Valuing Corporate Social Responsibility and Sustainability

1
Valuing Corporate Social Responsibility and
Sustainability
DRAFT
BCCCC Presentation
March 2009
CONFIDENTIAL AND PROPRIETARY Any use of this
material without specific permission of McKinsey
Company is strictly prohibited
2
Objectives of the research

• Focus on financial link between ESG activities
  and financial value creation
• Develop understanding of what it takes to
• Create value through ESG activities
• Develop more sophisticated metrics to capture the
  financial value
• Build better tools and methods to communicate
  that value to internal and external stakeholders

3
Key findings

• ESG activities create value along the four areas
  traditionally valued by the market
• Growth
• Return on Capital
• Risk Management
• Management Quality
• Investors and CFOs believe ESG activities create
  value, but are not fully taking it into account
• Many companies create real value from ESG
  activities, but most do not measure that value,
  and even fewer communicate the value
• There is a real opportunity for ESG professionals
  to fill this gap

4
Research methodology
6.2
Initiative white paper, with analysis of ESG
measurement issues and recommendations
CFO, Investor, ESG Professional McKinsey
Quarterly survey

• Examination of ESG programs today, the challenge
  of measuring value, and methods for assessing and
  communicating value
• Examined existing metric systems

• 238 CFOs and investment professionals
• 127 ESG professionals and socially responsible
  institutional investors through BC CCC
• Range of industries and regions

Framework for linking ESG activities to Value
Creation
Company interviews and case studies

• 135 interviews across 20 companies
• 11 industries
• U.S. and Europe
• Range of functions ESG professionals, human
  resources, environment, strategy, finance, and
  investor relations

• Tie ESG to value along 4 dimensions typically
  used by market growth, return on capital, risk
  management, management quality
• Develop 10 best practices for designing strategic
  ESG programs

5
What are your pain points as an ESG
practitioner?
Getting adequate resources, traction and
integration internally
Establishing and monitoring metrics to assess
impact of program
Meeting the demands of existing metric systems
Getting recognition from the market for effective
ESG
6

We examined a sample of ESG metrics, measurement,
and rating systems1
Our sample
Categories of ESG metrics, measurement and
ratings systems
Examples
Indices developed by financial index companies
Rankings and data produced by SRI information
providers
Reputation indices produced by media/ polling/PR
firms
ESG-related standards
ESG Initiatives and learning networks
1 Analysis of ESG metrics systems based only on
information publicly available on relevant
websites
SOURCE McKinsey Analysis
7
A major pain point is the existing metrics and
indices that evaluate a companys ESG programs,
but do not take financial value into account
46
Average score of the range of metrics systems
assessed against 6 criteria Points (score 0-3
points on each issue)
1
Captures opportunities
Distinguishes financially material issues
2
Avoids the problem of noise
3
Covers the full range of ESG issues
4
5
Financially quantifiable data
Sensitive to different types of companies
6
SOURCE Team analysis
8
How much do you think that ESG activities add to
shareholder value?
Add less than 2
Add between 2 and 5
Add more than 5
Dont know
9
Investors and CFOs also believe ESG¹ drives value
53
Percentage of respondents
Effect of ESG programs on organizations
shareholder value in typical times2
gt11
6-10
Value add
2-5
lt2
No effect
Reduced value
Dont know
1 Environmental, social, and governance 2
Excluding any changes stemming from the current
economic crisis
SOURCE S. Bonini, N. Brun, and M. Rosenthal,
Valuing corporate social responsibility, The
McKinsey Quarterly, February 2009
10
Although many companies create value from ESG,
very few assess the financial value creation and
even fewer communicate that to the markets
5
Percent of companies interviewed 100
Communicating value
Creating value
Assessing value
-40
ESG program
-10
Maximizing value from ESG
Established metrics to monitor program
-40
-5
Converting ESG metrics to financial value
Communicate ESG value to CFOs, investors
11
Pathway to value from ESG along four dimensions
New markets
Growth

• Gain access to new markets and market share
  through exposure from ESG programs

New products

• Create products to meet unmet social needs and
  increase differentiation

New customers/ market share

• Use ESG to engage consumers and build knowledge
  of expectations and behaviors

• Develop cutting edge technology and innovative
  products and services for unmet social or
  environmental needs that could translate to
  business uses, patents, proprietary knowledge,
  etc.

Innovation

• Foster brand loyalty, reputation and goodwill
  with stakeholders by engaging with them on ESG
  programs

Reputation/differentiation

• Enable bottom line cost savings through
  environmental operations and practices (e.g.,
  energy and water efficiency, less raw materials
  needed)

Operational efficiency
Return on capital
Workforce efficiency

• Reduce costs generated by employee attraction and
  turnover by using ESG to build morale
• Develop employees skills and increase
  productivity through participation in ESG
  activities

Reputation/price premium

• Develop reputation on ESG that garners customers
  willingness to pay price increase or premium

Regulatory risk
Risk management

• Mitigate risks by complying with regulatory
  requirements, industry standards, and NGO demands

License to operate

• Facilitate uninterrupted operations and entry in
  new markets using local ESG efforts and community
  dialogue to engage citizens and reduce local
  resistance

Supply chain/security of supply

• Secure consistent, long-term, and sustainable
  access to safe, high quality raw materials and
  products by engaging in community welfare and
  development

Reputational risk

• Avoid negative publicity and boycotts by
  addressing ESG issues

Leadership development
Management quality

• Develop leadership skills and improve employee
  quality through ESG participation

