Sustainable Sourcing: Good Practice, Better Returns

by Rex Aguado

The Business Case for Sustainable Sourcing

So why is ESG so important to 21st Century businesses? According to McKinsey, ESG-oriented investing has experienced a meteoric rise to more than US$30 trillion – up 68% since 2014 and tenfold since 2004. “The acceleration has been driven by heightened social, governmental, and consumer attention on the broader impact of corporations, as well as by the investors and executives who realize that a strong ESG proposition can safeguard a company’s long-term success. The magnitude of investment flow suggests that ESG is much more than a fad or a feel-good exercise,” it said.

Here are the other ways that make ESG a good business proposition:

• ESG Can Help Boost Cash Flow

Most people would assume that compliance with ESG principles could be costly. While that may be true in the initial stages of ESG adoption, the long-term benefits to cash flow are undeniable. In a 14 November 2019 report in McKinsey Quarterly, the consulting giant says ESG can have five virtuous effects on cash flow by boosting top-line growth, cutting costs, minimizing regulatory and legal interventions, improving employee productivity, and optimizing investment and capex.

• Good for Gatekeepers, Customers and Costs

Good corporate reputation engendered by ESG adoption can also be helpful in expanding businesses in situ or tapping into new markets. “When authorities trust corporate actors, they are more likely to award them the access, approvals and licenses [for] fresh opportunities for growth,” McKinsey says.

Then there’s consumer preference. According to McKinsey, research has shown that customers are willing to pay to “go green”, with more than 70% consumers surveyed saying they are willing to pay a 5% premium for a green product that meets the same performance standards as a non-green alternative. Indeed, as reported by Sustainable Brands, 85% of consumers are more likely to buy from a company with a reputation for sustainability than from a neutral company.

ESG adoption can also slash operating costs, such as those for raw materials and the true cost of water or carbon – which can affect operating profits by as much as 60%, McKinsey says.

• Inspiring Employees and Partners

On a much more intangible level, strong adherence to ESG principles can boost a company’s ability to “attract and retain quality employees, enhance employee motivation by instilling a sense of purpose, and increase productivity overall,” says McKinsey, pointing to the positive correlation between employee satisfaction and shareholder returns.

Companies with inadequate ESG commitment also face various risks if they fail to check on their primary suppliers, purchasing agents and subcontractors. As some of these third-party players down the supply chain can be managed loosely, companies that source from them can be tainted with the same scandalous brush, such as cases involving the neglect of workers’ health and safety.

• Creating Value and the Art of Repurposing

According to McKinsey, companies can enhance investment returns by adopting ESG principles. This can entail the smart allocation of capital or the reassessment and re-channeling of “stranded” investments. But creating value via ESG adoption need not involve new initiatives. “One way to get ahead of the future curve is to consider repurposing assets right now – for instance, converting failing parking garages into uses with higher demand, such as residences or day-care facilities, a trend we’re beginning to see in reviving cities,” McKinsey adds.

This “future-proofing” can be an insurance against adverse social reactions that can damage a company’s reputation. McKinsey estimates that negative publicity can mean double-digit declines in market capitalization in the short to medium-term following an unfavorable incident. “These days, the tail events can seem to come out of nowhere, even from a single tweet. Playing fast and loose with ESG is playing to lose, and failure to confront downside risk forthrightly can be disastrous,” it says.

A Boon for Shareholder Value

ESG’s positive impact on shareholder value is confirmed by a McKinsey Global Survey published on www.mckinsey.com in February 2020 which found that 83% of C-suite leaders and investment professionals expect ESG programs to contribute more shareholder value within five years. Furthermore, the share of respondents who say that ESG programs create value has also grown from 10 years ago – and this finding is consistent across various industries.

There’s also a direct correlation between ESG programs and best-practice management, McKinsey says. “Maintaining a good corporate reputation and attracting and retaining talent continue to be cited most often as ways that ESG programs improve financial performance,” it says, adding that ESG’s other intangible benefits “include strengthening the organization’s competitive position and meeting society’s expectations for good corporate behavior”.

In our next blog post, we will look at how you can set up your own Sustainable Sourcing system and secure support from colleagues and senior management, as well as the important role of suppliers.

Previous posts in this series:

Part 1: Sustainable Sourcing Goes Viral

Part 2: How Good and Green is Your Buying?