Yes, this is another ESG post, but it is different than the others. This time I come forward with a solution!
Creating Accountability
One of my bigger criticisms of ESG is there are no checks or balances on it. All these companies hire ESG chiefs and give them free reign. ESG competes with other corporate resources for attention.
Over time, it will become a bureaucracy where it exists to feed the people it employs rather than fulfill its mission. The only thing that will be sustainable is the jobs of those in the ESG department.
The Chief Sustainability Officer is evaluated on how much “impact” he or she has outside the company rather than if they made an efficient use of limited resources or if their efforts helped the company grow.
How do we change this dynamic so that ESG is aligned with the broader goals of the company rather than be an island separated from the performance of the corporation overall? In other words, can we create an alignment of interest?
A Simple, Yet Elegant, Solution
Yes, I believe we can. And it’s so terribly simple, it’s amazing nobody has thought of it before (or if they have, then they haven’t marketed it well)!
ESG Initiatives Should Be Funded
By A Corporate Profit Share
I call it the stakeholder’s dividend. Here’s how it works:
- As profit growth and the share price increase, the ESG budget increases.
- When profit growth or the share price disappoint, the ESG budget shrinks.
Now, the Sustainability Officer cares about whether the company is doing well. They are no longer an island. For their role to be sustainable, they need the company to succeed in its mission. Everyone is on the same page!
That’s it. I really could end this entry here, but I’ll provide a little more detail for those who may want it.
Putting Your Activism Where Your Mouth Is
ESG proponents market that their actions lead to higher stock returns over time. If this is true, then they will be rewarded with bigger budgets and they can do more ESG and increase the stock price further. It is a virtuous cycle!!!
OTOH, if ESG is really about doing activism on the company’s dime, then it will not help growth and their budget will deservedly be cut. Now, there is risk and reward – something that doesn’t exist in today’s ESG model.
More importantly, a profit share mechanism creates a spirit of cooperation instead of competition. Instead of the model I described earlier where the Sustainability Officer is incented to do as much ESG as possible, they now have to consider how it effects the broader corporate mission.
Currently, there is no incentive to draw lines. The Sustainability Officer is always going to advocate for divesting all energy investments while the CEO and CIO negotiate how much is acceptable. If the CSO needs to think about how their demands could reduce sales and/or profit, they might come in with a more realistic ask.
Letting the Invisible Hand Work
One other neat nuance of this idea is ESG employees will want to work at strong companies because they will have more opportunity. If Amazon wants to do more ESG, well, their success has earned them that right.
However, when I see all the big life insurers adding CSOs and making big announcements about their initiatives, that feels misplaced. Their stocks have badly lagged the market for a dozen years. They have bigger fish to fry than ESG. All of their attention should be on improving their ROE and their valuation. ESG is a luxury they can not afford.
The great thing about the stakeholder dividend model is ESG employees won’t want to work for life insurers because they will see there is limited opportunity to be impactful. The Invisible Hand wins again!
Removing The Politics
Finally, tying ESG to corporate profitability takes the issues out of the political arena. No longer are companies being criticized for not doing enough for the community. Hiring a CSO doesn’t make that criticism go away. Instead, the politicians will ask for more and more.
By creating a constraint on the “more” through the dividend model, we change the conversation from how much to how well, as in “how well do we allocate the pool of limited resources“. Yes, some politicians will say the dividend should be a bigger percentage, but the natural retort to that is “isn’t it better to increase the profit pie instead”.
ESG Solved!
So there you have it. I just removed all the conflict out of ESG. We have aligned the interests of shareholders and stakeholders. We can certainly debate what % of profits should be allocated, but I think that is something each company should decide in a shareholder vote.
There really is no objection to this. If the ESG crowd objects, it would only be because they don’t truly believe their actions improve corporate performance over time. If the investor class objects, well, they can vote for a small (or zero) profit share or sell investments where they feel too much is going to ESG. CEOs should certainly all be on board as they now have alignment between ESG and corporate goals. It’s a win-win-win!
A Remembrance
Many of us in the insurance community lost a good friend earlier this week. I’d be remiss if I didn’t mention how much I’ll miss him. God bless, John.