Insurers beware: The Red Queen trap on ESG
What was considered exceptional ESG work in 2022 might now fall short of the minimum requirements for 2023.
The insurance industry, which manages north of $26 trillion in assets globally, has been thrust into the center of the environmental social and corporate governance (ESG) conversation due to the influence it can exert on the businesses it serves. As a result, companies across the insurance ecosystem have in recent years come forward with bold net-zero pledges, committing to rebalance their portfolios away from heavy carbon emitters and toward low-emission enterprises. But now, those ambitious and widely praised promises are drawing potential scrutiny from regulatory bodies, which are beginning to apply the same level of rigor to ESG statements as they do to financial statements.
Against this backdrop, the central question for insurers, brokers and so many others is how to meet expectations from regulators at a time when requirements are changing at a dizzying rate and often in incongruous ways from one jurisdiction to the next. The challenge, in other words, is to avoid the perennial Red Queen trap, an old piece of wisdom from literature that refers to a situation in which an individual runs faster and faster in an attempt to adapt but remains stuck in the same place; or worse, falls behind. It’s a situation that scores of companies are currently confronting.
The stakes for solving this problem could not be higher. To put it all into perspective, one recent study conducted by PwC indicated that 85% of companies believe ESG will have a direct impact on their business. These enterprises are ready, willing and able to take decisive action against their ESG-related pledges. But only 24% stated that they have existing capabilities needed to drive meaningful action, according to the same study. This gap between the ideal and the practical underscores the predicament facing so many insurers, who are increasingly grasping for answers.
Adding to the prevailing sense of urgency, the U.S. Securities and Exchange Commission (SEC) is set to release finalized requirements and/or updated proposals around ESG-reporting and disclosure this year, which will impact many industries including insurance. The 490-page SEC proposal was originally published with a target deadline of October 2022 for final rules. But the timeline has since been extended, leaving the public and private sectors in limbo. Other regulatory agencies around the world are working on similar guidance of their own, so it is likely that parallel standards will be published elsewhere.
Particular anticipation is mounting around the SEC verdict on Scope 3 emissions, which track greenhouse gas emissions “from upstream to downstream activities in a company’s value chain.” What does this mean exactly? When a global insurer provides insurance to a company, that insurer must also consider the insured’s carbon emissions when calculating its own ESG performance. Put differently, it may be possible to be guilty by association.
How to respond
As the regulatory waiting game continues, the costs of inaction are enormous. Fortunately, there are immediate steps insurance companies can take to run smarter, rather than merely faster, while awaiting more concrete ESG regulations:
- Don’t shun dialogue with competitors. The insurance community needs to prioritize information sharing. Such intra-industry dialogue will not be easy, as companies are often reluctant to divulge practices they may see as a competitive advantage. Yet without this dialogue, we are losing a great opportunity to learn from one another when identifying best practices and robust metrics for ESG reporting. The insurance industry is deeply interconnected, and in order to successfully transition from ESG pledges to action, we will undoubtedly need to collaborate more than ever before.
- Show your work with data. Insurance companies need to document their ESG data in a rigorous and defensible manner. No longer will relying on data that is built on simple estimates, rather than quantifiable figures, suffice. Neither will collecting incomplete data that doesn’t add up to all the pieces of the puzzle, as overlooking one important stream of data will distort the total tally. That means companies need to set up the proper infrastructure for reporting as well as sourcing, scrubbing, analyzing and verifying data to be statistically airtight. The reality is that there is immense information at our fingertips, so it is vital for companies to handle this complex data in a comprehensive and meaningful way. Companies must consider doing so by investing internally in skilled experts who specialize in data science or by contracting a third party to handle this function.
- Give ESG a seat at the C-Suite table. Once considered a “bolt-on” to long-term strategy for companies, ESG is and will continue to be a key pillar to a company’s performance and longevity. Therefore, if not already the case, ESG leaders need to be a part of the C-Suite. Put differently, ESG needs to be a core part of insurance companies’ business strategies and a prioritized topic at C-suite and board room meetings. Investing in the infrastructure, tools and talent needed to support a company’s ESG goals should be a major focus if insurers would like to maintain stakeholder and investor satisfaction.
Ultimately, in order to truly make strides toward improving ESG, the global insurance industry needs to establish an environment where there exists a universal language and form of measurement for ESG. Standards should be clear and consistent, and the outputs of reporting should mimic comparisons in an apples-to-apples manner; unlike the apples-to-oranges system the industry currently experiences due to discrepancies across voluntary self-reporting. An internationally standardized way of reporting will not happen overnight and is going to require immense collaboration between the private, public, and governing bodies of our industry. In the meantime, however, companies cannot afford to take a wait-and-see approach.
“The Red Queen” of ESG means that what was considered exceptional ESG work in 2022 might now fall short of the minimum requirements for 2023. But a focus on industry wide discourse, partnership and agreed standardization will work to remedy such.
Robert Paxton (robert.paxton@charlestaylor.com) is head of Global Strategy and Business Development at Charles Taylor. Based in Calgary, he is part of the senior leadership team in Canada and is responsible for driving business results as well as the development and delivery of long-term business strategy.
These opinions are the author’s own.
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