The growing importance of ESG in business (interview)
Interview with Tomasz Kassel, partner at PwC, leader of ESG initiatives in Poland
ESG is an abbreviation that has been very popular for several months, it is becoming more and more widely known, but in fact probably few people know what it really is, it is often confused with CSR. So what really is this notorious ESG?
ESG is a bit like the Yeti - everyone talks about it, but no one has seen it in its entirety yet. In fact, ESG is an area of measurable factors that define non-financial parameters of companies' operations, which have a direct or indirect impact on their business and the environment in which they operate. Importantly, ESG is more heavily measured - a key difference from CSR, although it is worth noting that CSR activities can include bits of ESG and vice versa. However, this is confused and we are very keen to clarify what ESG is. Let me give you an example: as PwC we have beehives for bees on the roof of one of our office buildings. This is a very important pro-environmental initiative and it is worth supporting, but ESG is something more than such micro-scale actions. ESG is e.g. saying: how many women and men do we employ, what do we do to strive for equal pay for women and men, or what does our comprehensive net zero policy look like and how do we approach ethics and anti-corruption activities in the company.
Beehives for bees no, but if a company is already, for example, measuring its carbon footprint, switching to renewables, that's ESG?
Yes, then we enter the ESG area - specifically environmental governance, from E. And here we can already start talking about a certain taxonomy, that is the way of reaching specific goals and its measures. This is one of the most important issues. ESG is a global trend, but let's focus for a moment on the European Union. One of the most important assumptions of the EU Green Deal is that we want to be zero carbon by 2050. This is the goal, but how to do it? The European Commission through a series of actions, mainly regulatory, defines what steps we want to take in the next years and how to measure it. For example, there is the Fit For 55 program, which means a 55 percent reduction in CO2 emissions by 2030. - That's where the "55" comes from. Within two months, we expect to see a package of regulatory changes introduced to actually achieve that reduction by that time.
Calculating the carbon footprint is - going down to the operational level - one of the basic measures of achieving CO2 emission reduction. It also includes a CSR or PR element, as it is nice to boast about producing goods with a low carbon footprint.
So could you explain what each letter from the ESG acronym means in practice - from a practical point of view, for companies? What can be measured in each area?
E, or environment, is probably the most already measured area that has had a methodology for counting for many years. It's, for example, emissions of toxins and waste, sourcing of raw materials, packaging and waste - in the EU, for example, it's extended producer responsibility, which is a set of regulations that deal with waste management. If producers don't meet certain obligations to help collect waste, the company will, for example, incur more costs.
The letter "S", from social responsibility, is something that in Poland, for example, is hidden under the abbreviation of BHP (Occupational Health and Safety). In Poland it is sometimes ridiculed, but it is a very important issue - the quality and safety of production, products.
However, it is not only about Polish regulations. Germany currently has a draft of legal changes, which will probably enter into force on 1 January 2022, and which will introduce the requirement for companies operating in Germany to report information on the so-called responsible supply chain. It will have to be demonstrated that e.g. minors did not work in the production of goods, or that appropriate labour and pay standards were ensured. What does this have to do with Poland? Well, Poland is a big supplier to Germany, and this means that Polish companies will have to report to German recipients that they meet these standards. This shows that it doesn't matter where we do business, because international regulations or regulations from other countries can affect us.
Going further, with the letter "S" it is also about access to communication services, to health care, investing in human capital. These are elements that are difficult but possible to measure.
The letter "G" at the end, which stands for corporate governance, is in turn the supervision of the supply chain, but also communication with stakeholders, transparency of managers' remuneration, how much they earn and on what terms they are employed, control of monopolistic practices. Example: a few years ago, ethics committees in companies seemed like a strange invention, today in large companies ethics cells are a standard. "G" is also financial transparency or prevention of corruptive situations - giving, for example, the possibility of anonymous reporting of incidents in this area.
But when I talk to company leaders about ESG, they often have the perception that it will mainly affect publicly traded companies whose reports are public. What about private companies?
This is an important question. When talking to entrepreneurs about ESG in Poland I often hear: "okay, and if I don't do it, what will happen to me?". Today the answer is often, at least in the case of corporate governance and social responsibility: nothing, for the time being there are no significant legal consequences, sanctions, although image losses may be significant. Soon, however, reporting in this area will be forced in the EU (the obligation to report ESG by all public and private companies with more than 250 employees will be in force already from 2023), but apart from the forced behavior, it is also becoming a standard. Fewer and fewer things are getting off scot-free, and employees are becoming more and more courageous to speak up about situations that, for example, are not yet bullying but are already beyond the bounds of ethical behavior. Nowadays, adherence to these ESG elements is a distinctive element: in the USA, Germany, England, there are private companies that do not have to show this information, but they do. So I think there will be a domino effect: when companies see that the competition is transparent, they will start to do it themselves, even if they are not forced to. There may not be a legal requirement to disclose, for example, the total amount of remuneration paid to the board of directors, but business or employee pressure will increase.
