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The Proven Link Between ESG and Profitability
Today, most companies have committed to improving their environmental, social, and governance (ESG) performance. However, ESG departments and initiatives are often seen as a cost or compliance obligation rather than a benefit or source of positive return on investment (ROI) for companies. What, then, are the research-backed benefits of ESG? What’s the ROI of operational ESG investment for CFOs and leadership teams?
While introducing the entire concept of ESG and business benefits, we introduce five tangible benefits (such as increased competitiveness), and our article concludes with 21 statistics you can “take to the bank.
The Difference Between ESG Reporting and ESG ROI
One important distinction to make up front is the difference between ESG reporting and the actual delivery of ESG. ESG reporting is a corporate communications practice designed to share ESG performance with company stakeholders like investors, employees, or the general public. The question is what is a company’s ESG reporting sharing? Standout, data-backed achievements? Vague promises? Strong performance? Limited investment? It’s the substance and sincerity that really matter.
The Link Between ESG and Profitability Exists
Businesses which express commitment to ESG have seen profits jump 9.1% over the past three years, says accountancy firm Moore Global.
Companies across the world that claim to place an importance on ESG – defined as the company’s assessment of their own practical action over a defined time horizon – saw revenues significantly outperform those companies that openly disregard its importance between 2019 and 2022. Those that did saw a revenue bump of 9.7% versus only 4.5% for those that didn’t.
With profitability over the three-year period, the figures were more divergent. Businesses publicly placing greater importance on ESG saw an average increase in profits of 9.1%. But this jumped to 11% in the US versus 8.1% in Europe and 7.4% in Australia.
As well as improved revenues and profitability, a significant finding in the report is the extent to which companies that follow ESG find it easier to attract investment. As many as 84% said that the ability to raise capital had become slightly or significantly easier.
It was in the US that companies saw ESG as the greatest benefit in raising funds. Almost half (48.1%) said that ESG had significantly improved their ability to attract investment from external sources, though the type of funding is not disclosed. It was followed by Italy (41.8%) and Germany (37.5%).
5 ESG Benefits for Businesses
Using the ESG framework can bring tangible benefits to both businesses and investors. For businesses, it opens access to a larger pool of capital and promotes a stronger brand identity, and investors can demonstrate their values and often get returns that are similar to or better than traditional approaches through investments associated with an ESG-centric brand.
Here are five benefits of ESG for businesses:
1. Offers a competitive advantage
Companies participating in ESG efforts often gain a competitive advantage over business rivals. For example, a 2022 survey of 1,062 U.S. residents by GreenPrint, a sustainability tools provider that’s now owned by PDI Technologies, found that 66% of the respondents would be willing to spend extra money to buy environmentally friendly products. Similarly, 70% of 400 IT professionals surveyed in 2022 by TechTarget’s Enterprise Strategy Group division said they think their company would pay more than a 5% price premium for IT products from vendors that have strong ESG practices.
The various ESG metrics tracked and reported by companies are also important to consumers, employees, lenders, and regulators. Company leaders who make efforts to improve labor conditions, promote diversity, give back to the community, and take a stand on socioeconomic issues play a major role in strengthening a company’s brand.
2. Attracts investors and lenders
The inclusion of ESG reporting in earnings reports or in separate disclosures is trending among businesses. Investors and lenders are becoming highly attracted to organizations that invest in ESG and use ESG disclosures to shed light on their sustainability efforts. A Gallup study released in 2022 found that 48% of investors are interested in sustainable investing funds, while a Dow Jones survey of 200 investment professionals, also conducted in 2022, projected that ESG investments would more than double over the next three years.
Public concerns caused by the pandemic, climate change, and misuse of natural resources are driving investors to shift their lenses toward sustainable businesses and weed out the ones with outdated practices, such as unfair wages, investments in fossil fuels, unsustainable agriculture methods, and the manufacturing of nonrecyclable products. By providing a comprehensive view of their practices, businesses engaged in ESG initiatives can influence investment decisions and enable investors to pick a company that offers a sustainable future with a low-risk profile.
