UN Global Compact

Initiated by Kofi Annan's¹³ speech to Davos participants in 1999, the UN Global Compact is a strategic policy initiative for businesses whose CEOs make a commitment to aligning their operations and strategies with ten universally accepted principles in the areas of human rights, labor, environment, and anti-corruption.

Kofi Annan's call to action was operationalized brilliantly¹⁴ with a very simple but very effective requirement for the signatories: that they would annually report (Communication on Progress, COP) to the UN Secretary General what they are doing for each of the ten universally accepted principles, confirmed by their CEOs signature, and that these reports would be publicly available. There are no specific targets (each organization picks their own targets), there is no third-party verification (although this is recommended, it is not a requirement), and the initiative is totally voluntary. There is only one penalty for those who fail to report: to be delisted from the UN Global Compact signatories list.

However, this simple requirement of annual Communication on Progress by organizations that voluntarily signed on has served extremely well. First, organizations from different geographies and different scales have picked achievable targets that were appropriate for themselves. This in turn improved their motivation to do even better each year. The requirement of CEOs signature provided much-needed focus on each organization's voluntary activities on these principles and improved both resource utilization and deployment throughout the organization and geographies. Competitive instincts of corporate leaders pushed them to do better each year rather than seeing the target they have picked for themselves as regulatory hurdles to be met. So, a virtuous cycle for continuous improvement was set in motion. Also, the fact that the reports are publicly available has provided both a self-discipline and potential for review by other stakeholders, as well as a benchmarking and a learning opportunity from peers.

Under the able leadership of its founding executive director, Georg Kell, in 15 years the UN Global Compact has become the largest voluntary corporate responsibility initiative and sustainability platform in the world. By 2018, there are more than 13,200 signatories, over 9,800 of which are businesses, from over 161 countries. More than 100 countries have established Local Networks of Global Compact signatories in their respective countries,¹⁵ increasing mutually beneficial collaboration and learning opportunities. On a global scale these national networks meet annually to learn from each other and provide guidance to the overall development of the initiative.

UN Global Compact was recognized as a role model initiative in the B20 recommendations to the G20 in Antalya on November 2015.¹⁶

OECD Guidelines for Multinational Enterprises

The Guidelines provide voluntary principles and standards for responsible business conduct in areas such as employment and industrial relations, human rights, environment, information disclosure, combating bribery, consumer interests, science and technology, competition, and taxation.

The Guidelines are a leading tool to promote responsible business conduct in the changing landscape of the global economy. Observance of the Guidelines by enterprises is voluntary and legally not enforceable. Yet, a significant number of companies on the FTSE4 Good and Dow Jones Sustainability Index refer to the OECD MNE Guidelines in their corporate social responsibility (CSR) reports.

The fact that OECD countries have endorsed the Guidelines is a differentiating factor from other voluntary initiatives. The Guidelines are applicable to large and to SME multinational enterprises; the criterion is not the size but the multinational character of the company. Although the content of the Guidelines does not apply to non-MNEs, it can well be relevant for non-MNEs, especially as a source of inspiration.

Principles for Responsible Investment

Developed with the contributions of a multi-stakeholder group including the global investment industry, intergovernmental organizations, civil society, and academia, the Principles for Responsible Investment Initiative (PRI) is an investor-led coalition in partnership with the United Nations Environmental Program Finance Initiative and the United Nations Global Compact.

More than 2,140 asset owners and investment managers who are decision makers for $90 trillion of assets under management are PRI signatories. They explicitly accept that their fiduciary role calls them to incorporate environmental, social, and corporate governance (ESG) issues into their investment decisions. They are a powerful force that is giving an impetus to responsible business.

The Principles are voluntary and aspirational. The PRI Initiative has quickly become the leading global network for investors to publicly demonstrate their commitment to responsible investment, to collaborate and learn with their peers about the financial and investment implications of ESG issues, and to incorporate these factors into their investment decision-making and ownership practices.

Not only investors and managers of huge assets are beginning to focus on responsible investment, thereby providing financial incentives for responsibility in boardrooms, but also credit markets are developing with an increasing focus on transparency and reporting the environmental and climate impact of supported projects.

