ESG - What’s in A Name?
The acronym ESG stands for the environmental, social and governance performance of companies. And depending on one’s political inclination, it can also be a telling Rorschach blot for a business worldview.
Conservatives decry ESG as the penultimate in liberal overreach that has no place in business with woke initiatives like DEI (diversity, equity and inclusivity), reforestation and transparent executive-level compensation. These conservative bizfolk adhere more to economic theorists like Milton Friedman who famously said that the sole purpose of business is to make profit rather than freighting it with seemingly extraneous social and environmental impact, too. Business should be as free as possible from rules, regs and government interference, yet government should enact trade barriers to shield U.S. business from a global race to the bottom.
Liberal types see ESG as the second coming of the Lord – a kumbaya business world where all ages, races and types of people work hand in hand in meaningful work, getting along with each other and their benevolent management, never leaving companies all while profitability ticks up, up, up. Work is borderless, all workers make a living wage while companies protect the planet’s natural resources. And their stakeholders love, love these companies.
“There is one and only one social responsibility of business - to use its resources and engage in activities designed to increase its profits”
In reality, ESG is a big tent of initiatives that create or destroy value. Finance types often refer to ESG initiatives as soft or intangible assets. For example in 1974, tangible assets (the stuff you feel, see and experience with your senses like buildings, machinery, equipment and inventory) comprised 83 percent of the value of S&P 500 companies, and this tracks globally, too, at 74 percent. Yet in 2020, that number had dropped to 10 percent – yes, TEN – while 90 percent was made up intangible assets – things like human and intellectual capital, stakeholder relationships, cybersecurity, how engaged workers are, board of directors’ transparency and that B-school debate chestnut, brand value.
While these things may not have an actual dollar value on a balance sheet, they can make a company shine or decline if companies mishandle them. And recent history shows the roadside wreckage and carnage of companies that ride fast and loose with ESG:
• Enron – Lack of transparent accounting and financial controls led to company’s bankruptcy (a governance (G) issue).
• Lehman Brothers – Corporate governance tilted to compensation for short-term gains rather than long-term portfolio performance and safety triggered the 2008 financial collapse (also a governance (G) issue).
• Vale – Fraud and outright lies in dam-safety reporting hid structural weaknesses until the Brumadhino dam burst, killing 270 people and erasing an entire village in Minas Gerais, Brazil (environmental (E)).
• Walmart – Walmart, Target and other big retailers hire a large percentage of their workers part-time (no more than 39 hours a week) with workers on call (“dynamic” scheduling) to avoid tripping full-time benefits. This keeps workers trapped in a cycle of low wages, no benefits and the lack of time to add a second or third job (a people and thus social (S) issue).
• Starbucks – Also a dynamic-scheduling company, workers at Starbucks have reported grinding working conditions to the National Labor Relations Board and claimed Starbucks effectively denied them the right to organize at 163 cafes nationwide. The company fights claims with the tactic of exhausting union-seeking workers (a social (S) issue).
“The State Board of Administration must make decisions based solely on pecuniary factors and may not subordinate the interests of the participants and beneficiaries of the fund to other objectives, including sacrificing investment return or undertaking additional investment risk to promote any nonpecuniary factor.”
What’s really unfortunate, though, is lawmakers politicizing ESG with a number of states disallowing ESG funds and even ESG criteria in public funding (think teachers’, firefighters and police pension funds). While a number of fossil fuel-producing states say ESG and its goal of carbon elimination threatens tax coffers, other states seem to have jumped aboard the crusade merely to gin up conservative votes.
One tell that politicians know exactly what they’re doing is that they pepper these laws with out clauses, saying fiduciary duty tops all. And in fact, Florida’s 2023 anti-ESG law refers to fiduciary duty 17 times throughout its 51 pages.
This blacklisting of ESG investing is wrong-headed and hurts the very people it’s intended to help – mid- and long-term asset owners, especially pension holders. Why? When it’s legit and properly managed, ESG can be a big money maker because it minds the store of those squishy intangibles that all too easily lend themselves to mismanagement and devastating financial effect.
Granted, not all ESG funds, ratings systems and even initiatives themselves track with better corporate financial performance, but a lot do. It’s a big topic and one I’ll cover in future blogs and in my upcoming book, ESG Table Stakes – Making the Business Case for ESG, and Why Every Company Needs It.
Really, it doesn’t matter what you call it – ESG, sustainability, socially responsible investing (SRI), woke capitalism or responsible business. When companies handle ESG initiatives properly and legitimately, those features can create mid- and long-term value.