Measuring the Return on Sustainability Investments

The business reasons for establishing and implementing a well thought-out and designed sustainability portfolio are clear—retaining employees and customers, cutting costs, generating new revenues, and enhancing the organization’s reputation. But measuring the return on these investments is a challenge. This article highlights several reasons why it is becoming more important to measure the monetary value of an organization’s sustainability portfolio and outlines an approach for calculating a financial metric to address this measurement challenge.

The New Imperative

Organizations increasingly find themselves accountable to a wide range of stakeholders on issues related to their role in society and their impact on the environment. Moreover, stakeholders are demanding specific information to gain insights into organizations’ attitudes towards the environment and social well-being. In many ways, stakeholders want a window into the corporate mind in order to understand how sustainability responsibilities figure into business decisions.

Organizations struggle, however, to measure and report the impacts of their sustainability portfolios in a simple, transparent, and straightforward manner. Historically, qualitative sustainability metrics such as “we provided volunteer staff to help city government clean up the parks” left stakeholders speculating about the true worth and significance of these actions relative to business performance.

During the past few years, interest in measuring the return on sustainability investments has increased significantly. Although a variety of reasons can be cited, the directional compass points to four critical drivers:

1. Executives overwhelming acknowledge that 1) shareholder value related to issues such as access to markets, strategic positioning, and resource consumption is affected by an organization’s sustainability portfolio and 2) sustainability activities affect operational efficiency and corporate reputation (McKinsey 2009 and 2010 Global Survey Results). These survey results underscore management’s growing desire to leverage an organization’s environmental and social activities to help support increased business growth and optimize market position on a local or global basis.

2. Competitive global forces such climate change and evolving product and environmental standards of performance are convincing organizations to think differently about sustainability and its role in business. In other words, demands for increased product stewardship and responsible climate change management are motivating organizations to consider integrating their sustainability portfolios with their business activities to design products that are safer, more easily recycled, or require less energy to produce. This approach to sustainability is considered to be more cost-effective than undertaking a variety of activities that are not closely connected or that do not support socially responsible business practices.

3. Recent developments related to external reporting and transparency have catapulted sustainability into a new business mandate. For example:

   • The Security and Exchange Commission’s (SEC’s) 2010 decision requiring corporations to report on the “material” business impacts associated with climate change increases the level of accuracy required in quantifying the risks and opportunities associated with greenhouse gas (GHG) emissions. In addition, the SEC has been deliberating for more than a year on whether corporations should be required to disclose information on their sustainability portfolio, raising the importance of having a financial metric in order to meet reporting obligations.

   • Sustainability and GHG reporting requirements in the U.K., United States, Sweden, Norway, South Africa, and several other countries have shifted the emphasis from voluntary to mandatory disclosure of business-related environmental and social activities.

4. During the past year, a growing number of academics have published articles contending that the time has come for business to critically examine and factor in the costs of environmental externalities in decision making. These articles have caught the attention of many corporate leaders.

The Value of Financial Sustainability Metrics

Establishing the right set of qualitative metrics is essential for organizations to show stakeholders how sustainability activities support overall brand positioning related to environmental stewardship and social well-being. (For example, “By 2020, half of our workforce will be telecommuting to reduce GHG emissions.”) The right set of qualitative metrics also helps organizations better understand how to focus internal resources on activities that have positive impacts on sustainability and business operations.

These qualitative metrics are reinforced when a financial metric is available to evaluate sustainability portfolios. Having a hard number that instantly captures the actual business value or financial benefit of an organization’s sustainability portfolio establishes an indisputable benchmark that either verifies the appropriateness of the current suite of activities or points to the need for change to enhance return on investment. In addition, generating an index expressed in dollars enables an organization to communicate its sustainability performance in a currency that is easily understood by a wide range of stakeholders. When normalized for size, the financial index also aids one-to-one comparisons of activities among facilities, divisions, or operating groups.

The literature on rating sustainability programs suggests that a financial index should indicate the degree to which a sustainability portfolio is aligned or misaligned with an organization’s corporate strategy, business operations, and core stakeholder values (i.e., the directional compass referenced above). Such an index could be generated using a variety of internationally respected economic metrics, company data, and widely accepted academic research to arrive at the financial value of an organization’s sustainability efforts. For example, the index could be based on a number of inputs (see Table 1) to calculate the value of 1) the positive and negative externalities associated with the use of natural resources and 2) the interactions between social and human sustainability investments and an organization’s stakeholders, lines of business, and organizational function. Such an approach can be used by senior managers who want an overarching look at the financial value of their organization’s sustainability initiatives, or by those at the operational level who want a clearer picture of the financial impacts of individual sustainability projects, such as recycling or employee volunteerism initiatives.

Table 1: Data Inputs to Calculate Financial Return on Sustainability Investments

Using Financial Measurements to Inform Sustainability Strategy

An organization can use the financial index to gauge the performance of its sustainability portfolio in terms of the return it provides to the organization and society, as follows:

• High return: The sustainability portfolio is aligned with the business activities and is providing benefits to the organization and society.

• Moderate return: Some fine tuning is needed to better align the sustainability portfolio with the business to yield greater benefits to the organization and society.

• Variable return: The sustainability portfolio requires greater alignment with the organization’s risk profile and internal policies to deliver benefits to the organization and society.

• Low return: The sustainability portfolio is not well defined or implemented and therefore is not delivering business or societal benefits.

The interpretation of the financial index should lead to a more in-depth analysis of the composition of the sustainability portfolio based on answers to questions such as: What types of sustainability activities will support business expansion? How can investments in social and human capital be improved to yield greater synergies with business interests and societal benefits? Do opportunities exist to better manage environmental impacts and reduce risks and costs, resulting in societal and business benefits?

The outputs associated with this analysis provide directional guidance to identify and compare the sustainability activities that are best aligned with an organization’s stakeholders, operations, corporate strategy, and core values. These outputs also help identify a set of options the organization can consider to increase the value of its sustainability portfolio. For example:

• Decreasing fossil fuel consumption reduces carbon costs (business benefit) and impacts to the environment (societal benefit).

• Purchasing protected land creates carbon credits for the firm (business benefit) and contributes to climate change mitigation (societal benefit).

• Expanding employee wellness programs decreases the costs associated with absenteeism and increases productivity due to higher
  employee satisfaction (business and
  societal benefit).

• Increasing investments to develop local supply chains and employment in the community reduces business costs and meets the economic development needs of the community in which the business resides (business and societal benefit).

The financial index can be easily tracked over time (see Figure 1) and used to demonstrate increased alignment of the organization’s sustainability portfolio with its business, provide verifiable evidence of efforts to reduce impacts and enhance benefits to society, and establish the business case for existing or planned sustainability investments.

Taking the Leap

Sustainability is a concept that, through practice and experimentation, the private and public sectors have come to understand more clearly than when it was introduced into the lexicon more than 20 years ago. Every day organizations are further integrating sustainability activities into day-to-day operations. Complementing the qualitative metrics with a financial index will contribute to a greater understanding of how organizations are leveraging their sustainability portfolios for business and societal benefit.