Integrating Sustainability for Long-Term Business Resilience and Value Creation

Karl Schmedders, Professor of Finance at IMD

By Karl Schmedders, Professor of Finance at IMD

Companies that proactively address climate risks are better equipped to adapt to a rapidly evolving business environment, making them more attractive to investors seeking sustainable long-term returns.

Addressing environmental concerns is now essential for the long-term success of a business. Climate change and the damage to essential global ecosystems are no longer just environmental concerns; they present significant financial risks that disrupt business operations and devalue assets.

The recent hurricanes in the Southeastern United States, Helene and Milton, have only highlighted the physical and financial damage of extreme weather events, once again emphasising the need for businesses to embed sustainability into their core strategies. But managing climate-related risks is not just about preventing losses—it is also about seizing opportunities for growth and innovation.

Sustainability Integration: Meeting Investor and Shareholder Demands

Investors and shareholders are increasingly favouring the integration of corporate responsibility into the fabric of a company. Needed for sustainable growth, they’re pushing businesses to adopt E(SG) practices that address climate risks, ensuring resilience in the face of economic and environmental challenges. They have been best guided by frameworks like that proposed by the Task Force on Climate-related Financial Disclosures (TCFD), which provides a structured approach for managing climate-related risks and opportunities.

The TCFD outlines four key elements essential for integrating sustainability: Governance, Strategy, Risk Management, Metrics and Targets. These pillars help businesses develop robust systems for identifying and managing climate risks, improving transparency, and ensuring they meet investor expectations for long-term resilience and value creation.

Governance: Setting the Tone at the Top

This must begin with governance. As the foundation of effective ESG integration, boards and senior management must take ownership of climate-related risks and opportunities and embed them into the company’s overall risk management and decision-making processes. Investors want to see strong governance practices that demonstrate accountability and proactive management of ESG factors.

Companies that have clear governance structures in place are best able to anticipate regulatory changes and manage operational risks. Good practice here might include assigning board-level responsibility for climate risk. For example, Bayer’s CEO holds direct responsibility for climate protection in their role as Chief Sustainability Officer. With senior leadership actively engaged, companies are much more likely to develop forward-looking strategies that not only mitigate potential disruptions but also seize emerging opportunities in the transition to a low-carbon economy.

Strategy: Aligning Business Plans with Sustainability

To address financial risks, companies must then integrate ESG into their long-term strategies. The TCFD recommends that businesses map climate-related risks and opportunities under different climate change and climate policy scenarios, including those aligned with the goals of the Paris Agreement. Indeed, depending on the scenario – whether that be heightened supply chain regulation measures or an increase in catastrophic weather events – companies can be affected in diverse and nuanced ways.

Scenario analysis helps companies plan for not only the physical impacts of climate change but for the market shifts associated with the transition to a low-carbon economy too. Customers can increase the demand for green products and avoid ‘bad’ products, which in turn dictates the market prices of goods.

But it is not only doom and gloom. Companies can actually capitalise on new market opportunities. For instance, companies that invest in clean technologies, renewable energy, or circular economy models are well-positioned to benefit from changing consumer preferences and regulatory support for sustainable solutions. In the steel and aluminium industries, for example, we can already see some companies moving away from fossil fuel-based energy to renewable.

In contrast, companies that fail to incorporate these strategies may find themselves exposed to transition risks, such as rising carbon prices and declining demand for carbon-intensive products. These companies may lose their competitive advantage as a result of inaction.

Risk Management: Proactively Addressing Climate Risks

The TCFD framework highlights the importance of incorporating both physical and transition risks. This requires a comprehensive understanding of how climate risks can disrupt operations, impact financial performance, and affect long-term viability.

Physical risks, such as the hurricanes in the Southeastern United States, result in significant disruptions to supply chains, damage to infrastructure, and subsequently, financial loss. Improving infrastructure resilience, diversifying supply chains, and conducting climate risk assessments is the only way to withstand these shocks.

Transition risks, on the other hand, arise from the global shift toward a lower-carbon economy. This shift, driven by regulatory changes, technological innovation, and evolving market preferences, impacts industry reliance on carbon-intensive processes. Companies that fail to adapt face financial penalties, reputational damage, and reduced market competitiveness. You only have to look at the case of Volkswagen’s emissions scandal for a taste of the huge repuetaitional damage associated with haphazard practice. Effective risk management involves staying ahead of these trends, ensuring compliance with evolving regulations, and investing in sustainable innovations that align with market shifts.

Metrics and Targets: Measuring and Communicating Progress

Clear metrics and targets are essential for tracking progress in managing climate-related risks and opportunities. The TCFD emphasizes the importance of setting measurable goals related to emissions reduction, energy efficiency, and sustainability performance. By disclosing these metrics, companies provide transparency to investors, shareholders, and other stakeholders, demonstrating their commitment to managing ESG risks effectively.

Companies that set ambitious targets for reducing greenhouse gas emissions not only contribute to global climate goals but also position themselves as leaders in sustainability. If we take a look at Nestle’s bold target to achieve and maintain 100% assessed deforestation-free primary supply chains by 2025 for cocoa and coffee, we can understand why they are more likely to attract investment from ESG-focused funds and enjoy long-term market advantages. Moreover, tracking progress through clearly defined metrics allows businesses to adjust their strategies as needed, ensuring they remain resilient in the face of changing environmental and regulatory landscapes.

How Climate Risk Management Drives Long-Term Value Creation

Managing climate-related risks is not just about preventing losses—it is also about seizing opportunities for growth and innovation. Companies that proactively address climate risks are better equipped to adapt to a rapidly evolving business environment, making them more attractive to investors seeking sustainable long-term returns.

For instance, businesses that invest in renewable energy, sustainable supply chains, or eco-friendly products are tapping into growing consumer demand for sustainable solutions. Additionally, by mitigating risks related to extreme weather events or regulatory changes, these companies reduce the likelihood of financial disruptions and improve operational resilience.

Incorporating the TCFD’s recommendations into corporate strategy ensures that businesses are not only prepared for the risks posed by climate change but also positioned to capitalize on the opportunities presented by the transition to a sustainable economy. This forward-looking approach can lead to enhanced financial performance, improved brand reputation, and increased shareholder value.

Leading the Transition to a Sustainable Future

Integrating ESG into corporate governance, strategy, risk management, and metrics is no longer optional—it is a business imperative. The impacts of hurricanes Helene and Milton have shown the increasing urgency of addressing climate risks, while the global push towards sustainability offers significant opportunities for those willing to innovate and lead.

By adopting the TCFD framework and taking proactive steps to manage climate-related risks and opportunities, businesses can enhance their resilience, meet investor expectations, and generate long-term value. The companies that succeed in this new era will be those that embed sustainability into their core strategies, positioning themselves as leaders in the transition to a sustainable and resilient future.