For financial services firms, incorporating ESG (environmental, social and governance) with the risk and compliance program is becoming critical for future-proofing the entire organization.
Traditionally, financial services firms have addressed risks across the internal and extended enterprise touching on operational risk management, regulatory compliance management, and cybersecurity. Expanding into new areas may sound challenging, distracting, or overwhelming given the value and scarcity of resources. Nevertheless, change is underway.
Financial services firms are establishing ESG goals, and GRC (governance, risk, and compliance) programs are evolving to help them achieve them. Firms who choose to pursue ESG strategies have opportunities to strengthen ties to stakeholders (customers, employees and investors) while also keeping pace with increasing regulatory obligations.
Why ESG? Why now?
ESG requires a paradigm shift. Traditional risk programs consider the impact of risk events on the firm and establish controls to mitigate these impacts. In establishing ESG goals, firms now must consider, measure and manage not just impacts to their business but also the influence of their business on society and the world. The time-honored measuring stick for performance measured only in monetary terms is no longer enough.
This change did not happen overnight. Big issues like climate change and persistent inequality have caused financial services to mature their Corporate Social Responsibility (CSR) and other less demanding programs to something broader and tied to specific, measurable and auditable performance indicators.
The World Economic Forum (WEF) recommends a company’s ESG metrics align with the sustainable development goals set forth by the United Nations. Let us look at what that means in practical terms for the financial services sector.
It may seem like financial services businesses like banks and insurance companies have a small environmental footprint. All lack manufacturing processes that use raw materials or produce waste harmful to the environment.
But there is more to ESG than an organization’s direct carbon footprint. While financial services do not manufacture electronic products, they use them extensively. Powerful servers, computers and other office equipment require electricity. A typical desktop computer and screen used for eight hours generates greenhouse gas emissions equivalent to around 70g CO2e. As financial services companies shift to more sophisticated, cloud-based products, their carbon use may decrease as they move from on-premise and traditional data centers to more scalable cloud-based platforms. Modern corporations, including financial services firms, make extensive use of mobile communications and with people often upgrading phones every couple of years, the impact adds up.
Recycling can help, but less than 20 percent of e-waste is currently recycled? The BBC reports 5.3 billion cell phones will be thrown away in 2022. Aside from energy consumption, additional environmental factors that financial service organizations influence include the climate change-causing activities of industry, transportation, and agriculture investments. Green loans or green bonds and renewable energy equity financing can drive investment opportunities. Lender decisions can look at the percentage of a mortgage portfolio within flood zones.
The workforce also counts toward a company’s carbon footprint. Until the beginning of the pandemic, employees commuted by car to their workplaces. Working remotely changed that and reduced emissions. As staff returned to offices, either with hybrid work schedules or full-time, emissions increased. Even if organizations continue to offer hybrid or remote working, empty office spaces can be equally wasteful.
Financial services firms affect clients and employees, company leadership and ethics, while a firm’s business strategies impact the community. Relationships with partners and clients are impacted as well.
The S in ESG includes policies regarding diversity, equity and inclusion. Companies that want to be recognized as industry leaders should review their policies for alignment with ESG goals. Offering career development or upskilling is another part of a company’s social impact on its community. Supportive management and positive employee relationships increase worker retention and productivity.
Ensuring a happy, healthy workforce increases productivity, efficiency, and profitability. Stakeholder management is a critical process to ensure your company’s values align with what is important to employees, customers, anyone who engages with your business.
Governance includes company controls, a set of shared values embodied in a Code of Conduct, policies, audits and decision-making processes. Executive compensation levels and the composition of a company’s board are also part of governance as do demonstrations of transparency and accountability. Required disclosures and regulatory compliance serve as guardrails for governance.
Financial services firms must comply with rules issued by numerous regulatory agencies. In the U.S. alone, these agencies include the Office of the Comptroller of the Currency (OCC), Federal Reserve Board (FRB), the Federal Deposit Insurance Corp. (FDIC), and the Securities and Exchange Commission (SEC).
Establishing good governance creates strong, trustworthy, and responsible companies. The investment community agrees, increasingly considering well governed firms with a meaningful ESG posture to be more sound, long-term investments.
ESG meets risk management
ESG risks can affect financial services directly, when climate related events such as a flood, fire or extreme weather events make offices inaccessible, or a power outage impacts uptime. But the sector is also at risk from indirect sources. During the great resignation, for example, companies that were able to retain the best talent were those who demonstrated taking care of skilled employees and ensuring they had a voice and options. A strong ESG position is one way to build a company culture with greater loyalty.
ESG posture also influences customers. In a competitive market, they may increasingly choose financial services products from providers offering stated and demonstrated values more closely aligned with theirs on social, climate or ethical matters. Building ESG into company culture and infusing it in operations helps companies rise above risks and turn a sincere ESG stance into competitive advantages that result in:
- Elevated customer trust
- Enhanced employee loyalty and engagement
- Increased brand value and recognition
- Greater resilience to deal with unprecedented situations
- Long-term growth through sustainable business practices
Improved customer trust and enhanced employee loyalty and engagement
Financial services organizations are built on establishing and maintaining trust between the business and its customers. Winning trust takes time. It is a process that requires financial services businesses to be transparent in communications and customer interactions.
Developing a reputation as a trustworthy financial services provider gets noticed. When prospects are ready to purchase, the provider with the good reputation will win, while customers will shy from firms who have demonstrated less lofty ethical standards.
Delivering financial services requires a committed workforce. Loyalty and engagement help tremendously in building trust in a business that demands it.
Being an employer that treats its employees fairly is reputation building. Creating opportunities within the local community can also be a differentiator in winning favor with employees, as well as engaging employees in giving back to their communities.
Adopting ESG principles allows financial services companies to lay the foundation for long-term growth and profitability.
Granted, the priority in the sector is to safeguard customers’ investments and deliver returns. But it is no longer socially acceptable to run a business without also considering the effect that day-to-day practices have on future generations.
ESG offers one of the best strategies to attract the next generation of clients. According to Forbes, many millennials are “known to be increasingly interested in placing their bets on companies and investment funds with measurable ESG records.”
Infusing ESG into operations and culture
Adopting ESG principles requires balancing fiscal interests with the greater good. Those two considerations can go hand and hand.
The goal is to make the organization customer-centric by ensuring that ESG considerations meaningful to shareholders, regulators, employees and the community are part of every major business decision.
Your existing workforce is instrumental to the company’s transformation. Clear communication is essential for securing your team’s commitment and support. Targeted sales incentives are one approach. However, as not everyone is motivated by remuneration it is important to consider alternatives for motivation and morale.
Organizational change is a huge undertaking. Introducing ESG principles to the overall business strategy, policies, and processes of your financial services organization is often easier with the help of a partner. SAI360’s risk management portfolio encompasses forward-looking solutions that address the compliance and reporting needs of ESG.
No governance, risk and compliance (GRC) strategy is complete without a solid commitment to ESG. Our innovative toolset is ready to future-proof your financial services business operations and set you up for long-term growth.