with a clearly defined target path and a dependable course will require the CFO function’s core competencies.
Seize the opportunity to play a stronger role in the future on this issue of such significant importance. This means doing more than merely recording, preparing, and reporting on information; instead, it means playing a proactive role in shaping the sustainability transformation as the economic conscience of your company.
To this end, your first step should be to question the status quo in your company and the finance department itself. Draw an appropriate demarcation line between action and development fields and prioritise them accordingly.