Strategic analysis

Sustainable Business Practices

Yes, Investing in ESG Pays Off by Paul Polman and Andrew Winston

April 13, 2022

Summary.   

aluxum/Getty Images

Why are leaders so reluctant to make ESG investments? Even those

who know they’ll pay off are reluctant to do so, for five key reasons. The authors

outline each — the numbers hide the truth about the real cost, our biases trick us,

we focus on short-term...

With the rush of money into ESG investment funds — more than

$1 trillion in the last two years — it’s easy to think everyone clearly

sees the business value of sustainability. But many leaders still see

an inherent trade-off between choosing a more sustainable future

and achieving business growth and profit. They see ESG-related

more

spending — a capital expense to reduce energy use, opting for

renewable energy, paying living wages, and so on — as purely

cost, not investment. With little resistance, CEO’s will spend

money on IT, training, new factories, R&D, and more; but when it

comes to investing in the future of the business and humanity,

they hesitate.

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They shouldn’t.

Worries that clean energy costs more, for example, are wildly out

of date. More generally, a growing number of studies prove the

payoff from focusing on long-term value and ESG. Just Capital,

for example has created a list of companies prioritizing

stakeholders (not just shareholders) that they call the Just 100.

This group has outperformed the market. It should also be clear

that there’s also a big upside waiting for those who embrace the

world’s shift to ESG: multi-trillion-dollar markets in clean energy,

electric and autonomous vehicles, plant-based proteins, precision

agriculture, AI-driven efficiency technologies, and much more. So

why do so many in business still feel that sustainability doesn’t

“pencil out”?

Much of the reason comes down to five big problems with how we

make decisions.

1. The Numbers Hide the Truth About Real Costs

Our economy relies entirely on inputs from the natural world,

from the things we grow and dig up to the harder-to-measure

benefits, such as providing a free dumping ground in the sky for

pollution. Every ton of carbon emitted raises the temperature a

tiny bit and reduces air quality, but companies never pay for those

costs to society, also known as externalities. They also get, for

free, the tens of trillions of dollars in value and services nature

provides. And what’s worse, perverse government subsidies and

regulations make it cheaper to do the less sustainable thing —

burn more fossil fuels or degrade soil to maximize yields today at

the expense of tomorrow.

Solution: Price the unpriced.

Many leading companies internalize the externalities by putting a

“shadow price” on carbon inside the business (some collect real

money as a self-imposed tax). Raising the price on carbon or other

inputs drives different capital and investment decisions. But it’s

hardly enough; these leaders need to come out into the sunlight

and advocate for a binding market price on carbon. Systematic

and forward-thinking lobbying is what we call net positive

advocacy; i.e., working with peers, NGOs, and governments to

enact policies that improve the system for all. Beyond carbon, the

same logic applies to supporting social issues like living wages as

a minimum, or increased spending on social infrastructure to

reduce inequality. Get those price signals and spending priorities

right, and sustainable products and investments will look much

better in comparison.

2. Our Own Biases Trick Us

Even when the sustainable choice is more profitable by

traditional measures, it doesn’t mean people opt for it. We all have

biases in how we make decisions, including thinking in linear,

non-systemic terms, or going with what’s easy or right at hand.

Nobody is immune — not CEOs, CFOs, or bankers. Investors may

say to themselves, “I know how to make money on investing in

fossil fuels, so I’ll keep doing that.” That may be unwise given the

economics of clean tech, but people are not purely economic

animals.

Solution: Diversify the group making decisions.

If we tend to go with what we know, or fall into groupthink and

inertia, then we should expose organizations and their leaders to

different perspectives. Bring civil society into the decision

making — ask NGOs who are critics to come in and help educate

and solve problems (but avoid the cynics that just want to tear you

down). And flush out old thinking by inviting younger people into

the room; your own, newer employees expect companies to find

solutions that enhance people, planet, and profit. They also add a

longer-term perspective — twenty-somethings are logically much

more concerned about what a changing climate would look over

the next half century than leaders in their seventies and eighties.

Talk to twenty-somethings and actually listen.

3. We Focus on Short-Term Costs and Benefits

While it’s wrong to say sustainability always costs more, it’s no

more accurate to say it always pays off, at least in the short run.

There are technologies that may cost more now, until they get to

larger scale — which describes every new technology.

A few years ago, for example, UPS proudly announced it would

buy electric delivery vehicles at the same up-front cost as its gas

models. The story told was that it finally paid to go electric. But

earlier, when the list price of EVs was higher, they were already a

better deal over the lifetime of the vehicle, with much lower

operating costs and higher uptime. UPS and other shippers

should have bought these vehicles and reaped the benefits in

savings and lower emissions earlier, even when the up-front

sticker price was higher. Similarly, a sustainability goal like a

zero-waste factory can take investment and time to get right. But

the effort improves the operation more holistically, resulting in

higher productivity and nimbleness.

