A deep dive into the social aspect of ESG
A deep dive into the social aspect of ESG
The environment has been a primary focus for ESG (Environmental, Social, Governance) investors over the last decade, with intense climate-related disasters and variable weather patterns, tighter regulations surrounding greenhouse gas emissions, and rising demand for renewable & sustainable energy.
The COVID-19 crisis, however, became a watershed moment in the discussion around the social aspect of ESG. The global pandemic shed light on our society's flaws, including vast financial disparities, a shortage of affordable housing, the importance of our connection to nature, the gender and diversity gap, and an increase in mental illness.
As a result, corporations, under pressure from investors and other stakeholders, are working to be more transparent and mindful in the treatment of their employees, relationships with their supply chains, and their support of the communities in which they operate.
Why the social aspect of ESG matters
How can a company manage its relationships with its workforce, the societies in which it operates, and the political environment? This is the central question behind the social aspect of ESG and sustainable investing.
As the business environment of the 21st century has evolved and globalization has created companies and marketplaces that are increasingly integrated and interdependent, the social scope has gradually broadened. All company stakeholders are affected by social concerns, and a corporation's ability to avoid hurting its relationships and reputation can be critical to maintaining a long-term competitive advantage.
For example, a Sustainable Brands survey found millennial investors are more likely to integrate sustainability and social factors into their consumer behavior. As millennials become employees, buyers, and investors, they’re taking note of positive corporate action and rewarding them with loyalty. A BoF & McKinsey State of Fashion report estimated 60% of global millennials are willing to spend more on brands that are sustainable.
What factors make up the social pillar of ESG?
Social factors can range from employee treatment to boycotts to labor violations to product recalls. These issues are diverse, qualitative, and can often impact all of a company’s stakeholders at once, from workers and customers to suppliers and local communities. The ability to maintain healthy, positive, fair, and ethical relationships with these stakeholders is critical to the success of a company, especially if that business’s success relies on public trust.
Some types of social risk include:
- Diversity, equity, & inclusion
- Customer satisfaction
- Data protection & privacy
- Employee engagement
- Community relations
- Wage equality
- Labor standards
- Human rights
- Working & safety conditions
- Training & workforce development
- Ethical supply chain practices
These social factors are not as complex and abstract as they might sound and can have a dramatic impact on a company’s reputation and bottom line. For example:
- Employees at Wells Fargo allegedly opened 3.5 million unlawful deposit and credit accounts in order to reach unrealistic sales targets, according to a statement released by the bank. To make matters worse, staff used permitted accounts to move money to illegitimate accounts in order to rack up account fees. The bank was fined $2 billion, and it was forced to fire nearly 5,000 employees, including CEO John Stumpf.
- Volkswagen claimed for years that its diesel engines produced lower pollutants than gasoline ones and its diesel vehicles cut nitrogen oxide pollution (NOx) by 90%. However, it was discovered that Volkswagen installed software on almost half a million vehicles that hid the true amount of NOx. The Federal Trade Commission filed a lawsuit against Volkswagen in 2015 after discovering that these "clean cars" produce up to 4,000% more NOx than the permissible limit. The company pleaded guilty and was fined $1.45 billion, but their reputation was ruined.
Geopolitical events and labor issues also fall under the social category in ESG investing and conflicts like these can prevent companies from producing or distributing their products. For example, the recent drone attack on an oil refinery in Saudi Arabia temporarily halted roughly 5% of worldwide oil production.
A look into three key social issues
Although social responsibility is more difficult to define and quantify, it has significant impact on trust, confidence, inclusion, and successful stakeholder involvement. Furthermore, the definition of "value" is changing, and stakeholder expectations are shifting toward a more holistic view of value that extends beyond short-term profit. This transition has fueled a higher demand for material non-financial information, such as social elements, to be more transparent. Here are three key Social issues that businesses are focused on today.
Diversity, equity, & inclusion (DE&I) is about more than policies, programs, or headcounts. The presence of differences within a given setting is referred to as diversity. The practice of ensuring that systems and programs are unbiased, fair, and deliver equitable outcomes for all people is known as equity. Inclusion is the practice of ensuring that people feel a sense of belonging in the workplace.
Why is DE&I important? A diverse, equitable, and inclusive workplace makes everyone feel equally involved and supported in all areas. These efforts are more than an attempt to make people feel good; they have tangible benefits for both employees and companies, such as:
- Committed employees: Equitable employers vastly outpace their competitors by respecting the unique needs, perspectives, and potential of all their team members. As a result, diverse and inclusive workplaces that make employees feel safe earn deeper trust and more commitment from their employees.
