Strategy and Governance of Emissions Reduction

As the stewards for long-term performance and resilience, the board should determine the most effective way to integrate climate considerations into its structure and committees¹. World Economic Forum

Once the Board has made the decision to commit to reducing emissions effective governance processes need to be implemented. This is best initiated by a strategy discussion or session.  Simply picking a net zero target will not address the complexities or obligations the board will face or lead to an understanding of the degrees of organisational transformation required. The strategy defines the scale of change and the breadth of sustainability issues to be addressed which in turn determines the governance model. 

In broad terms there are two approaches to governing emissions reduction and sustainability. Firstly, utilising existing committees and board reporting process. Secondly, establishing a Sustainability Committee integrating with the pre-existing strategy, risk and compliance governance processes. Most organisations won’t have the scale, complexity and compliance obligations to warrant a new board sub-committee however the emission reduction strategy will provide direction or at least the opportunity for the board to discuss the merits of a dedicated committee.

The following may not be required in all organisations but will give directors an overview of the governance processes and changes that need to be considered.

1. Utilising Existing Governance Processes and Reporting

Strategy

The future oriented strategic questions Boards need to consider are: 

• Given the drivers for emissions reduction what will our sector and business look like in 10 years’ time? 
• How will we respond to these changes?
• What opportunities can we identify?
• How will we manage climate related risks? 
• How quickly should we reduce emissions and how quickly can we?

Many organisations will begin by undertaking an emissions baseline audit. However, boards may seek to lead by initiating a strategy discussion encompassing why change is required, provide clarity of intent² and scope (emissions reduction to environmental impacts) prior to management undertaking baseline audits. Boards should consider conducting a strategy session to address vision, priorities, targets, opportunities, risks, legal and compliance obligations, offsetting vs emissions reduction, reporting and stakeholders (eg clients, employees, investors). It is also recommended reviewing the organisational purpose to ensure alignment³ between purpose and the sustainability strategy.

Board’s will need to approve emissions reduction targets across scope 1, 2 and 3⁴ emissions over 1 year and 3-year time periods and also 2030 and 2050 targets. To set emissions reduction targets it is recommended to align these to the Science Based Targets Initiative⁵ or at a minimum alignment to the higher emissions reduction targets of the countries that your business operates or you own jurisdictions targets.  Emission reduction and sustainability targets should be published internally and externally and consistently reported on in financial and annual reports. Boards will need to ensure management have undertaken a “comprehensive, integrated assessment of the change required⁶” to deliver on the strategy and targets. The Board will also need to approve the annual emissions reduction plan and ensure alignment to the long-term targets and commitments given to stakeholders.

Risk and Compliance

To varying degree all organisations will face transition risks as the economy and society transition to a net zero future and physical risks such as extreme weather events. For example, changes in consumption patterns, closed access to markets, new technology under cutting the costs or increasing productivity and more climate change regulation. There is also potential for tipping points where the cumulative effect of the drivers for change causes a rapid community and economic response and the pace of change accelerates.

Board’s will need to update their risk appetite statements and risk tolerance statements to recognise the transition risks, physical risks and their own entities transformation risks. For some organisations the opportunities or degree of organisational transformation required may warrant changing their risk appetite or tolerance statements, so a higher level of innovation risk is tolerated.

Setting targets and not achieving them or making false or disingenuous emissions reduction or sustainability claims warrants consideration of including ‘greenwashing’ in the risk register.

Audit and or Risk Committees will need to consider the following:

• Reviewing their terms of reference to include emissions reduction and or sustainability risks, compliance obligations and KPI monitoring.
• The role of assurance and internal audit to ensure the accuracy and consistency of reporting and data collection across scope 1, 2 and 3 emissions.
• Supply chain due diligence to confirm compliance with supplier contracts.
• Independent certification of net zero claims.
• Reviewing and monitoring sustainability compliance obligations.
• Reviewing the annual emissions reduction targets and emissions reduction plans and budgets.