Switzerland already has regulations mandating equal pay between men and women. Swiss companies must strive for this. This means that most companies with headquarters in Switzerland cascade these measures downwards, also to their subsidiaries in Poland. This is not the result of Polish regulations - although such regulations have already been announced by the Prime Minister - but actions are being taken. That is why I say that sometimes it is not necessary to be the first, but it is worth observing the market and being prepared so as not to be surprised when ESG becomes a standard.
So how much time do Polish companies have to prepare for the upcoming changes? The Green Deal is actually just around the corner.
There is indeed not much time. The European Commission has wisely shifted some of the responsibility for implementing the Green Deal to the financial sector, the lifeblood of the economy.
Financial institutions are supposed to assess the actual exposure to ESG risks. In a broader perspective, this may mean that if someone today conducts very energy-intensive and environmentally harmful production, without investing in energy-efficient energy sources and environmentally friendly technologies, then starting next year they can expect changes (including negative ones) in the financing conditions they receive from banks.
In addition, large EU funds will be available in the postcovid world. However, in order to use them, apply for grants and subsidies, you will also need to report ESG elements - just like in banks.
This will all happen very quickly. And when selling production to Germany or other countries, certain ESG standards will also need to be confirmed, even if not enforced by Polish legislation. Some companies already expect this from their contractors - for example IKEA imposes high Scandinavian standards of responsible business conduct on its subcontractors. If you want to be their supplier, you have to meet these requirements.
More specifically: in which areas should Polish companies already start preparing for the ESG standard?
Above all, we need to deal with what is already today or will soon be a formal requirement: product labelling, appropriate reporting, everything related to the letter E, reporting to EU databases. These regulations concern care for our health or clean environment. But there are also important things concerning financial reporting, which will affect creditworthiness if we are talking about an investment horizon of even several years.
Are domestic companies ready for these changes? How can you determine the state of preparation, adaptation to ESG business in Poland?
Let me put it this way: in Poland we have an incredible ability to adjust in the economic life, high flexibility. I am far from saying that we are behind Germany, France or England. In some areas, yes, but when I deal with companies there, I see that they also have their problems. The broader West has started to talk about some issues a bit earlier, especially those in the S and G areas - equal pay, inclusiveness - which are not talked about much in Poland, but there they are already on the board agendas. But I wouldn't say that we are "lagging behind" in terms of meeting the requirements of the financial sector or potential requirements for EU funds.
But in Poland we have a lot of changes of regulations, e.g. tax regulations. A lot of legislation and the resulting uncertainty means that entrepreneurs are used to having to adapt to something new. In Poland, however, there is a lack of long-term planning, we often do such things at the last minute... Although, from the point of view of the economy, somehow we are not doing too badly.
This was the case with RODO (GDPR), for example. But this time, however, we are dealing with a change that goes deeper. Does adapting to ESG also mean costs for businesses?And if so - how high?
Actual costs are especially important when it comes to complying with strict environmental requirements - e.g. reducing CO2 emissions, waste water, adjusting production technology or not having lead in the final product. Such costs can indeed be significant.
So is it fair to say that 2021 is the last call to start making companies ESG compliant?
Absolutely, yes. I have not yet said one thing, but a very important one - energy costs. In Poland energy is based on coal, we are going to move away from it - that is certain. At least for a transitional period we will have high energy prices in Poland. We may wonder how and who will have to pay for it, but someone will have to. There is also the idea of a "carbon tax", in a situation where someone imports products from e.g. China and Belarus, where production technologies are "dirtier". Bringing e.g. steel into the EU I will have to pay for the fact that someone in a "dirty" way produced this product. This will also affect operating costs. So yes, this is the last call to seriously talk about it and think about it. Compliance is at the end of the process if it turns out that the company has to pay much more for raw materials and energy. Our big benefit in Poland is still that we are cheaper in the EU. But if we stop being cheap, it will affect whole business models.
Interview by Michał Wąsowski, Business Insider Polska.
The Polish version of this interview is available at https://bit.ly/3wCucWc
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