Global Reporting Initiative

GRI's Sustainability Reporting Framework is a reporting system that enables all companies and organizations to measure, understand, and communicate four key areas of their performance and impacts: economic, environmental, social, and governance. GRI's mission is to make sustainability reporting standard practice. GRI provides one of the world's most prevalent standards for sustainability reporting. GRI Guidelines seek to enhance comparability between different corporations' sustainability reports by providing a holistic framework and encouraging the use of common indicators.

GRI has issued its first reporting framework in 2000 and over the years the GRI framework has become the benchmark for best practice in sustainability reporting. Over 46,000 companies now use the GRI framework as the basis of their reporting.

The GRI framework has gone through a series of evolutions and its most recent version, G4, is a major overhaul. In particular, G4 is focusing on supply chain materiality and allowing companies to report only on what matters most to them. Many companies' greatest sustainability impacts are in the supply chain. By encouraging the companies to explore and report more detail about suppliers, G4 aims to improve their overall sustainability performance.

Also, with the aim of putting sustainability higher on the board's agenda and ensuring a better link between sustainability and remuneration, G4 is increasing its disclosure requirements around governance and remuneration with new indicators.

GRI has strategic partnerships with the UN Global Compact, the OECD, ISO, and the United Nations Environment Program (UNEP).

International Integrated Reporting Council

Launched in 2010 by HRH the Prince of Wales, the International Integrated Reporting Council (IIRC) is a global coalition of regulators, investors, companies, standard setters, the accounting profession, and NGOs. Its mission is to create the globally accepted International Integrated Reporting Framework that would improve disclosure on the organizations' value-creation process by incorporating material information about the organizations' strategy, governance, performance, and prospects in a clear, concise, and comparable format.

An integrated report aims to provide insight about the all material resources and relationships used and affected by an organization. It seeks to explain how the organization interacts with the external environment and the financial, manufactured, intellectual, human, social and relationship, and natural capitals to create value over the short, medium, and long term. It is seeking to forge a global consensus to establish a single, unified approach to financial and sustainability reporting. More than 80 international organizations have signed up to be part of the IIRC's network program. According to the Founding Chairman of the initiative, Mervyn King: “A key challenge for leadership is to make sustainability issues mainstream. Strategy, risk, performance, and sustainability have become inseparable; hence the phrase ‘integrated reporting.’”¹⁷

Under the Turkish Presidency of the G20, integrated reporting was among the B20 recommendations to the G20:

Implementation of inclusive and sustainable development will depend on the active engagement of the public private, and non-governmental sectors, including but not limited to the increasing number of actors signing the UN Global Compact and UN Principles for Responsible Investments (UNPRI). Good governance and responsible behavior by all actors should be established by creating a regulatory environment where transparency in the public and private sectors is the norm. Embracing reporting best practice and encouraging market-led initiatives, such as Integrated Reporting, focused on communicating value creation and sustainability performance across the economy would be the most effective way of improving transparency and building trust.¹⁸

International Organization for Standardization's Social Responsibility Standards

ISO 26000 provides guidance on how businesses and organizations can operate in a socially responsible way that contributes to the health and welfare of society. Developed through a multi-stakeholder process, ISO 26000 is a voluntary guidance standard and applicable to all organizations, not only limited to corporations.

The Standard covers seven key principles, advocated as the roots of socially responsible behavior: Accountability, Transparency, Ethical behavior, Respect for stakeholder interests, Respect for the rule of law, Respect for international norms of behavior, and Respect for human rights. The core subjects, which every user of ISO 26000 should consider are organizational governance, human rights, labor practices, environment, fair operating practices, consumer issues, and community involvement and development.