3. Improves financial performance
ESG not only makes a business favourable to investors, but it can also improve the overall financial performance of a business. Even small efforts toward sustainability, such as going paperless, recycling, or making energy-efficient upgrades, can improve a business’s bottom line and ROI.
To keep up with ESG programs, companies must track key metrics—such as energy consumption, raw material usage, and waste treatment that can eventually lead to reduced energy bills and cost reductions. Companies that stay compliant with ESG-related regulations also have less exposure to fines, penalties, and other business risks, which positively affects their bottom line.
For example, in 2020, food and beverage company Nestlé announced it would invest up to $2.1 billion by 2025 to transition from conventional plastics to food-grade recycled plastics. This shift is expected to help Nestlé reduce its carbon footprint and cut compliance costs, especially in regions where there are stricter laws against the use of plastic packaging.
4. Builds customer loyalty
In a 2021 survey conducted by Accenture of more than 25,000 consumers across 22 countries, 50% reported that they had realigned their priorities when shopping for products as a result of the COVID-19 pandemic. These consumers are willing to pay extra for brands that align with their values and are more loyal to organisations that treat people well. Today’s socially conscious consumers want to know what the businesses they support are doing for the greater good.
Companies that adhere to ESG principles can attract and retain more customers by being transparent and effectively communicating their ESG efforts to customers.
5. Makes company operations sustainable
Companies investing in ESG initiatives can sustain and adapt to an ever-changing landscape. For example, businesses that properly integrate ESG principles into their core operations are better able to identify cost-saving opportunities and enjoy lower energy consumption, reduced resource waste, and an overall reduction in operational costs.
While ESG reporting is only mandatory for publicly traded companies in some jurisdictions at this point, it seems to be heading in that direction for the rest of the corporate world, too. Companies that overlook ESG policies now might have to deal with them later, in the form of legal, regulatory, reputational, and compliance issues.
The individual elements of ESG
Your business, like every business, is deeply intertwined with environmental, social, and governance (ESG) concerns. It makes sense, therefore, that a strong ESG proposition can create value, and a framework for understanding its component parts is essential.
The E in ESG, environmental criteria, includes the energy your company takes in and the waste it discharges, the resources it needs, and the consequences for living beings as a result. Not least, E encompasses carbon emissions and climate change. Every company uses energy and resources; every company affects, and is affected by, the environment.
The S – or social criteria, of ESG addresses the relationships your company has and the reputation it fosters with people and institutions in the communities where you do business. Social includes labour relations, diversity, and inclusion. Every company operates within a broader, more diverse society.
The G in ESG equates to governance, which is the internal system of practices, controls, and procedures your company adopts in order to govern itself, make effective decisions, comply with the law, and meet the needs of external stakeholders. Every company, which is itself a legal creation, requires governance.
Getting your environmental, social, and governance (ESG) proposition right links to higher value creation. Just as ESG is an inextricable part of how you do business, its individual elements are themselves intertwined. For example, social criteria overlap with environmental criteria and governance when companies seek to comply with environmental laws and broader concerns about sustainability.
Our focus is mostly on environmental and social criteria, but, as every leader knows, governance can never be hermetically separate. Indeed, excelling in governance calls for mastering not just the letter of laws but also their spirit—such as getting in front of violations before they occur or ensuring transparency and dialogue with regulators instead of formalistically submitting a report and letting the results speak for themselves.
Thinking and acting on ESG in a proactive way has lately become even more pressing. The US Business Roundtable released a new statement in August 2019 strongly affirming businesses’ commitment to a broad range of stakeholders, including customers, employees, suppliers, communities, and, of course, shareholders.
