Listed companies are under pressure to explain how managing non-financial issues increases shareholder value
Listed companies should include non-financial business information and forward-looking statements in financial reports to shareholders, according to a group of powerful investors.
Members of the International Corporate Governance Network, investors with combined assets under management of $15 trillion, have published guidelines for companies to integrate non-financial information better into business reporting.
Businesses should be selective about the non-financial indicators they report on, and make sure that information given to investors is directly linked to strategy, ICGN says. Companies must show that they understand how their relationships with staff, customers and suppliers, for example, affect financial performance indicators such as sales, cash flow and share price, the group argues.
Few companies at the moment can explain how managing non-financial issues helps them achieve current and future financial goals, says Frank Curtiss, chairman of the ICGN non-financial business reporting committee, which came up with the guidelines, which were launched in December.
UK firms especially are getting better at discussing non-financial issues with investors thanks to new narrative reporting requirements under the 2006 Companies Act, Curtiss says. Even so, most fail to make the link between their management of non-financial issues and shareholder value, he says. Curtiss is also head of corporate governance at Railpen Investments, which manages occupational pension funds of UK railway employees.
Investor demand for non-financial performance information about companies has to date been “limited”, Curtiss admits. “Companies have little reason to do this if investors aren’t pressuring them.”
Company executives are also reluctant to talk about long-term social and environmental trends, which might mean making predictions about the future of the business that they would not be able to back up. Curtiss sympathises, but adds that the more cynical would see these objections as “excuses”.
In fact, although executives may not like talking about it, most big companies already disclose some of the information about non-financial matters that the ICGN says it wants to see – in corporate sustainability reports. These often contain “much more quality data in terms of explaining forward-thinking strategy than you can sometimes find in conventional financial reports”, argues Prof David Grayson, chair of corporate responsibility and director of the Doughty Centre for Corporate Responsibility at Cranfield School of Management, a UK business school. But he admits that companies could do more to make information about non-financial matters relevant to investors.
Doing so might address the ICGN’s concern that companies should “avoid measuring too many things leading to a wild profusion of peripheral, trivial or irrelevant measures” of non-financial issues.
Today more than 700 major companies, for example, measure non-financial performance against a vast array of indicators using the Global Reporting Initiative, a social and environmental reporting framework. But many argue that these reports fail to tell investors the story of how managing non-financial issues helps a company increase sales, lower costs, smooth cash flow, boost brand value and strengthen risk management.
To address concerns that companies are failing to make the business case for managing social and environmental issues, CSR Europe, a business network promoting corporate responsibility, has set up a working group on evaluating non-financial performance. The group includes companies such as the UK bank Lloyds TSB, the Italian communications firm Telecom Italia, investors, and academics, including Grayson. In December, the group published its first consultation paper: Valuing Non-financial Performance: European framework for company and investor dialogue.
Choosing the right words
Companies wanting to make the business case for managing non-financial issues should pick those social and environmental indicators that are most relevant to their business, and that best fit within six core non-financial performance areas, the working group suggests. These areas are human capital, customer relations, partnerships, the environment, innovation and corporate governance.
Companies must then explain to investors how improving performance in these areas is good for business. Lloyds TSB, for example, can demonstrate that the more engaged its employees, or the stronger its stock of human capital, the better its sales.
Lloyds TSB has created an employee engagement index to measure how staff feel at work, which is updated every quarter with results of a 13-question online survey of staff. Comparing results of this index with financial performance over the same period, Lloyds TSB has found that when staff are more engaged, sales rise. “If we raise our score on that index by 1%, we increase sales by 3%,” says Lloyds TSB’s corporate responsibility manager John Swannick, who represents the UK bank on the working group.
Such a clearly articulated link between engaged employees and higher sales promises to do more to persuade investors that non-financial performance matters than endless detail about employee diversity or flexible working programmes ever could. The challenge for Lloyds TSB and others is to find more concrete examples to satisfy investors wanting to know why a company that is on top of non-financial issues is a good bet for the future.
7 steps to better non-financial reporting
1. Be genuinely informative and include forward-looking elements.
2. Be material, relevant and timely.
3. Describe your strategy, and associated risks and opportunities, and explain the board’s role in assessing and overseeing these.
4. Make reporting accessible and appropriately integrated with other information.
5. Use key performance indicators that are linked to strategy and facilitate comparisons.
6. Use objective metrics where they apply, and evidence-based estimates where they do not.
7. Get independent assurance.
Source: International Corporate Governance Network, statement and guidance on non-financial business reporting, December 2008
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