The Standard involves a seven-step approach to sustainability:

1. Working with stakeholders to recognize their concerns
2. Defining the scope of social responsibility for the organization
3. Designing enterprise-wide procedures to integrate the sustainability program into the organization's mission, vision, strategies, and policies
4. Overseeing the implementation of the procedures
5. Communicating on social responsibility internally and through public disclosure
6. Evaluating the sustainability program through performance metrics
7. Making continuous improvements through the learnings achieved

Equator Principles

The Equator Principles (EPs) is a risk management framework, adopted by financial institutions, for determining, assessing and managing environmental and social risk in projects and is primarily intended to provide a minimum standard for due diligence to support responsible risk decision-making. The EPs apply globally, to all industry sectors and to four financial products:

1. Project Finance Advisory Services
2. Project Finance
3. Project-Related Corporate Loans
4. Bridge Loans

The relevant thresholds and criteria for application are described in detail in the Scope section of the EPs.¹⁹ EP signatories (80+ top financial institutions) do not provide finance to the projects that are not satisfying the requirements of EPs. EPs also helped the convergence of environmental and social standards in the financial sector.

Collaboration between these initiatives is increasing. For example, the former and now honorary chairman of GRI, Mervyn E. King, is also chairing the IIRC. UN Global Compact has signed a cooperation agreement with the GRI and is promoting utilization of GRI for its own Communication on Progress (COP) reports. In July 2014, the Boards of UN Global Compact, PRI, and PRIME (UN Principles of Responsible Management Education) met jointly in New York. More than 500 business schools are signatories of the UN PRIME. In doing so they have committed to addressing this need for change in leadership capabilities through education, research, and engagement. However, universities and governments have been slow to create opportunities and rewards for interdisciplinary research and broad public dissemination of research results. The mechanisms by which universities are funded, journals are ranked, and academics are assessed discourage academics from engaging with real problems and communicating their work to those who can act upon it.²⁰

Defining Sustainability Responsibilities with a Comprehensive Scope

The boards should clearly define their sustainability responsibilities through a Sustainability Charter.²² The Charter should clearly specify the scope of the board's²³ oversight of sustainability issues; specifically reference the company's priority sustainability issues; make the linkages with the business strategies and priorities; and provide a framework for the integration with the company's risk management systems.

The scope of sustainability issues that need to be covered should include a comprehensive set of subjects such as safety, health, environmental, and community impact, human rights, labor rights, anti-corruption, and business ethics. Another key issue to consider is the standards of conduct and level of implementation in all the jurisdictions that the company operates in. OECD MNEs Guidelines particularly focus on this issue.

Supply chains are critical links that connect an organization's inputs to its outputs. Sustainability efforts of many companies are limited to measuring the sustainability of their own business operations and do not extend these efforts to their suppliers and customers. However, brand owners need to accept responsibility throughout their value chains. This may involve utilizing their purchasing power to encourage, audit, collaborate with, and provide benchmarking and learning opportunities with its suppliers on key sustainability issues. Apart from such engagement with the suppliers within the value chain, approaches such as supplier management, product design, manufacturing rationalization, and distribution optimization can be utilized to minimize negative externalities throughout the company's value chain. Furthermore, the sustainability impacts of the company's activities further downstream, including its final customers, can also be mitigated by product design and customer education. In short, the company should manage the impact of all its activities, including its supply chain as well as its full product portfolio²⁴ throughout the lifecycle of its products.

Hence, the boards need to focus not only on the sustainability issues arising from company's own operations, but also on minimizing the impacts throughout its value chain and throughout the lifecycle of its full product portfolio.

Materiality and Risk Management

Despite the fact that market performance is currently measured through short-term financial returns, sustainability issues are becoming more relevant for investors, customers, and the communities. According to the Intangible Asset Market Value²⁵ report only 20 percent of an S&P 500 company's market value can be explained by its physical and financial assets (down from 83% in 1975) and the remainder comprises intangible factors, such as intellectual capital,²⁶ human capital, brand and reputation, and relationships with regulatory bodies, nongovernmental organizations, customers, suppliers, and other external stakeholders.

Therefore, sustainability issues that may have an impact on these intangible areas pose a significant risk for the value of a company. Boards need to seriously consider sustainability risks in four dimensions: strategic, operational, compliance, and disclosure. The sustainability risk analysis for the company would typically include seven questions:

1. Which aspects of sustainability issues are relevant for the company?
2. What are the procedures and tools utilized for the assessment?
3. What are the short- and long-term economic, environmental, and social impacts?
4. What are the major synergies, conflicts, and trade-offs?
5. What measures can be put in place to mitigate harmful impacts?
6. How does the management handle variability, uncertainty, complexity, and ambiguity (VUCA) around the key issues?
7. What is the least-cost (economic, environmental, and social) mitigation option?