ESG-oriented investing has experienced a meteoric rise. Global sustainable investment now tops $30 trillion—up 68 percent since 2014 and tenfold since 2004.2 The acceleration has been driven by heightened social, governmental, and consumer attention to the broader impact of corporations, as well as by 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. So does the level of business performance.
The overwhelming weight of accumulated research finds that companies that pay attention to environmental, social, and governance concerns do not experience a drag on value creation—in fact, quite the opposite. A strong ESG proposition correlates with higher equity returns, from both a tilt and momentum perspective. Better performance in ESG also corresponds with a reduction in downside risk, as evidenced, among other ways, by lower loan and credit default swap spreads and higher credit ratings.
Five links to value creation
The five links are a way to think of ESG systematically, not an assurance that each link will apply, or apply to the same degree, in every instance. Some are more likely to arise in certain industries or sectors; others will be more frequent in given geographies. Still, all five should be considered regardless of a company’s business model or location. The potential for value creation is too great to leave any of them unexplored.
1) Top-line growth
A strong ESG proposition helps companies tap new markets and expand into existing ones. When governing authorities trust corporate actors, they are more likely to award them access, approvals, and licenses that afford fresh opportunities for growth. For example, in a recent, massive public-private infrastructure project in Long Beach, California, the for-profit companies selected to participate were screened based on their prior performance in sustainability.
Superior ESG execution has demonstrably paid off in mining as well. Consider gold, a commodity (albeit an expensive one) that should, all else being equal, generate the same rents for the companies that mine it regardless of their ESG propositions. Yet one major study found that companies with social engagement activities that were perceived to be beneficial by public and social stakeholders had an easier time extracting those resources without extensive planning or operational delays.
These companies achieved demonstrably higher valuations than competitors with lower social capital. ESG can also drive consumer preference. McKinsey research has shown that customers say they are willing to pay to “go green.” Although there can be wide discrepancies in practice, including customers who refuse to pay even 1 percent more, studies show that upward of 70 percent of consumers surveyed on purchases in multiple industries, including automotive, building, electronics, and packaging categories, said they would pay an additional 5 percent for a green product if it met the same performance standards as a non-green alternative.
In another study, nearly half (44 percent) of the companies we surveyed identified business and growth opportunities as the impetus for starting their sustainability programs. The payoffs are real. When Unilever developed Sunlight, a brand of dishwashing liquid that used much less water than its other brands, sales of Sunlight and Unilever’s other water-saving products proceeded to outpace category growth by more than 20 percent in a number of water-scarce markets. And Finland’s Neste, founded as a traditional petroleum-refining company more than 70 years ago, now generates more than two-thirds of its profits from renewable fuels and sustainability-related products.
2) Cost reductions
ESG can also reduce costs substantially. Among other advantages, executing ESG effectively can help combat rising operating expenses (such as raw-material costs and the true cost of water or carbon), which McKinsey research has found can affect operating profits by as much as 60 percent. In the same report, our colleagues created a metric (the amount of energy, water, and waste used in relation to revenue) to analyse the relative resource efficiency of companies within various sectors and found a significant correlation between resource efficiency and financial performance.
The study also identified a number of companies across sectors that did particularly well—precisely the companies that had taken their sustainability strategies the furthest. As with each of the five links to ESG value creation, the first step to realizing value begins with recognising the opportunity. Consider 3M, which has long understood that being proactive about environmental risk can be a source of competitive advantage. The company has saved $2.2 billion since introducing its “pollution prevention pays” (3Ps) program in 1975, preventing pollution up front by reformulating products, improving manufacturing processes, redesigning equipment, and recycling and reusing waste from production.
Another enterprise, a major water utility, achieved cost savings of almost $180 million per year thanks to lean initiatives aimed at improving preventive maintenance, refining spare-part inventory management, and tackling energy consumption and recovery from sludge. FedEx, for its part, aims to convert its entire 35,000-vehicle fleet to electric or hybrid engines; to date, 20 percent have been converted, which has already reduced fuel consumption by more than 50 million gallons.6 3. Reduced regulatory and legal interventions A stronger external-value proposition can enable companies to achieve greater strategic freedom, easing regulatory pressure.
