As the ESG landscape evolves, board members must adapt to new responsibilities, understand the legal implications of non-compliance, and develop strategies to manage ESG risks effectively.
In the contemporary business landscape, Environmental, Social, and Governance (ESG) considerations have become pivotal in shaping the strategic direction of companies. This is particularly true in the Central and Eastern European (CEE) region, where ESG awareness is rapidly growing—especially in those countries which are members, or would-be members, of the European Union.
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Company boards play a crucial role in this context, as they are tasked with the oversight of ESG risks and the integration of sustainable practices into the core business strategy. Boards need to consider the legal implications of ESG non-compliance, personal liabilities, and maintaining a balancing act between immediate financial objectives and long-term ESG commitments.
Their role extends beyond traditional fiduciary duties to include the oversight of ESG risks that could impact the company’s long-term value and reputation. Specifically, board members should ensure that ESG risks are identified, assessed, and managed effectively, that the company’s ESG strategy aligns with its overall business goals, that there is clear communication about ESG matters with stakeholders, and that the company adheres to relevant ESG-related laws, regulations, and standards.
A lack of preparedness in CEE
Failure to comply with ESG regulations and standards can lead to significant legal repercussions for both the company and its board members, from financial penalties and sanctions to litigation risks, including shareholder lawsuits, and reputational damage leading to a loss of investor confidence.
Regulatory actions that could restrict business operations are also an issue that needs consideration.
“Firstly, it is important to consider that although there is variation across industries and sectors with respect to ESG regulations and standards, all board members are bound by their duty of care to the company and board responsibilities for ESG risks (and opportunities) are embedded in this overarching fiduciary duty,” says Cristina Reichmann, a partner at CMS Romania and Head of the Capital Markets, FIS and Structured Finance practice in Romania.
“ESG law and regulation is on the increase and existing and upcoming EU legislation is expanding the responsibility of businesses for their own ESG risks with the consequence of directors being increasingly scrutinised in an ESG context, with potential individual and/or collective liability for board members.”
Andrei Dochia is advisory country leader at Marsh Advisory in Romania. He says that it is unfortunate that the adoption of enterprise-wide risk management (ERM) frameworks across non-financial entities has been so slow in the past decade.
“We see a lack of preparedness within companies across CEE, with limited resources historically allocated to risk management, only a handful of them having dedicated risk teams or risk roles defined at senior management level. Fulfilling rising expectations for better board risk oversight triggered by the need to address emerging risks, including ESG, is thus problematic. You can have the most experienced and successful pilot on your team, but you will not get very far without the right engine, tires, and fuel.”
If we dig deeper into ESG we discover that it is a concept that integrates a wide range of risk factors such as climate change (E), employee health & safety (S), business ethics (G) and many others.
Dochia suggests that it is therefore difficult to manage on an integrated basis.
“A smart way to approach the management and oversight of ESG risks is to map underlying risk factors to existing risk policies and practices and let them naturally flow through the organisation by the means of existing channels,” he says. “Challenges remain of course in some novel areas such as climate change, due to factors such as availability and quality of climate data, extended time horizons required, complexity of underlying climate models.”
Boards, he adds, need to make sure that ESG risks are embedded, as relevant, into four oversight areas: alignment of risk appetite and strategy, evolution of the firm’s risk profile, effectiveness and maturity of risk management framework, and risk resilience.
Positive change and business success
According to Vira Platonova, Senior Vice President and Group Country Manager for 17 countries across the emerging Europe region, making a positive change and achieving business success can go hand in hand.
“In an ever more value-oriented world, adherence to ESG principles plays a key role in a company’s reputation, signaling to stakeholders that it has a strategic vision of a better world, not only that of a short-term economic gain, and attracting new customers who want to support a conscious brand,” she says.
As an example, she points to Visa’s work in the wake of Russia’s invasion of Ukraine.
“The company has put enormous efforts into ensuring the safety of employees, and we have also shifted the focus of our marketing campaigns in the country to social and charity initiatives,” she says.
“In Ukraine, priority areas of our work, like supporting women’s leadership or SMEs, take on new angles. Empowering Ukrainian SMEs with digital payment solutions today means keeping the Ukrainian economy afloat, as small businesses are the backbone of every economy, also being the ones who struggle the most through turbulent times.
“Under She’s Next, a global advocacy programme that aims to support women owned small businesses through funding, training and mentorship, in 2022 Visa supported an education programme in Ukraine through the Projector Creative and Tech Foundation for women forced to find a new career path after the Russian invasion. Along with financing grants, Visa offered grantees a chance to apply for a paid internship at our company and selected two interns. One of them continues to work in the products team.”