The responses to these questions should assess stocks and flows of economic, environmental, human, and social impacts; identify positive, negative or constant trends; determine degree to which effects can be reversed; determine degree to which negative impacts are shifted to future generations; and estimate long-term costs of failure to act at present.

The boards need to ensure that the material issues that would substantively affect the company's strategy, business model, capital, or performance are properly identified. In doing so the boards need to be actively involved in setting the materiality thresholds and ensure that the trends and current and future impacts have been considered. Boards also need to ensure that the management has prioritized the key sustainability issues and considered the resource requirements to deal with the prioritized issues in its mitigation plans.

Stakeholder Engagement

Stakeholder engagement is a critical process that helps companies understand their key environmental and social impacts and identify sustainability risks and opportunities. First, the company needs to prepare a map of its key stakeholders for the issue at hand. Then comes the choice of the engagement model, communication, consultation, participation, and partnership, with each level requiring more resources. Tools of engagement may include interviews, workshops, focus groups, town-hall meetings, stakeholder perception surveys, stakeholder panels, and joint decision-making.²⁷ The boards need to understand the key issues raised by the stakeholder engagement process and how the management plans to address them. See, for example, Figure 16.2.

Ensuring a Board with Appropriate Skills

Boards need to have members who understand the impact organizations have on the environment, their employees, and society in general. Corporate boards have to make difficult trade-offs when considering actions that are not positive contributors to all areas of sustainable effectiveness.²⁸ Therefore, boards need to receive good information about the environmental performance and social impact of their corporation.

There are two key roles for the boards: providing guidance and providing oversight.

The guidance role of the board requires setting the strategic direction, controlling the executive recruitment, and motivating the right kind of management behavior by setting the executive remuneration policies, understanding the stakeholder concerns by an effective stakeholder engagement process, and providing leadership and a climate of continuous learning and development.

The oversight role in turn requires setting up an effective internal control mechanism, ensuring independence of audit and strict compliance, monitoring ethics and business conduct within the company and its value chain, and transparency in external reporting and disclosure.

Therefore, boards need to have members who not only are experienced in providing guidance and oversight, but also have a sound understanding of the concerns and decision-making processes of the company's stakeholders, as well as familiarity with the sustainability issues and the evolving sustainability standards and benchmarks. These matters need to be considered both at the recruitment stage for board members and at the design and implementation of the orientation and board education programs.

Among 192 Global Sustainability Leaders (GSLs) listed in stock exchanges of China, Germany, India, South Africa, Türkiye, United Kingdom, and United States of America, only 29 companies published their skills matrix and 12 of them included sustainability as a valuable board skill. Further, analysis of the CVs of the GSLs' board members, in detail, indicated that 70 percent of them do not have a single board member with any sustainability reference in their CVs. However, there are very good examples, such as Anglo American Platinum, that not only included sustainability as a key board skill but also provide information about each board member's experience on various aspects of sustainability such as safety, health, and environment, energy, water-use rights, waste technology, and community knowledge. (See Figure 16.3.)

In order to gain and retain the trust of stakeholders the most important issue is to have the right attitude. The yardstick should be the ethic of reciprocity that is prevalent in most religions and philosophers' writings and summarized as “Do unto others as you would have them do unto you.”²⁹

Recent studies have shown a positive correlation between board diversity and both strategic innovation and corporate reputation.³⁰ Board diversity, in all senses of the word, including but not limited to gender diversity, is important in ensuring the board is fit to drive change toward a sustainable business. Diversity of age, tenure, gender, ethnicity, cultural background, geographic, functional, and industry experience ensures that multiple perspectives are represented as the board engages in strategic discussions and makes long-term business decisions.^31,32,33

In order to adequately evaluate the different dimensions, perspectives, and risks of the sustainability issues, industry experience diversity would be useful to better understand benchmarking opportunities. Tenure diversity would help avoid groupthink. Age diversity is recommended to better understand the sensitivities of different cohorts of customers and stakeholders. Ethnic, gender, and geographic experience diversity improves understanding of the sensitivities of different social segments and markets. Finally, stakeholder experience diversity helps better understand decision-making processes of different stakeholders. See Table 16.4 for key points.

