The future is about the detail of net zero plans

and how they align with the financial success of companies

For this weeks Sunday brunch, we explore how companies can constructively contribute to the required transitions, and what actions we can take to overcome the roadblocks.

The attraction of ESG investing

Many investors have been attracted to Environmental, Social and Governance (ESG) investing by the promise of being able to do good (environmentally and socially) while the same time doing well financially.

This turned out to be a lot more complex than was first anticipated. As a result ESG measurement and reporting became a lot more detailed (its now a massive global industry), and many organisations got heavily involved in engagement with the companies they were invested in. While these measures have largely taken us some way forward, it’s becoming clear that we are not making the process that we need.

So, what happens next? We argue two changes are necessary.

The first is a deeper analysis of the net zero targets set out by companies and countries. By net zero, we don’t just mean GHG emissions. Many organisations and government also have targets for biodiversity, human rights and, in some cases a ‘just transition’. We are using net zero as a catch all, as the full name is just way too long.

And to be clear, this is different from looking to see if the plans are aligned with the objectives of the Paris Agreement. That is the first step, but on its own its not enough. This is about the how of the plan.

Just having a plan is nowhere near enough, it needs detail, a lot of detail. And it needs action along a timeline, what gets done by when. We need to understand exactly what will be delivered. And we need to be confident that the plan is realistic.

To draw a parallel with the financial/investing world

- when a company announces a new strategy to reposition the business, taking them to a more profitable future, we don’t just take this on trust. We don’t say, ‘the financial metrics they are aiming for look fine. If they hit them this will be a financially attractive business’.

We demand to understand the detail. What resources they will invest in, what will they will stop doing, and what metrics will we be able to use to judge progress. Knowing this, we can make a judgement as to how realistic the plan is, and if they have the ability to deliver on it. You will be surprised by how many financial strategies turn out to be just ‘hopes’, with little to back them up.

Applying the critical financial strategy review to net zero

We need to do the same when a company or country announces their net zero plans. Are the technologies they want to use practical and deliverable? Do they have the internal resources to deliver the changes, and if not, how will they find them. As with financial strategies, many net zero plans look to us to be more hopes than real transitions. To paraphrase, some of them actually say “we are going to keep doing what we have always done, and hope that new technology XX will become viable’ in time.

In practice, this means that all of us involved in sustainability finance need to have a decent knowledge of what solutions might work, and which ones are unlikely to become viable in anything like a useful time scale.

But, it’s not just about technology.

Which brings us to the second change. The transitions need to be financially sound. This doesn’t mean ‘I can make a lot of money in the short term’. Many transitions will take years to deliver, some will take a decade or more. The crunch point here is that the changes have to be long term financially value creating. If they are not, the company will become uncompetitive, and either fade into oblivion, get brought up by a rival, or go bust.

There are a lot of moving parts in the analysis of a strategies financial viability. Some of it is about what goods and services customers will demand in the future. Other issues include future regulation, the reliability of supply chains, and of course the ability of companies to create new methods of production.

Plus, we need to understand why previous strategies have failed. Was it poor regulation, a lack of governance and critical thought by shareholders and lenders, or a lack of clarity by governments. Alternatively, was it caused by management teams and boards being in denial, believing they could just keep on the doing the same thing even though their external environment is changing.

Its not just about plugging accounting numbers into a spreadsheet. We need to think about what the operating environment will look like 5, 10 or even 20 years in the future. What will the end markets look like, what will competitors do, and where will companies find new sources of competitive advantage. We call this foresight, and its the foundation of any good strategy. This applies as much to sustainability as it does to finance.

These changes need the financially focused among us to work more closely with the sustainability professionals. To build net zero solutions that are viable, rather than just a series of hopes and dreams that are unlikely to deliver. To do this we all need to learn new skills, and we need to be willing to have an open and respectful dialogue. The other side are not the enemy. If we continue to think that way, we will fail.

We need to find ways of bridging the gap between two very different social groups.