- Greater innovation: When employees feel included, they’re more engaged which has a positive ripple effect on productivity, morale, and trust. Companies can foster a greater sense of safety and innovation by embracing a learning environment and inclusive culture that ensures everyone in the organization is comfortable with change, reassured by failures or mistakes, and quick to identify new opportunities.
- Stronger performance: Gartner found that inclusive teams improve team performance by up to 30% in high-diversity environments. People working in inclusive workplaces also tend to have better physical and mental health and take less leave for health issues.
A significant piece of employee engagement boils down to trust. In their research on company culture, Great Place To Work found that when employees trust that they, and their colleagues, will be treated fairly regardless of race, gender, sexual orientation, or age, they were more likely to look forward to going to work, take pride in their work, and to stay longer at their company.
This is part of the reason why the US Securities and Exchange Commission (SEC) approved a Nasdaq diversity rule in August 2021 that requires most of its more than 2,500 listed companies to report on its board diversity. Companies are expected to have at least one director in the coming years who identifies as a woman and another who is Black, Hispanic, Native American, LGBTQ+ or part of another underrepresented community.
Economic inequality is understood as the gap between the rich and poor in terms of both income and wealth. While this issue is multifaceted, much of the recent social conversation has been centered around the gender wage gap, a contentious issue that’s gaining traction. For example, the U.S. Women's National Soccer team has campaigned for pay equity for years and recently reached a landmark $24 million discrimination settlement with the U.S. Soccer Federation, as well as an agreement to match compensation and bonuses with the men's team.
According to Pew Research Center, the pay difference between men and women in the U.S. has been largely consistent over the last 15 years. According to an analysis of full- and part-time workers' median hourly wages in 2020, women earned 84% of what men earned. This means it would take an extra 42 days of work for women to earn what men did in a year.
In the last few decades, women have made significant progress in terms of representation, particularly in high positions. However, nearly two years into the coronavirus pandemic, studies show that women are struggling. During the epidemic, almost 4 million women left the workforce and bore greater responsibility, worry, and exhaustion than men. What about the employment-to-population ratio for women? In 2021, it fell below 50% for the first time since the 1980s.
For women of color, the issues are worse. When looking at full-time, year-round workers' income across broad racial and ethnic categories, Hispanic women have the biggest pay disparity, earning only 57 cents for every $1 made by white, non-Hispanic men in 2020. Despite generally having some of the highest labor force participation rates, Black women earned only 64 cents for every dollar earned by white, non-Hispanic men in 2020, according to data on Black women alone. When data on multiracial Black women, defined as Black women who also identify with another racial category, is included in the analysis, the amount drops to 63 cents, showing a slightly wider income difference.
Companies risk losing the very leaders they need right now if these issues aren't addressed fast, and it's difficult to see firms navigating the pandemic induced “Great Resignation” and creating inclusive workplaces if the gender wage gap isn't prioritized and addressed.
Transparent supply chains
Social factors are also becoming more significant in procurement and supply chain decision-making. When it comes to reducing ESG risks, it is no longer acceptable for the world's largest organizations to focus simply on their own operations; global corporations are expected to take the lead in addressing this integrated ESG challenge.
It’s become apparent that more clarity is required after the pandemic wreaked havoc on global supply chains. Investors will expect corporations to provide greater transparency into their operations in terms of labor practices, health and safety, and human rights, while companies will need to evaluate the risks of disruptions caused by climate change and other major events. The disruption produced by the pandemic has also prompted many corporations to focus on increasing supply chain resilience.
As companies attempt to fulfill worldwide net zero greenhouse gas emission objectives and encourage diverse, safe workplaces, they are also under increasing pressure to guarantee that their ESG principles are consistent throughout their distribution network/supply chain. As a result, supply chains and suppliers are put under intense downward pressure.
Given the complexity of the world's top corporations' supply chains, many are turning to third-party ESG risk management firms for assistance. These third-party services can help analyze the supply chain and procurement procedures in order to identify areas of concern connected to ESG risks as well as opportunities to reduce business risks overall.
ESG materiality assessments
With investors inquiring more and more frequently about what your company is doing in regard to responsible investment, how you treat employees and vendors, your dedication to sustainability initiatives, and other activities that fall under the ESG umbrella, it’s important to have answers to these questions.
An ESG materiality assessment empowers you to easily report on your current state and outline future initiatives while taking into consideration your business goals and risks. Download our guide to creating and extracting the maximum strategic value from an ESG materiality assessment.