Measuring Social Good

Last year the Securities and Exchange Commission took a big step in regulating public companies’ ESG (environmental, social and governance) activity with its proposed climate disclosure rule, which is expected to be finalized later this year. 

The rule sets out requirements for climate disclosures and greenhouse gas emissions. While the regulations will face legal and other challenges, including allegations of regulatory overreach, they show progress in attempting to provide more standardized transparency into the efforts that companies are making toward environmental goals.

Governance seems to be part of both environmental and social initiatives. In fact, one of the first proposed SEC climate-related rules would require public companies to disclose how their board and management oversee climate-related risks. And it stands to reason that a company likely won’t achieve climate or social equity goals if it doesn’t have strong oversight and executive teams. But so far there isn’t much in the way of formal governance standards, only guidelines for what good governance could look like. 

When it comes to the social component of ESG, some regulatory action is occurring, though not quite at the environmental level. The social criteria for ESG essentially includes how an organization treats its employees, its relations with its community, and the networks it belongs to. In 2020, the SEC issued a proposed Human Capital Management Disclosure rule, but it was “principles-based,” meaning it required only “a description of a registrant’s human capital resources, including any human capital measures or objectives that the registrant focuses on in managing the business.” The rule also noted that, “while the final amendments do not require registrants to use a disclosure standard or framework to provide human capital disclosure, as recommended by some commenters, a principles-based approach affords registrants the flexibility to tailor their disclosures to their unique circumstances.”

Adding to the lack of standardization in ESG criteria, not all three components of ESG are weighted evenly when it comes to what an organization does, according to Aria Glasgow, a partner in Aon’s Human Capital Solutions and ESG Advisory practice. For certain industries and countries, a single topic can have more of an impact. “Typically ‘E’, ‘S’ and ‘G’ are weighted differently to reflect dynamic risk exposure based on industry/sector, geopolitical exposure, company size, and other factors,” Glasgow says. “For example, rating providers weigh the ‘E’ more heavily for energy companies, the ‘S’ more heavily for financial services companies to account for human capital issues, and the ‘G’ more heavily for companies that operate in less-regulated jurisdictions.”

So, in this murky environment, how can companies actually measure their progress on the different components of ESG—specifically the S?

Widening Call for Equity

While there is said to be an update to the human capital rule in the works, the increased focus on transparency in this area is coming from multiple directions. “The anticipated update to the SEC’s Human Capital Management Disclosure rule is expected to call for increased disclosure of metrics and higher standards,” Glasgow says. “We may also see institutional investors and proxy advisors call for more metric disclosure.”

Indeed, as Council chief legal officer Scott Sinder said in Leader’s Edge in January, “Publicly traded companies have seen a large number of shareholder proposals calling on companies to perform ‘racial equity’ or ‘civil rights’ audits. These proposals typically focus on increasing transparency into DE&I [diversity, equity and inclusion] commitments and initiatives, and several notable companies have agreed to conduct such audits. In a similar vein, the vast majority of S&P 500 companies are now tying executive compensation to some form of ESG performance.”

What’s driving this more widespread call for transparency into social equity within businesses? According to Kael Coleman, founder and CEO of Protecdiv, a minority-owned insurance and reinsurance brokerage that has integrated ESG scoring into its services, it’s all part of a shift in mindset. “There’s been a lot happening with social justice, and it certainly has hit more of a peak in the last few years,” Coleman says. “I think some of it is a shift in mindset from pure shareholder capitalism to more of broad stakeholder capitalism, which I think ESG is a part of. For-profit companies are recognizing that we can’t only be focused on the near-term financial benefits to shareholders, because that sometimes isn’t correlated to the long-term, positive outcomes for all stakeholders.”

Another contributing factor to the rise in DE&I visibility is the higher prominence of diversity within every new generation of Americans. According to the Pew Research Center, Generation Z is among the most diverse generations in American history, with 48% identifying as racial or ethnic minorities, compared to 39% of millennials, 30% of Generation X and 18% of early baby boomers. “Capitalists are kind of rethinking what our place in society should be,” Coleman says. “I think some of that’s probably a bit generational. As generations shift, the power of generations shifts.”

Social Metrics

The tip of ESG’s social iceberg is diversity, equity and inclusion. “DE&I is one of the key factors of the ‘S’ in ESG,” Glasgow says. “There are many ways in which companies advance their ‘S’ through DE&I initiatives, including diversity training, diverse hiring, pay equity studies, diversity audits and more.”

While a company can enact DE&I initiatives such as pay transparency and diversity training to fulfill the social factor of ESG, measuring and quantifying progress can be difficult. “I think the big thing that is often missed by DE&I initiatives is the lack of metrics around them and defining their goals,” Coleman says. “How do we measure success? How do we measure improvement over time? I think that, with appropriate metrics and the appropriate tracking of those metrics, DE&I should be a major component of the ‘S’ in ESG.”

Toward that end, The Council recently partnered with Critical Equity Consulting to analyze a Council survey of 47 brokerage firms to assess where the insurance brokerage industry stands on DE&I improvement. The Council aims to conduct the survey annually to “bring clarifying data” to this complex topic and believes it will serve “as an important tool to measure the progress of the industry on diversity, equity and inclusion.” The survey collects data on race, gender, age and disability status of employee populations and explores organizations’ DE&I policies and practices. (For more on the survey results, see the sidebar “Council DE&I Benchmarking Survey Results.”)

Companies that want to track social metrics internally rather than relying on DE&I industry reports have a few options. “The way to do metrics is simple numbers,” Coleman says. “Things that you can say yes or no to or count. What does our board of directors look like? It’s easy to count what your board of directors looks like, you know, racially, gender-wise, LGBTQ, veteran.”

Coleman says that opportunities to add diversity to a company’s board can come when a member retires or resigns. Even expanding a board could lead to an opportunity to add diversity to it.

Another way of improving and tracking social-integrity metrics is by assessing the company’s talent pipeline. According to Coleman, hiring out of college is an efficient way to fill roles, but issues arise when most of the talent hired is homogeneous. “Say we’ve hired 20 young people right out of college,” Coleman says. “And of those 20 young people, there are 16 men and four women. And they are 19 white people and one person of color, and that person of color and the women are not in front-office positions. That seems like a major failing for some of these company DE&I initiatives. Hiring directly from college or university programs should be easy: 10 men, 10 women and a diverse group of people.”

Measuring progress on the social factors of ESG can extend beyond a company directly and into its supply chain. “Supplier diversity,” Coleman says. “How is that company spending its resources with vendors? Are those vendors minority or women-owned businesses? That’s something that’s relatively easy to track and maybe a little less easy to implement. But certainly, you can get hard metrics there.”

Beyond diversity, there is a plethora of other social issues that can impact corporate value and risk, such as use of child labor, profiting from human trafficking, paying living wages and work-hour issues, according to Glasgow. “These are examples of material issues not only for companies to evaluate in their own operations but that, like other ESG issues, also need to be assessed as risks in their supply chains,” Glasgow says.

For now, the social component of ESG is still being fleshed out and made uniform. As organizations continue to track their ESG progress, the amount of data being collected will be used to improve DE&I models. “Scoring systems are being formulated and increasingly deployed to gather and analyze ESG data,” Glasgow says. “However, this data is largely historical, self-reported, unverified and spotty at best.”

Still, the more that organizations choose to measure and monitor corporate social data, the more standardized it will become. “This is changing as standards organizations and regulators focus on bringing human capital management and DE&I disclosures into greater alignment,” Glasgow says. “Other social risks will likely evolve similarly.”