The recent Global Risks 2015 report1 by the World Economic Forum found that seven out of the ten risks of highest concern, were sustainability-related (please refer to Figure 1 below). The main risk identified was water crises which had overtaken other risks such as nuclear weapons and interstate conflict. Water crises is described as a significant decline in the available quality and quantity of fresh water, resulting in harmful effects on human health and/or economic activity.
Other prevalent sustainability-related risks identified in the report are:
Figure 1: The Global Risks Landscape 2015
The prevalence of sustainability-related issues raises new risks and opportunities for businesses to understand. The risks are interconnected thus requiring a concerted effort from an organisation and its stakeholders to tackle such risks successfully. This is because sustainability-related issues can significantly affect an organisation’s risk profile, potential liabilities and ultimately its value. Smart businesses are now embedding sustainability into their strategies, and adopting standards and frameworks in order to address risks and capitalise on opportunities.
Another reason for integration is that good sustainability performance is linked to long-term returns and a lower risk profile by pivoting the focus from tangible assets to the intangibles to ensure an organisation’s full value is considered. The focus on extra-financial factors has been rapid. International Integrated Reporting Council (IIRC) asserted that, in 1975, more than 80 percent of a company’s value was linked to its physical and financial assets.2 By 2010, this figure had fallen to less than 20 percent, with “intangible” assets and ESG factors playing an increasingly central role in driving market value. Figure 2 shows that the implied intangible asset value of the S&P 500 components grew to an average 84% by early 2015, a growth of four percentage points over ten years.
These intangibles include the organisation’s intellectual capital, its brand and reputation, how it manages its risks and its commitment to social and environmental responsibility. Good management of these aspects has been observed to drive up the value of organisations in an era where there is a shift in global values towards our intangible needs i.e. a heightened awareness of the environment and desire to be more socially responsible. The benefits of focusing on these assets are discussed further in ‘Benefits of Embedding Sustainability'.
Meanwhile, investors are also beginning to see the need for identifying sustainability risks in order to both protect and enhance value across their investments. Morgan Stanley recently studied the performance of sustainable investment relative to traditional investment in the United States and found that investing in organisations practising sustainability has usually met, and often exceeded, the performance of comparable traditional investments. This is on both an absolute and a risk-adjusted basis, across asset classes and over time. Conversely, investors that support an organisation that focuses on short-term profitability by taking "shortcuts" could have lower returns in the long-term.
Figure 2: Components of S&P 500 Market Value
1 World Economic Forum, "Global Risk Report 2015"