One of the most difficult challenges companies face is how to properly evaluate sustainability initiatives. Since some important benefits sustainability offers are intangible or difficult to quantify, they become a tough sale to a board or investors that in general like to talk in terms of shareholder value maximization. This problem seemed to be almost impossible to solve and probably got many good sustainability initiatives to be rejected, but now PwC comes to help, offering a new framework might sort it out.
In a new paper PwC shows how the shareholder value framework, which helps companies and investors measure the value business activities create, can be expanded in two ways to “properly accommodate the difficult-to-quantify benefits of sustainability initiatives.” The first way is the direct method, which shows how to measure the P&L impact of sustainability initiatives. The second way is the indirect method, used in case of intangible benefits that cannot be directly connected to the P&L, measuring their impact against specific performance measures for each objective. Then, trade-off models can be used to obtain a total impact in dollar terms.
To learn more about the new framework I spoke with Don Reed, Director in the Sustainable Business Solutions practice at PwC.
TriplePundit: Hello Don. Could you please provide us with some background to this paper?
Don Reed: Companies have had a real challenge valuing their sustainability initiatives from the very beginning of corporate sustainability. By and large, most companies now have an understanding of what that rationale is for them and can decide whether it is worthwhile for them or not. Now it’s a question of which actions to take rather than whether to take them or not. But once you get to that point where you have other questions about the value of sustainable initiatives, like how do you evaluate the return on any particular initiative, how do decide which initiatives to pursue, and how do you explain to investors how your sustainability strategy creates value and how much. Those are distinct challenges related to valuation and sustainability and some of them are answerable without the tools of modern finance, but many of them aren’t.
3p: Is the lack of structured valuation framework the main obstacle when it comes to implementing sustainability strategies?
DR: I think it’s one of the top barriers for many companies because if you don’t have a good way of thinking about of all the sources of value, you don’t know how much you should spend and what is creating value. When you intend to create business value through your sustainability strategy and you can evaluate it as you go through the initiative over time, it really enables you to do more because it allows you to concentrate on what really creates value. This creates a virtuous circle of increasing sustainability. This virtuous circle is missing in many sustainability programs, as it’s very hard to create it without having the numbers about how much value they’re creating.
3p: Does your model address only specific sustainability initiatives or also provides a platform to evaluate an overall approach to sustainability?
DR: This paper is the first in a series of papers. We start out by understanding what specific initiatives are doing in terms of creating value and at what scale, and then looking into what collection of activities or portfolio is creating the most value. The paper answers that question using portfolio optimization techniques.
3p: You offer a ‘shareholder value model’ – do you think the focus in the future will stay on shareholders rather than stakeholders?
DR: The present reality is that companies are creating value for shareholders, and if you ignore it you will be punished for that – shareholders will sue you or sell your stock. That’s the way our system works. We’re in a phase where we understand that maybe the pathway to creating more shareholder value is to do better by all those other stakeholders. And if that’s your strategy then wouldn’t it help to know what the value to those other stakeholders is and have a measure of it?
At the same time, it would be good to understand what the value to shareholders is. I think that’s where we are right now – we want to know where the tradeoffs are among stakeholders. That’s just good information to be able to make the choices.
3p: Do you think the new framework will help change Wall-Street’s approach to sustainability?
DR: We know from lots of indicators that investors are interested in these topics and are paying attention, but often times they don’t know what to do with this information, where the tradeoffs are, or how it affects the value. If a company can explain that then it will naturally attract those investors that believe that this is a potential source of value. Then it becomes less about getting investors to care about sustainability and more about making it just like other issues, and some companies are going to create value this way and others aren’t. And as an investor, I would want to be smart about it and pick the companies that know how to create value this way.
Now it’s only left to be seen if companies will adopt the new framework and succeed in translating the triple bottom line into single bottom line terms, speaking to investors in a language that they’ll finally understand.
Raz Godelnik is the co-founder of Eco-Libris, a green company working to green up the book industry in the digital age. He is an adjunct faculty at the University of Delaware’s Business School, CUNY and the New School, teaching courses in green business and new product development.