Warning signs belong on the table, not under it’
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Sustainability
Why boardroom composition is key to getting environmental strategy right
A new study co-authored by Ivan Miroshnychenko investigates the causes behind the discrepancy between firms’ ESG claims and what they do in practice.
In 2015, the US Environmental Protection Agency discovered that automotive manufacturer Volkswagen had cheated on federal emissions tests to make its vehicles seem less harmful to the environment than they actually were. In 2020, an investigation by Earthsight into IKEA’s supply chain suggested that some of its most popular products used wood that suppliers illegally sourced from Russia. In 2022, H&M faced accusations of greenwashing after news publication Quartz alleged that it showed customers environmental scorecards for its clothing that were misleading and, in many cases, outright deceptive with respect to carbon emissions.
And, in September 2023, German asset manager DWS, which is majority owned by Deutsche Bank, agreed to pay $19 million to settle charges brought by the U.S. Securities and Exchange Commission over greenwashing allegations.This was the highest penalty ever levied by the securities regulator against an investment adviser for failing to observe environmental, social, and governance (ESG) criteria.
Tidal wave
These cases were among the most high-profile in a tidal wave of greenwashing activities carried out by companies in every industry, from fast fashion to fossil fuels, and ranging from large-scale consumer fraud to less headline-grabbing, but nonetheless legally and environmentally dubious, practices.
To respond to the increasing use of greenwashing to promote products, in January 2021, for the first time, the European Commission, in concert with national consumer protection authorities, included greenwashing in its annual “‘sweep”’ to identify breaches of EU consumer law in online markets from companies in business sectors such as fashion, cosmetics, and household equipment.
The sweep found that, in 42% of cases, online claims were exaggerated, false or deceptive, and could potentially constitute unfair commercial practices under EU rules. The EC said:, “There are unscrupulous traders out there who pull the wool over consumers’ eyes with vague, false, or exaggerated claims. The Commission is fully committed to empowering consumers in the green transition and fighting greenwashing.”
The following year, a Harris poll for Google Cloud that surveyed nearly 1,500 executives across 16 countriesfound that 80% believed their companies were doing a good job on environmental sustainability – yet 58% (and 68% in the US) admitted their companies had, at times, overstated their sustainability efforts or “greenwashed” the facts.
Greenwashing is not good. Besides deceiving consumers into thinking their purchases have a positive environmental impact – when they may actually have the opposite effect – it undermines genuine sustainability efforts, discourages environmental activism by inducing cynicism in consumers through constant “noise”, and wastes resources by encouraging the purchase of products that, at best, have zero environmental benefit.
According to the UN, in fact, by misleading the public into believing that a company or other entity “is doing more to protect the environment than it is, greenwashing promotes false solutions to the climate crisis that distract from and delay concrete and credible action”, and thus it presents “a significant obstacle to tackling climate change.”
The study
Firms in all sectors have increasingly been paying attention to the measures necessary to cut their carbon emissions to help mitigate climate change. However, when firms find it difficult or impossible to reconcile their commercial and environmental goals, they may change their approach towards seeking legitimacy, which can lead to a misalignment between the image they project to external stakeholders and their efforts to implement green practices.
Drawing on legitimacy theory, I and my co-authors Jonathan Taglialatela, Roberto Barontini, and Francesco Testa sought to answer this research question: are board characteristics determinants of different legitimacy-seeking strategies, resulting in a discrepancy between green communication and the implementation of green practices?
Firms should pay regard to the characteristics of the board when evaluating the degree of alignment between environmental actions and environmental claims.
To address this question, our research paper, entitled Talk or walk? The board of directors and firm environmental strategies, studied the nexus between green communication and the implementation of green practices, focusing in particular on the determinants of discrepancies between the two. Based on a large sample of firms in 58 countries over a 19-year period, we devised an index to measure the discrepancy between green operations and communicated practices, mapped to each firm’s board composition.
The results: practical versus moral legitimacy
Our analysis shows that board characteristics can act either as a deterrent to additional focus on communication or as a catalyst for excessive reporting. (For most listed firms, the power over a company’s environmental practices rests with the board of directors, who develop corporate strategy and allocate resources to various programs.)
The results provide the first empirical evidence that larger, more gender-diverse, and more independent boards are associated with a preponderance of green communication over implementation. We believe this imbalance stems from a strategy to participate in the public discourse in order to gain moral legitimacy – or, in lay terms, to appear green.
Conversely, in firms where the CEO also served as the chairman of the board of directors (“CEO duality”), we found evidence of a greater focus on implementing green practices than on talking about them, suggesting that such firms were seeking to gain pragmatic legitimacy from their stakeholders (i.e., legitimacy in the eyes of stakeholders who stood to gain directly from the green activity).
Put another way, a discrepancy between a firm’s environmental practices and its communication efforts may signal different legitimacy-seeking strategies. We suggest that more of the former (environmental practice) is associated with additional efforts to gain pragmatic legitimacy, while more of the latter (communication) is associated with efforts to gain moral legitimacy.
Practical implications
The research provides new insights into understanding the factors that lead to unbalanced, “walk-and-talk” efforts, because corporate governance can only align the divergent interests of shareholders and managers with respect to firm environmental actions to a certain extent. Additional organizational dimensions need to be considered.
External investors should also consider that corporations with independent and more gender-diverse boards are associated with a stronger focus on gaining moral legitimacy; hence this characteristic might be taken into account when establishing governance mechanisms to ensure improvement in the environmental performance and a better alignment of “walk and talk’” over time.
The results of the study suggest that firms and potential investors should pay regard to the characteristics of the board when evaluating the degree of alignment between environmental actions and environmental claims.
“Board members should proactively, rather than reactively, address ESG factors.”
This begs the question: what can be done to promote best practices in board governance, particularly with regard to eliminating risk of greenwashing?
Helle Bank Jorgensen, the Founder and Chief Executive of Competent Boards and an international expert on sustainable business practices, advises global Fortune 500 board members and executives on turning ESG risks into innovative and profitable business opportunities.
In an article entitled Why sustainability must play a major role in your boardroom today — and tomorrow, Jorgensen argues that, with investors “increasingly zeroing in on directors’ knowledge of sustainability issues, [they] may not vote for those who lack insights and knowledge.” She makes these recommendations not merely to avoid falling foul of the rules, but to maximize the potential value of getting ESG right:
- Companies must have competent and conscious individuals serving on committees overseeing sustainability, ESG, and climate issues.
- Board members should proactively, rather than reactively, address ESG factors (which will be a major asset for companies in terms of outpacing competitors and creating renewed value).
- ESG presents opportunities for companies to create value and sustainability over time. It is essential for companies to ask the right questions and have a team that can provide a view of what the company’s portfolio should look like in the future.
- Boards need to have a better understanding of operations and sustainability to be able to maximize opportunities and minimize risks.
- Sustainability should not just be a check-mark exercise, but should be embedded into different business functions and processes, including supply chains and value chains.
With the EU planning a comprehensive crackdown on greenwashing of consumer products – for example, by outlawing claims based on emissions offsetting and sweeping environmental claims such as “climate-neutral” and “eco” by 2026 (unless companies can prove such claims to be accurate) – it will become the toughest region of the world in terms of firms’ ESG claims and companies who fail to observe the new regulations risk heavy penalties. You have been warned!
4 key takeways for business
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