Personal liability
The extent to which ESG liabilities can impact board members personally varies across different corporate management structures. In some jurisdictions within the CEE region, board members may face personal fines or disqualification from holding board positions in the case of non-compliance. The personal liability issue underscores the importance of diligent ESG oversight and the need for board members to be well-informed about their responsibilities.
“Board members are responsible for identifying and addressing ESG risks and they could be personally liable for company’s potential misconduct related to ESG factors,” says Reichmann. “We expect an increasing scrutiny from regulators, creditors, investors, customers but also activists on the nexus between such misconduct, improper management of such risks and civil and criminal liability of directors.”
She points out that the EU’s Sustainability Package and international accounting rules on disclosures affect all companies, although they are more stringent for listed companies, banks and financial institutions, companies in the energy sector.
“Companies increasingly face fraud and misrepresentation claims related to ESG,” Reichmann tells Emerging Europe. “Examples may vary from greenwashing—misleading statements made regarding sustainable performance—to fraudulent ESG related statement in annual reports or concealment of ESG-related criminal activities in sustainability reporting. Such actions may lead to liability for damages due to misleading reporting or wrongful acts but may qualify as fraud from a criminal-liability perspective.”
Embedding risk comes with… risk
Risk appetite continues to be a relatively controversial concept, with diverse approaches being employed across sectors and markets, suggests Dochia. “We see sophisticated approaches employed by financial services players that can measure and integrate most risk categories into single value risk appetite metrics based on economic capital frameworks.
“At the other extreme, we see purely qualitative approaches to formulating Board level risk appetite, focused on generic risk management principles and basic risk by risk metrics. Risk appetite is meant to support corporate steering by providing a practical and structured framework for companies and their Boards to make risk informed strategic decisions.”
In the CEE region, there are several examples of how boards across various industries allocate ESG risk and set their risk appetite. For instance, a major energy company may establish a dedicated ESG committee to oversee the transition to renewable energy sources.
A financial institution meanwhile might integrate ESG risk assessments into its lending practices to promote sustainable projects.
However, embedding ESG risks into existing risk appetite frameworks is inherently complicated by the nature of underlying risk factors, says Dochia.
“The impact of certain risk factors is easier to measure or quantify while for others only qualitative approaches are employed. As more data becomes available in the following three to five years across companies and industries, this should allow for improvements in the way they risk appetite is formulated, at strategic, tactical and operational levels,” he tells Emerging Europe.
An ESG vision
Boards often face the challenge of reconciling short-term financial performance with long-term ESG goals. To navigate this, they can develop a clear ESG vision that complements the company’s financial objectives, communicate the long-term value of ESG initiatives to shareholders, and implement ESG-related incentives for management.
Balancing these priorities requires a strategic approach that does not sacrifice long-term sustainability for short-term gains.
According to Reichmann, there is little excuse for getting it wrong.
“This can lead to liability for both the company and the board members,” she says. “Regulators can impose fines, a company might find its licenses or permits being suspended, with all the resulting difficulties.
“ESG risks also include possible third-party damages claims and class actions regarding things such as greenwashing. Thus, any issues around short-term financial performance and long-term ESG goals have to be balanced against the company’s risk appetite.”
For board members, a comprehensive approach to managing and mitigating these risks shares similarities with other risk assessments, she suggests.
“An effective company culture that promotes transparency, accountability, and a strong sense of ethical values and maintain strong governance practices (including by putting in place dedicated committees) is the foundation to navigate these risks.
“Addressing ESG integrity risks necessitates collaborative efforts and many companies, especially those in the finance field, are required to have a fit and proper board of directors with the right mix of skills and expertise to be able to identify and address these risks and maintain their integrity and credibility.”
In conclusion, the role of company boards in the CEE region concerning ESG oversight is becoming increasingly significant. As the ESG landscape evolves, board members must adapt to new responsibilities, understand the legal implications of non-compliance, and develop strategies to manage ESG risks effectively. By doing so, they can ensure that their companies remain competitive and sustainable in a world where ESG considerations are no longer optional but essential.
“Boards could have a decisive role in changing the mindset of executives to longer term horizons, outside the regular planning horizon,” says Dochia.
“They can do so by specifically asking management to prepare multi-period alternative strategies to support the transition of the company’s business model to a green economy and sustainable business practices (such as net zero transition plans) for up to five, 10, 15 years forward. The degree of achievement in the pursuit of such plans and their specific commitments could be embedded in the executive incentive structures and reward plans to ensure interest alignment.”
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