Board Processes to Support Sustainability Responsibilities

Many boards establish a separate Sustainability Committee³⁴ to review the sustainability risks and remedial plans to highlight the key issues for the full board to consider.

At a minimum the following steps should be taken by the Sustainability Committee:

• Identification and management of key social and environmental issues and ensuring the reliability of social and environmental performance management information
• Identification of and engagement with key stakeholders
• Monitoring the efficiency and effectiveness of sustainability management systems and controls

The boards need to understand the sustainability risks and impacts across the corporation's value chain and how this might impact the business model and competitive positioning of the corporation. They need to focus on sustainability-driven innovation and value-creation opportunities and provide guidance on the relationship of sustainability issues with the corporate strategy.

The boards also need to provide sufficient oversight to the management's identification of risks and opportunities of sustainability issues, including those related to strategy, regulatory and legal liability, product development and pricing, disclosure, and reputation, as well as the management's action plans. In doing so, the boards' unfettered access to outside experts should be assured. In-camera sessions with these experts are recommended to receive independent advice.

The sustainability committees and/or the boards need to have access to stakeholder engagement processes in order to be able to form independent views on the highlights of stakeholder concerns. Yet, it is critical that the members should not put themselves in a position to commit the company for any course of action as that is a management responsibility; the board is a decision-making body as a team.

The boards also need to ensure that the internal control and monitoring systems provide sufficient attention to sustainability issues, compliance, and timeliness and adequacy of external reporting. Obviously, all these activities take time and therefore the boards need to allocate sufficient time and resources to deal with sustainability risks and management plans to address them. The time allocation should consider the breadth and immediacy of key sustainability issues that need to be addressed.

The board deliberations should also include evaluation of the adequacy of the D&O insurance package to sufficiently protect the directors against liabilities arising from sustainability issues. Boards should institute a learning and continuous improvement process for their own operations by incorporating the recommendations of the insurers into their sustainability plans and by conducting a regular self-evaluation exercise that evaluate the board's approach and effectiveness in providing guidance and oversight on sustainability issues. Many companies utilize independent third-party experts to help conduct a comprehensive and objective self-evaluation process.

Information Quality Determines the Decision Quality

Information flow to the board needs to be relevant, context based, timely, balanced, and comprehensive.

Balance refers not only to the amount of different dimensions of information, but also to its detail. Relevance and context are two key elements of board information. Putting information into context requires an ability to show the bigger picture as well as including comparative benchmarking data. Relevance of information in turn is related to the decision-making process. The board has to understand the issue, and the options, costs, risks, and impacts of each option for different stakeholders. Comprehensiveness refers to the different dimensions of sustainability, including social, environmental, and governance aspects. Environmental impacts may also include a broad range of issues, anywhere from carbon emissions to biodiversity, from energy efficiency to water and air pollution, and so forth.

For information to be useful, it needs to be presented within a context which should include comparisons with past performance and budget targets, lead indicators, current trends, emerging issues, emerging benchmarks, compliance with applicable laws and regulations, and the key upcoming regulations and standards.

Generally financial information is more readily available and presented in great detail, ignoring other key information requirements for quality decision-making such as information about the level of intellectual capital and reputation of the corporation, and supplier, customer, employee, and community satisfaction surveys. Yet, these types of information may have a greater relevance for the future value of the corporation and for the board members to fulfill their stewardship roles.

In order for the board to exercise its oversight responsibilities, it should receive findings and recommendations from any investigation or audit by internal audit department, external auditors, regulatory agencies, corporation's insurance companies, or third-party consultants concerning the corporation's sustainability matters on a timely basis.

Finally, the board should determine the key sustainability performance indicators (KPIs) they would like to follow on a regular basis and to incorporate into the executive remuneration policies. They should also receive regular information on these KPIs to be able to monitor progress toward sustainability goals.

All these decisions, which have been made through this decision-making process by using the provided information, have a financial impact on the company's balance sheet and will be a key determinant in calculating enterprise value of the business itself.

