Beyond the Law: Sustainability as a Leading Indicator of Business Performance

April 26, 2023 EcoVadis EN

In a hyper-connected trade economy, almost every area of business performance is tracked, assessed, or evaluated. As a trading partner to a multinational or value chain, you probably measure across price, cost of capital, service and quality. Like many business-to-business companies, you might also report on your environmental, labor and ethics practices. For many companies, sustainability is no longer something to monitor – environmental, social and governance (or ESG) metrics are used alongside traditional cost and quality stats to evaluate suppliers.

Like the Quality Revolution, Only Ten Times Faster

To understand how quickly sustainability becomes front and center, we can correlate it with the quality revolution that began with the work of Dr. W. Edwards Deming. Modern quality management – something we perceive today as fundamental to business – needed more than 70 years to mature, with bumps and turns along the way. Deming's main assertions were considered “radical” at the time: Focusing on quality first as a means to lower costs, applying a holistic approach of continuous improvement and working education, or thinking that quality is everyone’s responsibility were anything but business as usual. Yet, Deming became a leader of the quality movement in the United States and, later, in Japan. After World War II, most key quality practices were abandoned, once the federal wartime contracts ended. Still, Japanese manufacturing continued to embrace Deming's principles, leading to its leadership in the global landscape (especially in the automotive industry). It took many decades for other countries to catch up.

A Brief History of Quality. Source: ASQ.

Today, we see a similar codification and standardization of business metrics for environmental, labor, and ethics practices – but one that is happening many times faster, fuelled by the climate crisis, the pandemic, armed conflicts, and other distortionary effects.

From Voluntary Disclosure to Required Information

Providing sustainability information remains – to a greater extent – a voluntary engagement: Companies generally still get to decide what to disclose, and how and when to disclose it. Yet, increasing stakeholder expectations and the rise of mandatory ESG due diligence regulations are driving the shift from voluntary provision to required information. Even if regulations don’t mandate reporting, someone else will – the directives are coming from their customers, investors, and employees who are increasingly interested in how companies manage risks and opportunities related to sustainability topics.

Organizations just starting to communicate their sustainability performance typically approach it with the target of staying compliant, meaning providing or fulfilling the bare minimum per required norms or standards. Yet, non-compliance findings are usually too late in case of legal violations or non-observance of the standards. If a company’s activities are found to have an adverse impact and a clean-up effort is required, some of these remediation actions can carry hefty price tags. But it’s not just monetary consequences that should be a concern – your customers, aware of a regulatory action or infringement, are free to hand down consequences, too.

Is the absence of violations reassuring enough to assure your stakeholders? Hardly, as perceived shortcomings can undermine a company’s reputation as fast as any regulatory breach. Most would agree that it’s preferable to identify and address any deficiencies before they mature into incidents.

From Trailing to Leading Indicators

Just as they need quality and financial indicators, your stakeholders also need metrics for sustainability to make informed decisions about your business performance. When it comes to complying with performance-based commitments where the goal is to achieve zero violations or zero incidents, companies need a management system informed by measures of compliance. Counting non-conformance is, however, the ultimate trailing (or lagging) indicator. Metrics of this kind can never distinguish whether a management system is effective enough and how it’s different from what the competition is doing. They are also too late to prevent what has already occurred, and for those looking to improve business outcomes, they are useless to shift the paradigm.

You don’t get much into the actual business performance from indicators that measure compliance with the sanction of the law. They are still beneficial as they help identify vulnerabilities, albeit after the fact. Now, imagine you’re a multinational company with hundreds of suppliers in countries all over the world. Enforcement laws in each country or region it sources from are too numerous to be tracked. In such cases, there’s too much exposure, so you would want to improve the effectiveness of preventive controls to achieve an acceptable level of risk. Therefore, most customers with extensive supply networks want control processes that give early warning signs and an opportunity to do something about it.

Leading indicators have that predictive utility. Companies systematically seek and evaluate data that provides the leading indicators of their organization's performance to create better, more predictive and insightful business strategies. In the sustainability field, they want to understand the level of maturity of the management system of environmental, labor and ethical practices.

That includes assessing supplier networks, too.

A Proactive, Continuous Improvement Approach

Developing policies, actions and reporting is essential in proactively avoiding unwanted events and driving performance. It starts by setting a baseline for action by mapping current capabilities against a set of performance criteria. Once a benchmarking system is in place, with assessments tracking performance over time, companies – and their trading partners – can determine how to improve.

This is the whole goal of ESG assessments and scorecards – to measure the management system's performance. Circling back to Deming's premises – organizations need regular performance assessments and reporting as standard procedures to ensure management systems function to improve over time. With periodical monitoring and evaluation, companies can make more informed, data-driven decisions regarding their policies, processes and procedures. That said, one size does not fit all. Improvement actions must be selected based on what works best for a particular organization. The ultimate goal is to equip that organization with the most comprehensive, yet applicable knowledge to increase its awareness and commitment to sustainability goals.

That’s exactly what we do best: EcoVadis provides companies with a customized and prescriptive roadmap to improved sustainability performance. We give the tools and support companies need to build a sustainability management system capable of standing up to increasingly stringent regulations and customer demands. Learn more here.

About the Author

EcoVadis EN

EcoVadis is a purpose-driven company whose mission is to provide the world's most trusted business sustainability ratings. Businesses of all sizes rely on EcoVadis’ expert intelligence and evidence-based ratings to manage risk and compliance, drive decarbonization, and improve the sustainability performance of their business and value chain. Its AI-powered risk mapping, actionable scorecards, benchmarks, carbon action tools, and insights guide a resilience and improvement journey for environmental, social and ethical practices across 200 industry categories and 175 countries.

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