In fact, in case after case across sectors and geographies, we’ve seen that strength in ESG helps reduce companies’ risk of adverse government action. It can also engender government support. The value at stake may be higher than you think. By our analysis, typically one-third of corporate profits are at risk from state intervention. Regulation’s impact, of course, varies by industry.
For pharmaceuticals and healthcare, the profits at stake are about 25 to 30 percent. In banking, where provisions on capital requirements, “too big to fail,” and consumer protection are so critical, the value at stake is typically 50 to 60 percent. For the automotive, aerospace, defence, and tech sectors, where government subsidies (among other forms of intervention) are prevalent, the value at stake can reach 60 percent as well.
3) Employee productivity uplift
A strong ESG proposition can help companies attract and retain quality employees, enhance employee motivation by instilling a sense of purpose, and increase productivity overall. Employee satisfaction is positively correlated with shareholder returns. For example, the London Business School’s Alex Edmans found that the companies that made Fortune’s “100 Best Companies to Work For” list generated 2.3 percent to 3.8 percent higher stock returns per year than their peers over a greater than 25-year horizon.
Moreover, it’s long been observed that employees with a sense not just of satisfaction but also of connection perform better. The stronger an employee’s perception of impact on the beneficiaries of their work, the greater the employee’s motivation to act in a “prosocial” way.
Recent studies have also shown that positive social impact correlates with higher job satisfaction, and field experiments suggest that when companies “give back,” employees react with enthusiasm. For instance, randomly selected employees at one Australian bank who received bonuses in the form of company payments to local charities reported greater and more immediate job satisfaction than their colleagues who were not selected for the donation program.
Just as a sense of higher purpose can inspire your employees to perform better, a weaker ESG proposition can drag productivity down. The most glaring examples are strikes, worker slowdowns, and other labour actions within your organisation. But it’s worth remembering that productivity constraints can also manifest outside of your company’s four walls, across the supply chain. Primary suppliers often subcontract portions of large orders to other firms or rely on purchasing agents, and subcontractors are typically managed loosely, sometimes with little oversight of workers’ health and safety.
Farsighted companies pay attention. Consider General Mills, which works to ensure that its ESG principles apply “from farm to fork to landfill.” Walmart, for its part, tracks the work conditions of its suppliers, including those with extensive factory floors in China, according to a proprietary company scorecard. And Mars seeks opportunities where it can deliver what it calls “wins-wins-wins” for the company, its suppliers, and the environment. Mars has developed model farms that not only introduce new technological initiatives to farmers in its supply chains but also increase farmers’ access to capital so that they are able to obtain a financial stake in those initiatives.
4) Investment and asset optimisation
A strong ESG proposition can enhance investment returns by allocating capital to more promising and more sustainable opportunities (for example, renewables, waste reduction, and scrubbers). It can also help companies avoid stranded investments that may not pay off because of longer-term environmental issues (such as massive write-downs in the value of oil tankers). Remember, taking proper account of investment returns requires that you start from the proper baseline.
When it comes to ESG, it’s important to keep in mind that a do-nothing approach is usually an eroding line, not a straight line. Continuing to rely on energy-hungry plants and equipment, for example, can drain cash going forward. While the investments required to update your operations may be substantial, choosing to wait it out can be the most expensive option of all. The rules of the game are shifting: regulatory responses to emissions will likely affect energy costs and could especially affect balance sheets in carbon-intense industries. And bans or limitations on such things as single-use plastics or diesel-fueled cars in city centres will introduce new constraints on multiple businesses, many of which could find themselves having to catch up. 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 daycare facilities—a trend we’re beginning to see in reviving cities.