Adaptability

• Build ability to adapt to changing political and
  social situations by engaging local communities

Long-term strategic view

• Develop long-term strategy encompassing ESG issues

SOURCE Team analysis
12
Illustration of how companies can create value
from ESG
ILLUSTRATIVE
4 dimensions
Sub-dimensions
Examples

• Novo Nordisk Engaged in emerging economies like
  India, China, and Bangladesh to help build
  clinics, national diabetes programs, systematic
  education for doctors, nurses and patients, and
  comprehensive patient support initiatives. As a
  result, in China, Novo Nordisk has earned market
  leadership (e.g., market share above 70)
• Verizon Launched a new product for elderly and
  disabled to meet social needs of population. Has
  resulted in increased sales and 100,000 new
  customers

New customers/ market share
Growth

• Invested 1 billion over 10 years to reduce its
  energy consumption and improve its efficiency and
  has saved 7 billion in last 5 years

Operational efficiency
Return on capital

• Engaged with local stakeholders and built trust
  with local communities by being responsive to
  community needs. Has allowed Intel to be
  proactive about managing concerns, avoiding
  zoning delays and fines, and benefiting from
  tax incentives

Reputational risk
Risk manage-ment

• Developed Corporate Service Corps to send
  emerging leaders to work pro bono in emerging
  markets to foster economic growth. Has led to
  improvements in five areas global leadership
  skills, cultural intelligence and global
  awareness, employee retention and commitment to
  IBM, new knowledge and skill contribution to IBM,
  and intrapersonal growth

Leadership development
Manage-ment quality
SOURCE Team analysis
13
ESG programs can have direct and indirect
financial impacts, depending on the business
drivers they target
ILLUSTRATIVE
Indirect impact
Direct financial impact
Business driver
Effect on business driver
Examples of metrics
Financial impact
and value of new markets entered through program
New geographical markets
Increase revenue through increased sales
Facilitate markets entry
and value of new products developed and sold
Develop cutting edge technology/products
Increase revenue through increased sales
Innovation
Increase revenue from patents
Expand the number of patents
and market value of new patents developed
Decrease cost of hiring and training new employees
ESG program
Employee retention, Cost of training new employees
Improve talent attraction, morale and retention
Human efficiency
Increase revenue per person
Improve skills (e.g. leadership,)
employees with new skills from experience
Strengthen reputation, goodwill and loyalty with
stakeholders
Favourability ratings evolution, meetings with
stakeholders
Increase revenue indirectly through goodwill
Trust reputation
Operational efficiency
Enable bottom line costs saving
Water, energy and raw materials uses reduction
Decrease cost
SOURCE McKinsey analysis
14
Improved communication about the value of ESG
activities is needed
36
ESG1 professionals, n 87
CFOs, n 84
Investment professionals, n 154
Percentage of respondents2, multiple choice
answers
Offering integrated corporate reporting (corporate
financial ESG programs data)
Integrating information on ESG programs
financial value into corporate reports
Reporting data related to new markets or
customers reach through ESG programs
Reporting data related to employees
Providing anecdotal evidence of how these
programs create value
Using regular business terminology to
communicate about such programs
Reporting data related to innovation
1 Environmental, social, and governance 2
Respondents who answered other, none of the
above or dont know are not shown 3 Excluding
any changes stemming from current economic crisis
SOURCE S. Bonini, N. Brun, M. Rosenthal,
Valuing corporate social responsibility,
McKinsey Quarterly, February 2009
15
Pathway to value created by ESG programs
Impact business drivers and create financial
value while meeting stakeholder and societal
needs and turning them into ESG opportunities

• Growth
• Return on capital
• Risk management
• Management quality

Set clear message depending on the targeted
audience and provide informa-tion that the
audience is looking for
Design ESG program resulting from industry
issues, stake-holders needs and business drivers
Develop few relevant metrics to capture the
financial value of the program
Business drivers
Industry issues
Turn socio-political issues into ESG
opportunities by meeting stakeholder needs and
creating financial value along the business
drivers
Stakeholder needs
Meet stakeholder expectations and ensure their
support in managing ESG opportunities while
creating value for the company
SOURCE McKinsey analysis
16
Questions for discussion

• What are the biggest obstacles to integrating
  better metrics into ESG work?
• What are the direct benefits to the company of
  better metrics?
• How might using better metrics change what
  companies do on the ground in terms of project
  level impact of ESG?
• How can ESG professionals begin to apply a more
  financial mindset/language to the design,
  measurement, and communication of ESG programs?
• How can ESG practitioners facilitate
  conversations about the value of ESG activities
  within their own companies?
• How can ESG practitioners begin to create
  quantitative, financial metrics for ESG
  activities to allow for seamless communication
  between ESG professionals, CFOs and investors?

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Appendix
18
Business operates within an overall social
contract
Global trends
ESG issues

• Consumers and employees
• Globalization

• Environ-mental
• Social
• Governance

Semi-formal contract
Frontier expecta-tions
Formal contract
Business
Society
Growth and opportunity
License to operate
19
Participants of the research
20
We see 10 best practices for creating value from
ESG
Best practices
Examples
Address key issues facing the industry
1
Identify and engage stakeholders
2
Fundamentals
Align with core business strategy
3
Utilize core competencies
4
Take a long-term perspective
5
Strategy
Create opportunities and manage risks
6
Ensure strong leadership support
7
Organization
Embed into the strategy, organization, and
culture
8
Select appropriate partners
9
Implementation
Set clear goals and manage like a business
10
SOURCE Team analysis