ESG reaches the boardroom

It will not have escaped anyone’s attention that major social issues such as climate change, as well as topics such as diversity and inclusion, are now the focus of attention. These themes have also made their way into company law and are now widely discussed in corporate boardrooms. Legislatures play an important guiding role in this regard, at both a domestic and an international level. It is interesting to read what attempts are being made to steer this discussion. Two examples that are currently topical are addressed below.

Corporate Governance Code

The Corporate Governance Code was adopted in the Netherlands by the Tabaksblat Committee in 2003. It was revised in 2008 and 2016, and applies to Dutch listed companies. The Code sets out principles and best practices on the governance of listed companies regarding the manner in which they report to their shareholders. Initially, the Code contained many instructions for company boards regarding financial reporting and reporting requirements. That makes sense, because the Code was drawn up at the time of the major accounting scandals, such as that at Ahold.

A Monitoring Committee is working at revising the Corporate Governance Code this year again. Remarkably, it is less focussed on making technical changes in corporate governance, but more on embedding current social themes in the Code. The committee regards the integration of ESG (Environmental, Social & Governance) factors into corporate strategy as one of the key features for long-term value creation. In short, this means that the Code will pay more attention to the company’s sound and balanced contribution to society. It no longer centres on preventing harm to the interests of others and society at large; a more active role is expected. The committee expects companies to make a balanced contribution to the interests of others and of society. Listed companies will furthermore have to report on the manner in which their stated objectives in that field can be achieved. They will, for instance, have to consider and report on how employees feel valued and respected within the company and on the company’s commitment to sustainability.

Corporate Sustainability Due Diligence Directive

European legislature is also pulling its weight. The European Commission recently published two Directive proposals in this area. It has proposed a European Corporate Sustainability Due Diligence Directive, for instance. This proposed Directive obligates companies that fall within its scope to identify any negative impact that their business operations have or may have on human rights and the environment, and to prevent and mitigate that impact (where possible). This proposed Directive also provides a framework for the duty of care of directors with regard to sustainability. Directors are increasingly expected to consider the impact of their policies on human rights and the environment when drawing up policies. The proposed Directive will obligate companies to introduce a due diligence policy, among other things. That policy must furthermore be reviewed annually. That due diligence may also require companies to review their current business relationships. If the due diligence shows that those relationships are not in keeping with companies’ core values, or that they will have a negative impact, they may have to be terminated. A complaints procedure must also be put in place, so that the persons affected can complain. Finally, any identified negative impacts can be mitigated, for instance by reimbursing the loss incurred or drawing up an action plan with corrective measures. In short, the proposal contains several provisions that will affect corporate governance and the strategy and policies of companies.

Tickle down effect

Although the Corporate Governance Code and the Corporate Sustainability Due Diligence Directive will not specifically apply to smaller businesses, their effects will nevertheless be apparent, due to the tickle down effect. The legislation focuses primarily on the larger (listed) companies, which generally have a greater impact on society, but general social issues are at play here that are also relevant to smaller companies. Smaller companies are also increasingly being called to account or even judged by how they operate in society. ESG is certainly not limited to value creation at listed companies.

It is easy to predict that these themes will increasingly play a role in the transactions practice. Value creation does not pertain to shareholders alone. It is therefore obvious that company valuations will also depend in part on how companies and their boards deal with such social themes. They will therefore play an increasingly important role in sales or investment processes. More attention will be paid to these themes, for instance, in the due diligence investigation of the company before the sale or investment. And success in this area must be achieved before the due diligence process. Directors will have to focus on these themes much earlier in order to be successful and make a real contribution to society.

Please contact Lusine Shahbazyan (+31-6-12871576) or Helger Kamerman (+31-6-51080197) if you have any questions after reading this article or would like to consult on the impact of this development on your business.

This article was published in the Newsletter Vestius of November 2022