Leadership and Culture

Good governance is a culture, a climate, and a set of behaviors that is exhibited throughout the organization, followed everywhere and every time, without written instruction or explicit mention. The tone at the top sets the corporate culture. Therefore, not only the conduct of the board members, but also their decisions and how they communicate these decisions are critical. All the members of the board should support, improve, and guide the corporate culture with their actions.

Corporate culture is the cornerstone of creating trust inside and outside the company.

Furthermore, the boards need to consider incorporating sustainability consciousness as a key criterion in choosing CEOs and filling the other top executive positions. The potential candidate needs to have strong conviction to convince others to follow and an appreciation that identifying sustainability risks requires stakeholder engagement. The boards also need to hold the CEO to account on the sustainability performance of the corporation by incorporating sustainability performance data to inform its deliberations on executive remuneration policies.³⁵

Open-minded, early, and honest communication is a key enabler of a good governance culture. Transparency requires that analyses, decisions, and actions are documented, put into context, and considered for materiality. Information relevant for governance needs to focus on costs, risks, options, and impacts. Its context, timeliness, and comparison with relevant benchmarks are more important than its ultimate precision. Therefore, it is the management's responsibility to explain the bigger picture, issues, options, and recommendations in a way that is up-to-date and comprehensible, and in an executive format.

Creating an appropriate climate for learning is a critical leadership challenge. Actions speak louder than words. Therefore, leaders who wish to create an environment that promotes learning should start with themselves. They should share their own mistakes and the lessons they have learned in order to develop the feeling of trust within the corporation. They must further turn this into a common learning process and create a transparent environment that will set the stage for continuous learning. Leaders should ensure that the corporate culture embodies an understanding that “To win we have to make calculated experiments,” rather than “We should do nothing for fear of making a mistake.”

Professional diligence also requires that the management discloses mistakes and problems in a timely fashion. This may be unpleasant, but it builds trust and helps build a continuous learning culture. If the management has valid concerns, the board has to know about them. Mutual trust between the board and the management also requires the acceptance and the internalization of the separation of management and governance rights.

Sustainability issues are generally long-term issues that need long-term attention.³⁶ Therefore, the board should ensure that the efforts are sustainable to make a sustainable impact. Hence, sufficient financial resources, organizational/human resources, and intellectual resources should be allocated to address the key sustainability issues.

Deployment and Learning

Both the competitive pressures and the increasing expectations of the stakeholders call for continuous learning and development from the corporations. Therefore, the board needs to take action to ensure that the sustainability agenda of the corporation is an integral part of the culture and its systems assure learning and continuous improvement. For this purpose, the key sustainability issues need to be identified and incorporated into strategies, policies, objectives, and associated management systems with a particular view toward value-creation opportunities.

Another key concern is the deployment of the board's sustainability priorities throughout the organization. A successful deployment program requires establishing a framework for effective communication and learning for the employees and the members of the supply chain; incorporating sustainability issues into hiring and remuneration policies as well as supplier identification processes (having appropriate incentive systems); establishing clear guidelines and remedies for those who fail to follow the corporation's sustainability standards; and making sure that the management information systems provide for adequate, appropriate, and verifiable data on key sustainability priorities.

Internal control systems, external reviews, stakeholder engagement processes, and compliance requirements should all be utilized for continuous learning opportunities, rather than as tick-the-box compliance requirements.

Transparency and Reporting

Emerging global standards for sustainability reporting, including the GRI and IIRC, are gaining broader acceptance, but the field of sustainability reporting is still open to experimentation with new approaches. For example, the government of New Zealand is publishing a balance sheet for the assets and liabilities of the government. Despite being a leading example for governments elsewhere, this public balance sheet approach has significant room for improvement, particularly in incorporating environmental assets and liabilities. An Istanbul District Municipality, Kadıköy, adopted integrated reporting as a local government entity.³⁷ On the corporate side, Puma has come up with another path-breaking example by including the environmental costs of all its supply chain in its sustainability reporting.

What gets measured gets improved. Although far from perfect, these examples set the stage for other organizations to rethink how far transparency and reporting can go to help accelerate the speed of learning.