Foresight flows to the bottom line, and leaning into the tailwinds of sustainability presents new opportunities to enhance investment returns. Tailwinds blow strongly in China, for example. The country’s imperative to combat air pollution is forecast to create more than $3 trillion in investment opportunities through 2030, ranging across industries from air-quality monitoring to indoor air purification and even cement mixing.
5) The personal dynamic
The five links to value creation are grounded in hard numbers, but, as always, a softer side is in play. For leaders seeking out new ESG opportunities or trying to nudge an organization in directions that may feel orthogonal to its traditional business model, here are a few personal points to keep in mind. Get specific It’s important to understand the multiple ways that environmental, social, and governmental factors can create value, but when it comes to inspiring those around you, what will you really be talking about? Surprisingly, that depends. The individual causes that may inspire any one of us are precisely that—individual. That means that the issues most important to executives on your team could incline in different directions. Large companies can have dozens of social, community, or environmental projects in motion at any time. Too many at once can be a muddle; some may even work at cross-purposes.
In our experience, priority initiatives should be clearly articulated, and the number should be no more than five. To decide which ones to use and to get the most out of them, let the company be your lodestar. For one leading agribusiness, that means channeling its capabilities into ameliorating hunger. The company taps its well-honed competencies to work with farmers in emerging regions to diversify their crops and adopt new technologies, which increases production and strengthens the company’s ties with different countries and communities.
Even within the same industry, different companies will have different ESG profiles depending on their position in the corporate life cycle. Attackers typically have high upside potential to drive growth from ESG initiatives (for instance, the craft brewer BrewDog donates 20 percent of its annual profits), while longer-established competitors simply don’t have that choice.
For some companies, such as coal businesses or tobacco manufacturers, ESG will be more effectively geared to maintaining community ties and prioritizing risk avoidance. Regardless of your company’s circumstances, it will be the CEO’s role to rally support around the initiatives that best map to its mission. Practical value creation should be the CEO’s core message. Anything else could sound off-key. Managers, especially more senior ones, are usually assessed based on performance targets. Under those conditions, top-down ESG pronouncements can seem distracting or too vague to be of much use; “save the planet” won’t cut it.
To get everyone on board, make the case that your company’s ESG priorities do link to value and show leaders how, ideally with hard metrics that feed into the business model (for example, output per baseline electricity use, waste cost in a given plant or location per employee, or revenue per calorie for a food-and-beverage business).
The case will be simpler if you’ve done the hard work to analyse what matters along your value chain, where the greatest potential lies, and which areas have the most impact for your company. Proactive companies carefully research potential initiatives, including by tapping thought leaders and industry experts, iterating their findings with internal and external stakeholders, and then publishing the results.
Making the case publicly—not least to investors—enforces rigour and helps ensure that practical actions will follow. An honest appraisal of ESG includes a frank acknowledgment that getting it wrong can result in massive value destruction. Just ask the team at Bud Light!
Being perceived as “overdoing it” can sap a leader’s time and focus. Under-doing it is even worse. Companies that perform poorly in environmental, social, and governance criteria are more likely to endure materially adverse events. Just in the past few years, multiple companies with a weak ESG proposition saw double-digit declines in market capitalisation in the days and weeks after their missteps came to light.
Leaders should vigilantly assess the value at stake from external engagement (in our experience, poor external engagement can typically destroy about 30 percent of value) and plan scenarios for potential hits to operating profits. These days, 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.
Conversely, being thoughtful and transparent about ESG risk enhances long-term value—even if doing so can feel uncomfortable and engender some short-term pain. Ed Stack, the CEO of North American retailer Dick’s Sporting Goods, said he expected that the company’s 2018 announcement to restrict gun sales would alienate some customers, and he was right: by his own estimate, the announcement cost the company $150 million in lost sales, or slightly less than 2 percent of yearly revenue. Yet the company’s stock climbed 14 percent in a little over a year following the shift.
21 Statistics to Prove the ESG Advantage
So, here are the concrete numbers that add up to ESG delivering results. It’s not about being “woke” or limiting a corporation’s ability too make money; it’s just common sense for anyone in business, SME, or global concern.
