Remember all those ambitious sustainability targets large corporations announced to great fanfare not so long ago? Net zero emissions by 2050, significant increases in diversity among senior leadership and boards, and commitments to nature preservation and supply chain transparency were a few of the most popular pronouncements. Now, however, as the reality of what it takes to achieve those goals comes into focus, many companies have started to realize that they need to start delivering against their promises. For many of them, there is a real possibility that they may not be able to do so.
Some of the earliest evidence of this came in the form of a report, last year, from Net Zero Tracker, which found that just 5% of corporate carbon emissions reduction plans met U.N. criteria laid out in its Race to Zero campaign. This is an issue that has been top of mind at the United Nations Climate Change Conference, COP 29, this week in Azerbaijan. Similarly, corporate challenges meeting nature disclosure guidelines was one of the big story lines coming out of the UN’s recent COP 16 Biodiversity Conference, earlier this month.
Making the Business Case for Sustainability
While some companies have used this rising tide of uncertainty and the ongoing backlash against environmental, social and governance (ESG)-related initiatives to quietly walk back their sustainability pledges, others have doubled-down on finding ways to make their sustainability goals a reality. For the latter group, a popular method of incentivizing that commitment has been to link executive pay with sustainability metrics. According to a January report from Willis Towers Watson, some 76% of S&P 500 companies have incorporated at least one ESG metric into their executive incentive plans.
Mars, Inc., the multinational confectionary and pet food/pet care company, has been a leader on this strategy, linking 20% of its total executive pay packages to sustainability goals. Mars Chief Sustainability Officer Barry Parkin explained the rationale to The Wall Street Journal: “When you make it that amount of money—and it’s a significant amount of money for senior executives—they move from ‘I don’t know what to do about that. I wasn’t trained on how to reduce greenhouse gas. They didn’t teach me about that at business school,’ to ‘That’s serious. That’s significant. What do I need to know? What do I need to do?’”
It’s hard to argue that logic. If a company is going to make the kinds of investments and develop the kinds of strategies it needs to achieve meaningful changes on sustainability, it’s going to require buy-in across every business function. What better way to achieve that than by putting sustainability goals on a par with financial goals when it comes to executive compensation?
History as a Guide to the Future of Sustainability
While the logic is sound, the devil is, as always, in the detail. Critics of ESG-linked executive pay packages point to a lack of consistency and standardization around measurement criteria as a weakness in this approach. While the European Union’s Corporate Sustainability Reporting Directive (CSRD) does provide some guidelines for how companies should disclose sustainability-related performance incentive schemes, in its general disclosure requirements, the specific strategies businesses develop and implement can vary widely by company.
However, this is where we can turn to history to help guide the approach. While ESG and corporate sustainability may feel like relatively new concepts, the model of tying financial incentives to desired operational outcomes is not so new. As far back as 1970, when the Occupational Safety and Health Act (OSHA) was passed, big businesses have been pressed to factor in metrics related to the health and safety of employees alongside environmental concerns, into their operations. Nevertheless, over the course of the 50+ years since, we’ve seen a lot of what can go wrong and also what strategies work best when it comes to incentivizing good corporate citizenship.
Unintended Consequences
Let’s start with what to avoid. I happen to have worked in the Environmental Health and Safety (EHS) world during the early days of this evolution and I still have vivid memories of the safety coaching concept. Under a scheme such as this, companies would identify specific safety related actions which would then drive behaviors. Adding a financial incentive metric to this is a well-trodden route to employee engagement, which is all very laudable and proven to be effective. In practice, however, the approach would sometimes translate into “quick wins” such as a focus on holding handrails on stairways, backing into parking spots, and not carrying unlidded cups of coffee. At the company I worked for, employees were required to carry out 20 personal safety coaching encounters per year in order for the financial goal to be met
While there was a great deal of behavior-related logic to this approach, the real-world result was that as the period end approached, coworkers and site visitors ran the gauntlet of being targeted by a large number of employees running around like hall monitors trying to hit their quota of teachable moments. The danger is that some incentive programs become too simplistic, too narrowly focused, and – as a result – became just another system that employees would game to get off their to-do lists and hit the number required to achieve their bonus.
An Holistic Approach
By contrast, more evolved approaches to workplace safety took a much more sophisticated, data-driven approach to measuring progress and encouraging better behaviors. The key to building long-term culture change on the magnitude of what was needed in the EHS movement, and what’s needed today in sustainability, is setting clear, attainable goals, putting in place deliberate steps to achieve those goals, and tracking the impact of all of the inputs that go into them and ensuring that leadership is in place right throughout the organization to lead and support. It’s not about any one tool or strategy.
Likewise, simply linking executive compensation to sustainability will not address the issue all by itself. It needs to be part of a concerted effort by company leadership and the board to fundamentally change the way the company operates. If, for example, a company rewards its senior teams with financial rewards for lowering carbon emissions, yet it is later found to be less successful in other sustainability related endeavors, the effort will have done more harm than good, both from a reputational and a financial risk point of view. To be clear, the tactic of linking executive pay to sustainability targets can work, but it is just one tool in the toolbox. For the strategy to really drive results, it needs to be guided by an overarching, purposeful, strategic and embedded vision for the future of the company.