What is an Environmental + Social + Governance (ESG) Framework in Business?

On September 14th 2022, Patagonia announced it was effectively giving away the entire company. Yvon Chouinard, the founder of Patagonia from nearly 50 years ago, stated:

“Earth is now our only shareholder.”

This is a direct quote from the Patagonia website:

“Effective immediately, the Chouinard family has transferred all ownership to two new entities: Patagonia Purpose Trust and the Holdfast Collective. Most significantly, every dollar that is not reinvested back into Patagonia will be distributed as dividends to protect the planet.

The Patagonia Purpose Trust now owns all the voting stock of the company (two percent of the total stock) and exists to create a more permanent legal structure to enshrine Patagonia’s purpose and values. It will help ensure that there is never deviation from the intent of the founder and to facilitate what the company continues to do best: demonstrate as a for-profit business that capitalism can work for the planet.

The Holdfast Collective owns all the nonvoting stock (98 percent of the total stock), and it will use every dollar received from Patagonia to protect nature and biodiversity, support thriving communities and fight the environmental crisis. Each year, profits that are not reinvested back into the business will be distributed by Patagonia as a dividend to the Holdfast Collective to help fight the climate crisis. The company projects that it will pay out an annual dividend of roughly $100 million, depending on the health of the business.”

Click here to read in full.

Patagonia’s change in direction is a great example of how a company focuses on ESG.

So what exactly is ESG?

ESG is a broad set of factors used to evaluate a company’s performance in a way that is focused on social responsibility, rather than purely short-term profit. These factors are divided into three categories – environmental (E), social (S) and governance (G).

Increasingly, consumers are making purchasing decisions based on a variety of factors aside from the quality and cost of a product. For example, the company’s carbon footprint (an environmental factor), community engagement (a social factor), and board integrity and diversity (a governance factor).

Ignorance of ESG may result in a loss of sales and an increased risk of being the subject of legal action. It therefore serves as key criteria for investors in assessing a particular company’s future success, as well as being an important guide for executives in making decisions which serve the company’s best long-term interests and not just short-term financial gains.

A brief overview of each category of ESG is outlined below.

Environmental

This criterion refers to a company’s environmental impact, and the steps it takes to reduce that impact. This may involve anything from making their products more sustainable, choosing suppliers who have similar values of sustainability, managing pollution and waste, working towards a net-zero carbon emissions target, and sourcing their energy from a green-energy provider. It could even involve supporting third-party environmental initiatives such as getting involved in or sponsoring tree planting days, which can offset a company’s carbon emissions.

Social

This criterion relates to a company’s relationship with people and institutions, including its staff and the local and broader community. This involves taking into account things such as diversity and inclusion, working conditions, and engagement with the communities impacted by the business. It may also include social impacts further down the company’s supply chain, such as potential human rights breaches by suppliers (for example, modern slavery).

Governance

This criterion concerns the internal systems and practices a company uses to govern itself. This includes things such as ensuring compliance with the law and regulations, maintaining transparency and accountability, board structure and diversity, upholding shareholder rights, and implementing policies for matters such as corruption and whistleblowing.

Conclusion

Companies who adopt ESG practices will have an easier time securing investors, growing their market, retaining employees, building trust within their communities, and potentially earning subsidies and support from government. They will also be less likely to encounter opposition from government, shareholders and communities, and to become involved in legal action such as being sued for breaching directors’ duties, engaging in misleading conduct, or failing to satisfy statutory reporting obligations.

ESG isn’t just something for big corporations to grapple with. All businesses are subject to consumer scrutiny, and so should be evaluating and modifying their business practices using the ESG model. Further, many larger companies looking to engage subcontractors will favour businesses with a strong ESG performance and reputation.

Article written by Luke Wood September 2022.