ERM and Sustainability

What Constitutes Sustainability?

This article, “ERM and Sustainability: Together on the Road Ahead” by Mark S. Beasley and Scott Showalter, describes how sustainability issues are linked to emerging risks for organizations. In this thought-piece, think of sustainability as issues that might impact the long-term life of an enterprise. When you do this, this helps companies be less prone to focusing on narrow interpretations of sustainability factors. Instead, they are more likely to think about it in a broad context, dissecting all risks and opportunities that might impact their long-term business model.

Organizations work to enhance their risk and sustainability thinking by reshaping business models and behaviors. The S&P 500 Climate Change Report states that 87% of 334 companies who participated have an explicit climate change risk management process in place or have integrated it into their risk management process. These reports shine a light on the link between strong climate change management and measures of financial performance.

Where do Sustainability and ERM Intersect?

An example of how linking an organization’s ERM and sustainability initiatives to address risks and opportunities for your organization was no better shown than from The Coca-Cola Company in 2009. They launched their 2020 Vision project, which highlighted numerous objectives to achieving its goal of $60 billion in revenue by 2020. This triggered several questions about sustainability for the company as to whether it was capable of doubling production and sale of its beverage from current levels. To address this, the company went on a significant sustainability effort which centered on six “Ps”: People, Portfolio, Partners, Planet, Profit, and Productivity. With this, they focused their ERM efforts on understanding the critical risks to a business strategy to guarantee risk taking is appropriate for the objectives it seeks. In the years from 2004-2009, Coca-Cola would reduce their water usage to produce a liter of soda from 2.7 liters to 2.08, a 23% improvement.

It’s All About The Strategy

When working with executives to implement ERM, it is critical to emphasize beginning any endeavor with a strong understanding of what drives business’s success today and identifying strategies to protect the enterprise. This process is described in a process called the Strategic Risk Framework. This type of strategy-focused ERM begins with management taking the time to identify the key business drivers and plan new strategic initiatives to drive stakeholder value. This happens by management developing a broad view of what makes the business tick to identify risks to their value drivers. You would move from the business model and strategy to risk identification, risk assessment, risk response, and, controls, communication and monitoring. This is all in a circular motion revolved around the internal environment.

The goal of ERM is to identify those risks that are most likely to have the greatest impact on current business drivers and new initiatives. For some companies, a major risk to the business may be tied to declining natural resources or lack of available energy needed to deliver risk to a core business drivers, while other might be challenged by shifting social norms. The focus on sustainability is more about risks that might impact the enterprise long-term, rather than a month-by-month view.

To complete a full risk and strategy assessment, management should think about each of the organization’s business drivers and new strategic initiatives through two themes:

1. What must go right for us to advance the success of our core business drivers and new strategic initiatives, including, for example, key materials, processes, production technologies, key customers, suppliers, and employees?
2. What is management assuming about our ability to advance each of the current business drivers and new strategic initiatives over the long term, and how will we monitor those assumptions over time?

Using this to understand the critical aspects of core business drivers and new strategic initiatives help management identify risks and advance the organization’s strategic plan. This is where sustainability and risk oversight intersect, putting the focus on events that might impact the organization’s ability to keep its core drivers.

Factoring In Different Time Horizons

Integrating sustainability risk thinking into the context of strategy requires a short-term and long-term perspective. Most leaders think about things that could emerge in the near term, making management focus on internal or external events that may trigger risks in the next 2-3 years. Since many issues emerge over long periods of time, sustainability thinking cannot be limited to the short-term. It is recognized that long-term views are harder today in a short-term-focused compensation plan environment. To help organizations see the intersection of the two, execs should use these discussion questions to answer critical short and long-term questions:

1. What might arise from internal or external events that could prevent the sustainability of core business drivers and new strategic initiatives over the next two to three years? What about the next 10 to 15 years?
   • What might emerge that limits or eliminates access to key inputs that will be needed in the long term for the core business driver or new strategic initiative to retain its strategic value.
   • What might emerge that restricts, eliminates, or displaces our ability to sustain key processes and technologies?
   • What might impact the contributions and availability of key players/stakeholders to this process (such as suppliers, employees, customers, and regulators)?
   • What new competitors may emerge to totally replace our products/services, manufacturing process, and/or distribution methods?
2. When developing strategic initiatives, executives usually have to make some critical assumptions. What environmental, social, economic, and industry events or trends might trigger changes in factors that support management’s key assumptions about the ability to sustain its core business drivers and new strategic initiatives?

Management can use a number of different techniques to encourage thinking about ERM, such as interviews, management workshops, or surveys. Many have found “ore-mortem” analysis is effective to get management thinking about long-term issues and sustainability of the business model. This type of analysis gets individuals projecting negative business outcomes so management can discuss what might occur between then and now.

Using KRI’s Wisely

With priority focused on risks most likely to impact the long-term sustainability of the business, management can develop key risk indicators (KRI’s) to monitor events as they come. These give management a forward-looking perspective of risks and opportunities that could be on the horizon. The goal is to identify specific metrics for the critical risks of long-term viability so organizations can respond strategically and before competition.

Crafting A Long-Term Strategy

When positioning risk management and sustainability for your organization’s current business model, management has a framework to ensure ERM and its efforts for sustainability adds strategic value. This can help management and the board structure their thinking to not put too much emphasis on short-term issues that are less important than the long-term. Without organizing a framework, the organization and its employees can become extremely confused about which sustainability issues are most important to the organization. Using a sustainability-informed strategic lens to think about risks helps management’s investments in ERM and position them for long-term value.

Original Article Source: “ERM and Sustainability: Together on the Road Ahead”, Mark S. Beasley and Scott Showalter, Strategic Finance Magazine, March 3, 2015