Board service has evolved over the last few decades, requiring directors to be knowledgeable on more issues facing companies than ever before: risk management, financial concerns, corporate governance, material disclosures—the list goes on. This reflects the growing complexity of the business environment, with environmental, social, and governance (ESG) issues permeating many conversations these days, including in the boardroom.
In addition, stakeholder capitalism emanating from ESG concerns is quickly becoming one of the most talked-about concepts among directors and officers. Stakeholders are using their influence to demand change around multiple facets of ESG-related issues. It is not a buzzword but a movement.
What Is Stakeholder Capitalism?
In essence, stakeholder capitalism is when an organization works to create value by meeting the demands of its various stakeholders as opposed to exclusively concentrating on profit and shareholders’ demands.
It is not a novel concept—in fact, as discussed in a piece on Investopedia, corporations were largely guided by the stakeholder philosophy until the 1970s, when the focus shifted to shareholders. After a hiatus of several decades, boards are once again faced with recognizing the relentless demands of the non-shareholder stakeholder.
Stakeholders can be any group with an interest in an organization, such as shareholders, employees, customers, and suppliers. From a pragmatic standpoint, people want to work for, invest in, and buy from companies with like-minded values and missions. Companies must better understand how to attract and retain talent in a fiercely competitive labor market, while simultaneously recognizing that customers and investors are all demanding that they demonstrate their commitment to the principles of sustainability and ESG protocols.
It’s the dawn of a new balancing act for the board, and the pressure to act is coming from all sides:
Customers are filing class-action suits against companies they allege have made false claims about the sustainability of their products.Employees are choosing where to work based on how socially responsible their current and prospective employers are.Regulators are demanding more detailed disclosures on climate-related matters, diversity and inclusion, and more.Investors are targeting boards of directors in litigation, alleging breaches of their duty to address ESG.
All these threats—including litigation—can result in enormous costs for businesses and for individual directors and officers.
What Boards Can Do
History shows that people and their organizations don’t shift their focus quickly enough to address emerging issues. What actions should boards be taking to adapt to this shift back toward stakeholder capitalism?
Become educated on the broad array of ESG issues facing your organization. What are stakeholders demanding? How should the board respond to those demands? Boards should turn to trusted advisors well versed on the issues. Working with outside counsel to fortify ESG frameworks can reduce potential litigation and, at a minimum, provide additional defenses if litigation does ensue.Understand the methodologies and criteria used by the organizations assigning you an ESG rating. There are many ESG rating firms, with very little correlation on results or method. There is no central regulatory standard that explicitly states the “level” required to achieve even a passing grade. For these reasons, the most important factor in ESG evaluation is change.Be authentic in your actions. Implement systems that measure and monitor change. Demonstrate positive change in method, practice, or outcome that exhibits willingness, effort, and an improvement in the ESG risk profile.Understand your fiduciary responsibilities. Better understand how your fiduciary responsibilities are tied to the emerging issues referenced above. Ignore stakeholders’ needs and you risk breaching your fiduciary duties.Review and strengthen your directors and officers (D&O) insurance coverage to make sure it will address these emerging issues as comprehensively as possible in the event of a vulnerability.
Everyone wants to avoid regrets, and this certainly applies to the evolving area of ESG and its impact on the board.
Think about the situation emerging, evaluate what your organization has done and is doing to address change, and engage others with expertise to counsel you. Do all of this on a regular basis and wrap it with a D&O insurance policy that is cutting-edge, and you should never have regrets.
Jack Flug is a managing director at Marsh and leads the US Financial and Professional Liability (FINPRO) claims practice. Maureen Gorman is a managing director and the ESG leader in Marsh’s FINPRO practice.
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