By Andreas von Buchwaldt, Grant Mitchell, Seth Reynolds, and Steve Varley
CEOs can focus almost single-mindedly on their businesses and value chains. Now, with the push of a strategy that creates competitive advantage and enhanced value, they face another core task: satisfying a broad base of stakeholders with different interests that all demands the continuation of policies and practices of various differences.
Delivering on two (often apparently contradictory) grounds is important. Investors will only support a company’s long-term strategic initiatives if they provide above-market returns and meet the future needs of investors themselves, customers, regulators, and employees.
Like digital before it, sustainability has become a top strategic concern today. Decisions about a company’s sustainability impact the acquisition and retention of talent, access to capital, and consumer choices. And new regulations, such as the US Inflation Reduction Act, translate requirements to sustain economic shocks, especially in the energy sector. CEOs also see competitors growing and increasing customer loyalty through sustainability-linked products and services.
As a result, CEOs have largely accepted the need to embed sustainability into their strategies to create competitive advantage. But while existing frameworks describe the elements of a sustainable business, they rarely show how to get there.
At the intersection of sustainability and strategy, many companies are adopting an environmental, social, and governance (ESG) strategy. In doing so, they can be strongly influenced by the external focus of third-party ESG metrics, which are framed as a way to measure a company’s ESG performance.
ESG strategies, often aimed at improving key metrics in a way that a company finds acceptable or manageable, give many businesses a pragmatic start to becoming more sustainable. However, as a path to a better strategy, they have shortcomings.
Managing metrics is not the best way to deploy sustainability as a driver of competitive advantage and value, or to facilitate meaningful improvements in environmental and social outcomes. Being immature, metrics are not comparable, rigorous, or transparent. And the evidence for a link between economic value and ESG ratings is modest. Investors support real sustainability gains, but they will not tolerate strategies that do not provide economic value. While stakeholders closely observe ESG metrics, financial performance remains more important in corporate valuations.
Instead of focusing on ESG metrics, a more effective way to improve financial value and sustain performance is to integrate sustainability into the development and implementation of corporate strategy. In doing so, CEOs can ensure that their strategy makes the most of market, technology, customer, and regulatory trends created by sustainability requirements.
CEOs can integrate sustainability strategy in three ways:
1. Adapt the classic, CEO-level strategy questions by looking at them through a sustainability lens: “Is my purpose the best possible fit with competing stakeholder needs?” “As sustainability plays out in my industry, how can I position my strategy and portfolio for maximum advantage?” Collected responses should be tailored for individual business units or portfolio sectors.
2. Ensure that strategic choices include sustainability requirements by using top-down and bottom-up analysis.
- From the top down, ask, “How to further sustain or create new strategic drivers?” To test existing strategic themes, use methods such as moving from climate scenarios that capture climate risk to embedding climate elements in strategy scenarios and adapting customer research to hypotheses about critical sustainability issues can be tested. The insights gained can show how the industry ecosystem can evolve while maintaining influence.
- From the bottom up, ask, “What specific sustainability concerns must our strategy accommodate?” To identify such concerns, CEOs can consider which issues are most important to stakeholders—and therefore, how likely they are to create a competitive advantage. Three interrelated qualifiers help identify this: future prominence for stakeholders; uniqueness of contribution; and size of business value, net investment. Careful analysis will help rank these issues.
3. Use common methods to evaluate sustainability investments and commercial initiatives. Investments with a negative value are missing the opportunity to add meaningful impact. While some investments with unclear links to value may be pragmatic to avoid reputational risk, they should dissipate over time. Most organizations can do more with the use of data such as that of stakeholder attitudes and future economic impacts, and connections to estimate business outcomes of investments.
Organizations must implement sustainability initiatives with the same rigor as traditional strategic activities. They need to anchor these initiatives in the ambitions, resourcing plans, and incentives of all key decision makers—not isolate them within a sustainability team. CEOs need to identify early on the new internal business and impact data they need to measure progress on key sustainability initiatives, as legacy systems may not obtain such data.
EY-Parthenon research shows that taking these steps can make meaningful sustainability actions more prominent on a CEO’s long-term agenda and can lead to better results—helping a business achieve – the financial means and support of investors to create a more sustainable future. Read more about how corporate strategy can deliver growth and sustainability here.
Find out how the EY-Parthenon team can help you drive and develop your Sustainability and ESG Strategy.
Andreas von Buchwaldt – Senior Partner, EY-Parthenon GmbH
Grant Mitchell – EY Asia-Pacific Strategy and Transactions Sustainability Leader
Seth Reynolds – EY Americas Sustainability Leader
Steve Varley – EY Global Vice Chair Sustainability