As environmental, social, and governance (ESG) criteria increasingly influence regulatory, shareholder and public expectations, businesses must focus on the sustainability and ethical impact of their operations, both now and in the future.
Sustainability is crucial for a business's long-term viability. Boards and directors must consider not only current impacts but also future sustainability in light of impending legislation and regulatory shifts. This strategic management issue hinges on governance, which is essential for integrating environmental and social practices into the company's core strategy and operations, thereby ensuring oversight and accountability.
Regulatory changes require reassessment of operational structures, potentially leading to adjustments in processes, supply chains, and corporate policies. These may involve heightened insurance premiums, increased finance costs/tightening of terms and conditions, the adoption of alternative technologies and increased costs for specialised third-party services due to regulatory demands.
From the Climate Governance Study 2024 by ACID1: 'Directors are currently navigating a landscape marked by short-term financial pressures from certain investors, contrasting with those who favour sustainable growth over immediate returns. Despite challenges such as geopolitical conflicts and economic uncertainties, concern for climate-related risks remains high among directors, with a significant majority expressing apprehension about the potential impact on their businesses.'
Implications of double materiality in supply chain relationships
Supply chains are a focal point for assessing a business's sustainability risks. These networks face a myriad challenges, ranging from the availability of materials and regulatory compliance to operational costs. Moreover, supply chains are vulnerable to disruptions caused by extreme weather events, power outages or transportation delays.
The Sara Lee example: a cautionary tale of a company's supply chain vulnerability
The case of Sara Lee, an iconic Australian company, serves as a stark reminder of how supply chain issues can lead to significant financial distress. The company went into administration after facing a series of compounding ESG/sustainability challenges:
- strike action (social + governance): Sara Lee's ability to access essential materials, specifically cardboard packaging, was severely impacted by strike action at their supplier's facility. This initial disruption was the first in a series of domino effects that crippled their supply chain
- transportation disruptions (environmental + governance): collapse of refrigerated logistics contractor, which was also impacted by flooding
- flooding impact (environmental + governance): closure of rail lines between NSW, SA and WA due to La Niña flooding that led to a supply shortages.
Double materiality, which involves considering both the sustainability impact on a business and the business's impact on sustainability, highlights the dual risks associated with such supply chain vulnerabilities. For instance, disruptions like rail washouts not only damage physical assets but can also create safety risks, necessitating significant investment for comprehensive damage remediation.
Beyond the immediate financial and operational impacts, these events can affect a company's sustainability profile, influencing stakeholder perceptions and potentially leading to long-term brand damage.
Business insurance and the low-carbon transition
The shift towards low-carbon operations necessitates a re-evaluation of business insurance. Transitioning to greener practices can introduce new risks and insurance considerations, from the installation of additional safety equipment to manage those risks to the potential impacts on insurance costs and coverage. Businesses must navigate these changes while considering external factors such as community engagement and the implications for lending and investment practices.
Recommendations for improving sustainability in business
Strategic long-term planning: maintain a focus on long-term strategy, embracing the net zero transition as a strategic opportunity rather than merely a risk. A clear understanding of realistic climate ambitions and the interconnectedness between climate action and other sustainability areas is essential.
Execution: a whole-organisation approach to climate transition, ensuring involvement from the chief financial officer and embedding climate goals into performance frameworks. Develop credible, science-based transition plans validated by entities like the Science Based Targets initiative (SBTi)2 to avoid greenwashing.
Governance for accountability: boards should reassess governance structures to ensure they are fit for addressing climate challenges, including the integration of climate and sustainability into regular discussions and decision-making processes.
How Gallagher can help
The Gallagher Climate and Sustainability practice is dedicated to guiding businesses through the complexities of sustainability risk, climate change and transitioning to low-carbon emission practices.
Understanding the questions insurers are likely to ask is crucial for businesses to optimally position themselves when seeking insurance coverage across various policy classes. Assessing the cost of risk is fundamental to the financial sustainability of insurance. This assessment is designed to help our clients fully understand the risks associated with their sustainability endeavours.
Our aim is not only to support businesses in achieving their sustainability goals but also to help insure effective understanding management any potential risks that may emerge from sustainability initiatives and actions.
Sustainable insurance practices involve a responsible and forward-looking approach to identifying, assessing, managing, and monitoring risks and opportunities associated with environmental, social, and governance issues. By adopting such practices, businesses can reduce risk, develop innovative solutions, enhance performance, and contribute to environmental, social, and economic sustainability.
