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Will Pate co-founded EthicalCompany with his wife Juliane in the spring of 2022.Chris Donovan

To maintain a so-called “social licence” to operate, most organizations now need to demonstrate a strong commitment to achieving environmental, social and governance (ESG) targets. The catchall term includes a range of societal challenges, from climate change to pay equity to diversity and inclusion to cybersecurity.

While many organizations in Canada have demonstrated a genuine interest in making a positive difference, they also struggle to overcome some significant practical challenges in doing so, according to a recent report by McKinsey & Co.

According to Toronto-based McKinsey partner Robert Samek, the ESG sector is still relatively immature.

When it comes to making commitments, Mr. Samek says most organizations don’t know how much is enough, too much or too little to aspire to. They also struggle to measure the effect these often-costly initiatives have in contributing to that social licence or their bottom line.

“You want to be efficient in your capital allocation, so the question becomes: How far do you have to go in order to create a positive investor sentiment?” he says. “In all our research, it is really difficult to find any correlation between those companies that are the absolute best, the gold-star ESG performers, and shareholder returns.”

Mr. Samek says these efforts are further complicated by how commitments are made. Rather than considering the steps organizations can take to realistically reach benchmarks, he says many sets lofty goals – like committing to achieving carbon neutrality, or net-zero emissions, by a certain date – before determining how those goals will be achieved.

“You’d love to imagine that commitments around net-zero or a particular reduction of C02 are made based on some bottom-up calculations,” he says. “That’s not how it happens: The vast majority of organizations start with top-down commitments.”

The challenge of assumptions

What ultimately makes these highly aspirational goals unlikely or impossible to achieve is that they’re built on assumptions, Mr. Samek says.

First, most commitments assume technological advancements will reduce the cost and increase the availability of solutions that will enable them to achieve their ESG targets. Second, many operate under the assumption of regulatory expediency but are at risk of getting bogged down by red tape.

“A great example of that in carbon commitments is electrification, substituting equipment at a mining company or an oil and gas company that runs on gasoline for electric equipment,” he says. “That requires more power; to get more power to a remote location requires a new transmission line; a new transmission line in Canada can take seven years, 10 years, maybe more for approvals.”

The third major assumption is around the ability to execute in a timely manner. As more companies seek to achieve ESG targets, Mr. Samek says the required labour and equipment will become scarcer, potentially driving up costs.

“The supply chains are getting overloaded; we don’t have the labour to do the projects, we don’t have a sufficient supply of materials, etcetera,” he says. “You put those three things together, and you understand why it’s so hard to pin down when exactly you’ll be able to do something.”

The ESG movement is fundamentally a push for transparency, challenging businesses to measure and report their impact in various areas, Mr. Samek says. He adds that being equally transparent about the challenges can help organizations establish that trust more effectively.

Michael Torrance, the chief sustainability officer for the Bank of Montreal, points to his company’s 2021 climate report, where he says much is written about the challenges and limitations of ESG pursuits.

“One of my goals is to be really open about that,” Mr. Torrance says. “It’s a progress, not perfection mentality – you can’t let perfect be the enemy of the good.”

One of the most prominent challenges identified in the report is the quantity, quality and availability of relevant data, especially when dealing with third parties such as suppliers, partners and portfolio companies.

Technology to enable ESG reporting

Despite these challenges, however, Mr. Samek of McKinsey has seen significant progress in a relatively short period, and is hopeful that new technologies will help fill in more data gaps moving forward.

“Technology is huge and is how almost every challenge and gap right now gets addressed,” he says. “I think in the future there are going to be many available solutions and tools that will make the process easier.”

One such solution is being developed by Canadian start-up EthicalCompany, which strives to equip potential consumers, retail investors and employees with insight into several ESG metrics.

“We realized you can compare companies on every financial metric possible through stock trading apps, you can compare flight prices, credit card perks; why can’t you compare companies against each other on issues that are important to you?” said Will Pate, who co-founded the company with his wife, Juliane, last spring.

“If you want to find out what a company is doing, it’s either not available, or it’s scattered across blog posts, social media, CEO interviews... or it’s in a 50-page PDF report that nobody wants to read.”

Smaller companies face more challenged to meet ESG targets

Mr. Pate, who previously worked for Google, says switching from a major employer to running a start-up has demonstrated some of the significant challenges smaller businesses face in setting and meeting ESG commitments.

“We thought at first that we were going to be a tool for big business, and what we found is that it’s really small businesses and start-ups that are having the biggest challenges,” he says. “One is just knowing what’s appropriate for your size.”

Mr. Pate explains that larger organizations can access ESG metrics, industry benchmarks, consulting support and even hire full-time staff to manage those initiatives.

“If you’re a two-person bootstrapped start-up or 10 or fewer people, there’s not a lot of benchmarking, so it’s hard to know where you should be,” he says. “It’s also hard to know what metrics are most important.”

Start-ups and smaller companies often get bogged down by the sheer number of ESG metrics and potential areas that larger competitors can commit to, Mr. Pate says, and often don’t know where to begin.

The other major challenge for smaller organizations is they often rely on suppliers and third-party providers to run certain aspects of their operations. That means that it can often be impossible to know, for example, the resources required to run virtual meetings, their social-media management software or their e-mail provider.

“If you’re a large company, a lot of your workload runs in your own cloud environment, and you get visibility into those things,” he says. “We can calculate our energy use at home, but a lot of these third parties that we rely on, none of them have per-customer data on energy usage, water usage or waste usage.”

Mr. Pate advises smaller organizations and start-ups to avoid getting overwhelmed by what they don’t know and can’t do by focusing on one or two areas where they can make a measurable impact. He suggests starting with one goal or initiative directly related to the business, its products or services, a cause the founder is passionate about, or one chosen collectively by employees.

“If you can’t do everything, that’s fine; what’s one thing you can do to show all of your stakeholders that you want to build a high-trust relationship with them?” Mr. Pate says. “There is an ocean of metrics, best practices, and certifications, so just start where you are and know that that’s fine; the world doesn’t expect every business to be perfect.”

Rapid development of technology

Achieving long-term carbon reduction goals, like net-zero, will require the rapid development of technology and capacity.

Until recently, a common method of achieving emissions-reduction goals was by buying carbon offsets, but the practice has been criticized recently as highly unregulated and often ineffective. Instead, some of the world’s largest tech companies – including Canadian e-commerce giant Shopify – have committed to advancing a different kind of carbon-reduction technology.

“Protecting a piece of land from deforestation is not making the problem any worse, but it’s not doing anything to actively make it better,” says Shopify’s head of sustainability, Stacy Kauk. “We started down this path of supporting and buying carbon removal because we actually want to – alongside deep emissions reduction – draw down historical emissions.”

While the technology is relatively new, early-stage companies like Carbon Engineering have proven that it’s possible to remove carbon dioxide from the atmosphere; all they need is funding to make it a reality.

“Project financing is limited because these facilities often don’t have enough commitment from buyers to buy the carbon removal services that they’re selling to de-risk the investment for investors,” Ms. Kauk says. “What we’re able to do as a buyer is to be that strong signal to say you should build it because we’re here, and we’re going to buy it.”

In April, Shopify joined fellow tech giants Stripe, Alphabet, Meta and McKinsey Sustainability to launch a $925-million, nine-year advance financing commitment that will accelerate the development of carbon removal.

“One of the prohibitive issues right now for buyers who want to buy carbon removal is the price point, which is very high because we have a small amount that’s being done,” Ms. Kauk says. “If we start doing this at scale, the price will come down, which will then make this an accessible solution for more companies.”

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