Solution: Redefine your tools for investment decisions.

Metrics like ROI or IRR are generally broken. They miss sources of

value and use a too-high discount rate, which makes any

investment in the future look worthless. On a gut level, we know

that can’t be right. Instead, find and internalize the data that

proves the value of longer-term thinking. A study from McKinsey

Global Institute and FCLTGlobal showed that companies

operating with a true long-term mindset made critical decisions

like investing more in R&D and, as a result, had 47% higher

revenue growth and faster growing market caps. Better tools and

thinking can lead to more and better action.

4. We Think About Costs in Silos (Instead of Systems)

A focus on paying living wages will raise costs today in every

tangible way — it’s kind of the point. But focusing only on the

budgetary silo of wage expense gives only a partial, narrow view

on the investment choice. Intangible benefits also accrue to a

company that invests in its people and supply chains: attraction

and retention of talent, more productive workers with lower

turnover, stronger relationships with communities, and a better

(and true) story to tell customers about your net positive impact

on the world.

Solution: Broaden thinking on value and think in systems.

Again, ROI and other tools don’t work correctly here. The “return”

part of the equation doesn’t capture the intangible value from

choosing the sustainable, net positive path (employee

engagement, customer passion, resilience, and so on). For

example, shifting from part-time and contingency hiring to

creating more permanent positions may cost more immediately,

but easily pays off in less attrition and higher productivity. We

also ignore systemic benefits like more efficient and lower cost

value chains, or communities that are more functional and

healthier to do business in. Silo thinking locks in lower value. A

more systematic view on the connections between worker

treatment and many levers of business success gives a more

complete and positive view. So make a point of listing and

valuing, as best you can, all the benefits of an ESG decision. Work

to broaden the definition of “return” on your investments.

5. We Miss the Bi�er, Existential Costs

According to insurance giant Swiss Re, not acting on climate will

destroy around 18% of GDP by 2050. That number is equivalent to

a deep economic depression, but it may sound survivable. Yet the

number is aggregated and tells only a partial story. Some areas,

like Canada or Siberia, may actually see longer growing seasons

and economic gains. But many more places, like Miami, huge

parts of Bangladesh, and all low-lying island nations, will flood

permanently. Some cities will become too hot to live in. The

downside risk to those regional economies is not 18%; it’s 100%.

The societal losses also cost business directly. Droughts ruin

crops, extreme weather shuts down parts of supply chains,

employees and customers face hardship — all of these hit the

P&L, often hard.

Solution: Understand the world’s thresholds and learn to think in

net positive terms.

We humans are notoriously bad at predicting the future. Big

failings include not understanding exponential change and only

seeing the local situation. So study the big trends that are moving

non-linearly — climate change, inequality, resource use, clean

tech economics, AI, misinformation, and more. Consider some

extreme outcomes, like a city you operate in becoming unlivable,

and lay out the material risks from the tails of the probability

distribution (you may have to anyway: the U.S. Securities and

Exchange Commission is on the verge of mandating disclosure of

climate risks). But also ask yourself, “What’s the net positive value

on investments to avoid these existential risks?” Learn to think in

net positive terms by working on systems challenges, with others

in the value chain or in the full system (NGOs, governments,

citizens), to solve the biggest problems to the benefit of all.

. . .

These five mental hiccups are not the only missteps that affect

outcomes, but they are the primary ones that drag down

sustainability investment. The mental models expose a win-lose,

narrow, and negative mindset. In our book Net Positive, we

explore ways to build businesses that solve societal problems and

improve the well-being of everyone they impact. It takes courage

and humility, but also a mindset that we can, in collaboration,

solve many problems and improve the economics on

sustainability for all. It’s not as simplistic as “win-win” but

working together, we can get more done (what we call 1+1=11).

It’s easier (and frankly lazier) to think in old ways. We can fight

these issues and make sustainability fit into a normal model of

seeking a good return on investment. But let’s step back a

moment. Why exactly do we have to stick with traditional terms?

It’s increasingly absurd and surreal to have to justify investing in

our very survival — or have to prove that we should stop funding

what’s killing us. At the macro level we’ve long passed the point

where the cost of action is far lower than the cost of inaction —

i.e., huge swaths of the planet becoming uninhabitable, which,

again, is kind of bad for business. It definitely pays to invest in our

shared future.

Paul Polman works to accelerate action by business to achieve the UN Global Goals, which he helped develop. He was the CEO of Unilever from 2009 to 2019 and has been described by the Financial Times as “a stand out CEO of the past decade.”

Andrew Winston is one of the world’s leading thinkers on sustainable business strategy. He is

 

an adviser and speaker on how to build companies that profit by serving the world. His books include Green to Gold, The Big Pivot, and Net Positive.

 @AndrewWinston

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