- $3.5B – HP generated $3.5 billion of commercial sales in 2021 from “new sales in which sustainability criteria were a known consideration and were supported actively by HP’s Sustainability and Compliance organization and commercial organization.” Source: HP, 2022
- €1.2B – Sustainable sourcing efficiency improvements helped Unilever realize over €1.2 billion in operational cost savings since 2008. Source: Unilever, 2020
- $227M – Operating cost savings from manufacturing efficiency improvements that reduced product defects and waste. Source: McKesson, 2020
- $50M – Company-wide improvement in profit margins for Nike by replacing certain shoe components with more sustainable materials and improving its supply chain sustainability Source: Nike, 2021
- $7.5M – Improvement in annual operating income for Anheuser-Busch InBev by working with its barley growers to accelerate adoption of sustainable farming practices, thereby improving raw material quality and reducing waste. Source: Anheuser-Busch InBev and NYU CSB, 2023
- $2.2M – In cost savings by healthcare company Medtronic from 80+ energy efficiency projects completed in 2021 that reduce the company’s energy usage and Scope 1 and 2 GHG emissions. Source: Medtronic, 2021
- 59% – Of companies report positive top-line impact from operational ESG investment, and more than half of companies noted a positive effect of sustainability improvements on overall company profitability. Source: Deloitte, 2020
- 3-6% – Public companies with better social impact records had greater three-year investor returns and were more likely to become “high-quality” stocks, according to a Bank of America Merrill Lynch study which found strong ESG performers outperformed the market by 3-6% per year. Source: Bank of America Merrill Lynch, 2018
- 28%+ – A study of 140 US companies by Accenture found that companies who were leaders in diversity hiring, employment, and inclusion achieved, on average, 28% higher revenue, higher net income, and 30% higher profit margins. Source: Accenture, 2018
- 71% – Of employees age 34 and younger say they want to work at a company that matches their personal values and does good in the world. Source: LinkedIn and YouGov, 2019
- 50% – Effective, transparent ESG and corporate social responsibility (CSR) programs can increase employee turnover by up to 50%, according to data and internal studies by Starbucks, Campbell, Babson College, and Glassdoor. Source: Starbucks, Campbell, Babson College, and Glassdoor, 2019
- 85% – Of institutional investors consider ESG factors in their investment decisions. Source: Gartner, 2020
- 61% – Of investors see strong ESG and corporate social responsibility (CSR) performance as a sign of “ethical corporate behavior, which reduces investment risk” and an “indicator of a corporate culture less likely to produce expensive missteps like financial fraud.” Source: Aflac, 2021
- 19%+ – Diverse management teams deliver 19% higher revenues from innovation compared to less diverse company leadership. Source: BCG, 2020
- $4.2M – The average cost of a corporate data breach or consumer privacy violation incident. Source: IBM, 2021
- $50T+ – Global ESG assets and investments will exceed $50 trillion by 2025. Source: Bloomberg, 2021
- 20% – For a smaller business, ESG can deliver a 20% lower cost of debt and a 10% lower cost of equity.
- 67% – Firms that seize the initiative with ESG reporting achieve a 67% higher average return on equity!
- 9% – Consumers are willing to pay a 9% premium for a product or brand with strong environmental credentials.
- 75% – of institutional investors allocate more funds to companies with solid ESG practices, and it’s higher when seeking private equity.
- 81% of our nation’s consumers want genuinely sustainable businesses, and they are voting with their wallets.
Every company’s ESG roadmap is different, and ESG truly is a long-term, strategic journey for boards and management teams. Nonetheless, the benefits of strong ESG performance on brand reputation, employee talent, culture, operational efficiency, risk management, and access to capital are not only numerous; many are quantifiable. And, as always, if we can help your organisation unlock more ESG ROI, please get in touch with ESG Pro!