People and Culture

As with other committees the People and Culture Committee will need to review its terms of reference. As an indication of the organisational transformation that maybe required the committee will need to consider the relevance of the following:

• Utilizing culture or engagement surveys to monitor staff attitudes towards sustainability and sentiment towards commitments and progress made by the entity (a flag for greenwashing claims). 
• Reviewing organisational values to align with the net zero or broader sustainability ambitions and empowerment for driving change and innovation to achieve the transformations required.
• As appropriate alignment of remuneration and incentives to achieving emissions targets and disincentives for operating outside the sustainability risk tolerance statements.
• Review the workforce strategy to ensure there are the current and future skills and experience in the executive team and wider management team to achieve emissions reduction or sustainability targets.⁷
• Reviewing the learning and development plan to address net zero knowledge gaps and business goals.
• Ensuring lines of accountability for emissions reduction targets, risk mitigations and emission reduction plans are defined⁸.

Governance Committee

The extent of governance changes outlined already indicates that there is also a role for the Governance Committee. The Committee will need to review the ‘climate competency of the board’; review the skills matrix to increase board sustainability experience; assess director training requirements; and consider site visits focussing on emissions reduction projects and innovations⁹. The Committee will need to review its own terms of reference and also review the overlap, gaps and alignment of sustainability inclusions in other Board committee terms of reference. Lastly, Board evaluations will need to incorporate the Board’s climate competency and emissions strategy and risks.

2. Sustainability Committee

There are three differing approaches to defining the role of Sustainability Committees and its terms of reference: 

1. Limited to net zero strategy, risks and reporting. 
2. Define sustainability as the organisations impact on the environment eg water consumption, biodiversity and extending the remit of the committee accordingly.
3. A broad definition of sustainability with inclusion of communities and social performance, health, safety, modern slavery and human rights. This approach can be based on the UN Sustainable Development Goals.

As noted earlier the scale and complexity of the emissions reduction may warrant establishing a Sustainability Committee. Other factors should also be considered such as board time, stakeholder expectations and regulatory change¹⁰. Note that if a Sustainability Committee is established the Board Charter may also require updating.

Conclusion

Effective oversight of emissions reduction requires alignment and changes to board processes, committee terms of references, committee workplans and executive reporting. These in turn require changes to the Boards’ workplan so it can lead, be an effective decision-making body and demonstrate diligence and oversight. The suggested changes to governance processes and reporting are not exhaustive and for each board they will evolve over time as experience is gained. The effort is warranted “companies with higher ESG ratings had an average total shareholder return of 34% over the past 3 years 7— 10% higher than the general market index.”¹¹

“In a constantly evolving marketplace, organisations that can embrace change are more resilient and successful” Cambridge University 

Please contact Paul Geyer paul.geyer@vuca.com.au if you would like to discuss this article further. 

NOTE:
Please refer to a related article written by Paul Geyer on When Does my Board need to include Emissions Reduction in its Strategy. Go to https://www.vuca.com.au/thought-leadership/

Paul Geyer
Director, VUCA Trusted Advisors

References

¹ How to Set Up Effective Climate Governance on Corporate Boards, World Economic Forum, 2019
² Board Toolkit. Chapter Zero
³ Targeting Net Zero: A strategic framework for business action. University of Cambridge Institute for Sustainability Leadership (CISL). 2020, December
⁴ https://www.cleanenergyregulator.gov.au/NGER/About-the-National-Greenhouse-and-Energy-Reporting-scheme/Greenhouse-gases-and-energy
⁵ https://sciencebasedtargets.org/
⁶ Board Toolkit. Chapter Zero
⁷ A decarbonised future: what net zero actually means for your board, PWC & Climate Works Centre, May 2022
⁸ Bringing Together ESG. Board Structures and Sustainability. Climate Governance Initiative, Herbert Smith Freehills, AICD. November 2022
⁹ A Changing Climate. What investors expect of company directors on climate risk. Investor Group on Climate Change. October 2021
¹⁰ Bringing Together ESG. Board Structures and Sustainability. Climate Governance Initiative, Herbert Smith Freehills, AICD 2022
¹¹ A decarbonised future: what net zero actually means for your board, PWC & Climate Works Centre, May 2022