Hitting mute on ESG KPIs

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💡This week: One of the more interesting findings from KPMG’s Survey of Sustainability Reporting 2024 report is the sharp drop in sustainability-based compensation among Singapore’s top companies.

The previous survey in 2022 found that 67 of Singapore’s 100 top companies included sustainability within leadership compensation, which was significantly above the 24 per cent global average at the time. In the 2024 survey, Singapore’s sustainability compensation adoption rate had a serious case of reversion to the mean, falling to just 38 per cent while the global average increased to 30 per cent.

KPMG determines the top 100 companies based on recognised national sources or, in the absence of such sources, by market capitalisation or a similar measure. The companies can be listed, state-sector, private or family-owned.

KPMG in Singapore’s ESG consulting partner Cherine Fok suggested that companies may not be disclosing their sustainability-related compensation policies as a response to changes in disclosure rules.

“The slight dip in companies tying sustainability to pay may reflect boards exercising caution around disclosure, particularly as climate-linked remuneration becomes a disclosure requirement under the ISSB framework, prompting strategic recalibrations,” she said.

It’s possible that companies are strategically keeping mum before the new international accounting standards kick in. Having invested resources to develop key performance indicators for sustainability, companies are unlikely to ditch those indicators without good reason. It’s more likely the case that companies may be doing it, but just aren’t talking about it.

In any case, the new reporting standards present an opportunity for companies to reassess how they incentivise sustainability performance among leadership. The way that sustainability is measured and rewarded is still a relatively nascent field, and policies created just a few years ago might need to be updated or fixed.

One of the major issues to be addressed is the inherent tension between what shareholders want and what the companies’ other stakeholders want.

Current research, including a literature review and an international study, suggests that sustainability-related compensation is positively correlated with a company’s sustainability performance. However, tying leadership compensation to sustainability outcomes does not appear to improve financial performance.

Such a situation could lead to perverse outcomes. As some legal scholars have pointed out, company leadership could seek to hit their sustainability targets in form but not in substance. For example, a chief executive could meet emissions targets by selling carbon-intensive assets to private buyers that sell back the same products and services to the company.

One argument against sustainability-related compensation is that sustainability goals are inherently not in shareholders’ interests. However, this argument may not hold water when the sustainability outcomes concern planetary goals such as climate or biodiversity. Shareholders looking for dividends this year may not think global warming matters to their businesses, but stranded assets, supply chain disruptions and extreme weather damages aren’t good for business.

The fact is that shareholders with longer-term horizons exist and are not a negligible constituent. A study by shareholder proxy advisory firm International Shareholder Services (ISS) found that the number of environmental and social proposals by shareholders at US-listed companies increased over the decade between 2014 and 2024.

Although support for these proposals plunged in 2022 and 2023, ISS argued that the declining support doesn’t reflect a lack of support for sustainability issues since companies have shown progress in these areas with improved environment management programmes, advanced climate disclosures and improved social disclosures and programmes. Instead, ISS saw the drop in support as a sign that shareholder proponents have faced a tougher time amid that progress to demonstrate significant gaps in companies’ programmes and therefore generate broad support.

To keep shareholder activists at bay, companies will need to continue showing progress.

Strengthening long-term incentives will help. So too will strengthening company boards with directors who have appropriate expertise in material sustainability issues.

Companies also need to increase transparency about key performance indicators, as well as expose performance against those indicators to scrutiny and assurance.

It’s better to save sustainability-related compensation than to ditch it.

🌱Top ESG reads:

1. Sustainable private equity investor LepFrog Investments has closed its fourth fund having raised US$1.02 billion with Singapore sovereign fund Temasek among its cornerstone investors.
2. South-east Asia can learn from China’s successful energy transition by harnessing ecosystem coordination through policy and planning, says UOB head of sustainable business Melissa Moi.
3. Indonesia’s newly accelerated plans for renewable energy rollout will still meet only 35 per cent of projected electricity demand by 2040, says the Centre for Research on Energy and Clean Air.
4. Indonesia will have to retire three gigawatts of coal power and add eight gigawatts of clean energy annually to achieve its goal to phase out coal by 2040, says climate consultancy Ember.
5. The United Nations summit on plastic waste failed to reach meaningful agreement on a global treaty, and postponed key decisions to a later date.

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