How companies address climate change and other environmental issues, as well as social and governance topics (better known by the abbreviation ESG) is now viewed – by investors, research and ratings firms, activists, employees, customers, and regulators – as fundamental to business resilience and value creation. We expect the intense regulatory focus on these issues to continue in 2022.

The clamor for attention to climate change as a financial risk has become more urgent, driven by a confluence of factors, the most visible of which is the accelerating physical impact of climate change, including the frequency and severity of floods, wildfires, rising sea levels and droughts, as well as concern by many experts that the window for preventing more dire, long-term consequences is rapidly closing. Related to climate risk are the “transition risks” that companies face as they work in conjunction with countries, regulators, and other stakeholders to reduce reliance on carbon and its impact on the climate. The Task Force on Climate-related Financial Disclosures (TCFD) defines these transition risks as “risks associated with the transition to a lower-carbon economy, the most common of which relate to policy, tax, and legal actions, technology changes, market responses and reputational considerations.” A challenge for boards is to help ensure that these transition risks are properly addressed by management, together with other climate change risks. 

Monitoring the rapidly changing legal and regulatory developments regarding climate change is critical as regulators and policy makers globally are placing greater demands on companies to take action. The recent COP26 summit enhanced the awareness of climate change as a priority through the International Sustainability Standards Board (ISSB)[i] and the Glasgow Financial Alliance for Net Zero (GFANZ)[ii].

As noted in our webinar on climate change[iii], there has been a shift in mindset in among Belgian companies over the past few years: they are increasingly serious about doing the right thing. Investors are pushing for responsible investments and more transparency; new regulation and reporting requirements, such as the Corporate Sustainability Reporting Directive (CSRD)[iv], are forcing (large) companies to look more closely at their sustainability strategies; and the European regulator, ESMA, has included climate-related matters in their public statement on European common enforcement priorities for 2021 annual financial reports.[v]

In the transition to low-carbon economies, financial institutions have a critical role to play in redirecting financial flows to sustainable activities, acting as catalyst in the transition. In parallel, climate and environmental risks create a threat to the stability of the banking sector, as they generate vulnerabilities amongst the counterparties of banks. For these reasons, climate and environmental risks are high on the regulatory agenda for 2022. As illustrated in its guidelines published in 2020[vi], the ECB expects banks to explicitly incorporate climate and environmental risks in their business models and strategy and manage associated risks accordingly.

While climate change is the principle issue, it does not stand in isolation. Therefore, the other ESG topics are also relevant to boards today. Leading board management is one where the range of ESG topics are tackled.

After determining which ESG issues are of strategic significance, several fundamental questions should be front and center in boardroom conversations about the company’s ESG journey:

  • What are the ambitions in terms of ESG-associated issues, considering both the resilience of long-term activities and the impact the company is willing to have on the society?
  • How is the company embedding them into core business activities (strategy, operations, risk management, R&D, incentives and corporate culture) to drive long-term performance?
  • Is there a clear commitment and strong leadership from the top, and enterprise-wide buy-in?

Oversight of these risks and opportunities is a significant challenge, involving the full board and potentially multiple board committees. For example, elements of climate and ESG oversight likely reside with the audit and remuneration committees – and other committees, like an ESG or sustainability committee, may have responsibilities as well. Overlap is to be expected, but this puts a premium on information sharing and communication and coordination among committees. It also requires that committees have the expertise to oversee the issues delegated to them.