Sustainability and ESG are at the top of corporate agendas worldwide, thanks to the introduction of new legislation and improved disclosure standards in initiatives such as the US Inflation Reduction Act and the historic

ESG considerations are already a consistent element of compliance, risk management and investment due diligence. But there is now a positive trend of strong environmental or social credentials commanding higher premiums across a broad range of markets.

For instance, recent research found that real estate buyers are willing to pay a premium uplift of between 8-18% on green buildings, depending on their BREEAM or NABERS rating.

In the food industry, meat alternatives such as Impossible Foods and Beyond Meat are sold at a significantly higher price point than their animal-based competitors, as are alternative milk brands such as Oatly.

And in the B2B world, operators of aluminium smelters powered by hydroelectricity are leaning on their lower carbon emissions to charge a premium over coal or gas-powered competitors.

Of course, there are caveats attached to each of these examples. Naturally, buyers and tenants of energy-efficient buildings are more willing to pay extra for the benefit of lower utility bills.

It’s also true that alternative food producers don’t yet have the scale or the supply chain to compete on price with traditional food and beverage manufacturers.

And if coal or gas-powered smelters were to factor in the true environmental and economic cost of their fuel into their pricing, it would make them even less competitive.

Nevertheless, the rising demand for more ethical and sustainable products and services means customers are demonstrating an increasing willingness to pay a green premium – the cost of choosing a cleaner, more socially conscious purchase.

Can your own ESG credentials command a similar advantage?

Why ESG is a proven value driver

What this does show is that paying attention to environmental, social and governance concerns does not compromise returns. In fact, the data suggests the complete opposite.

Inflation and higher interest rates may have impacted ESG investment in recent years, but a record 649 billion USD was invested worldwide in ESG-focused funds in 2021 – an increase of 128% from 2019.

Because investors tend to favour companies with strong ESG performance, an embedded, long-term ESG focus can help to reduce capital costs, improve the valuation of your business and protect it as global legislation continues to tighten.

This is backed up by a 2019 study, which found that sustainable strategic management practices reduced the cost of equity by 1.6% to 2.9% per year worldwide, and a 2022 paper that found better ESG information can have a material impact on asset prices.

But does it drive profitability?

There are indications that ESG can be a strong factor in profitability, with Forbes reporting research by Equity Quotient which found:

Companies that proactively embrace their pursuit of stakeholder diversity and other ESG principles tend to be more successful, outperforming peers on every major performance metric:

  • 79% higher stock price impact
  • 19% higher revenue
  • 5% increase in EBITDA
  • 50 bps lower cost of capital
  • 3x stronger retention

 However, while these numbers look promising, they only reflect the findings of a single organisation. The lack of standardised reporting on the impact of ESG on pricing means it’s not yet possible to analyse or compare results with reliable consistency.

While SASB Standards do enable companies to identify how sustainability-related risks and opportunities affect their cash flows, access to finance and cost of capital, there are still complexities in integrating this data into pricing models.

These difficulties are highlighted by attitudes in private equity firms towards the value of ESG. While nearly two-thirds of PE companies consider it useful for enhancing brand reputation and mitigating risk, fewer than one in five (17%) see it as a benefit for revenue growth and only a third include ESG data in valuation analysis.

Practical steps to turn ESG performance into better margins

While questions remain about the true impact of ESG on profitability, the existence of the green premium has no such ambiguity. But to maximise the opportunity afforded by strong performance on sustainable and social issues, there are several steps that cannot be avoided.

1. Put ESG at the centre of your business strategy

Global sustainability experts agree that the only way you can credibly position yourself as a leader in sustainable development is by first ensuring it is comprehensively integrated as a part of your business. The consequence of getting your calculations wrong can be significant reputational damage, especially if any claims fail further scrutiny.

Only when you’re confident you can realistically justify the ESG value on offer should you be willing to move onto the next stage.

2. Establish your customers’ value drivers

Your ability to charge a green premium depends on how important the relevant ESG activity is to your customers.

Assess their perception of your business and competitors in relation to ESG and their willingness to pay for a greener or more socially conscious alternative. This will vary considerably depending on location, industry and product type.

You can then define the features of your ESG strategy that stakeholders value the most and factor them into your communications and pricing strategy for products most eligible for the green premium.

This is where targeted market research plays an essential role in helping you to track exactly what is happening in your market, enabling you to be strategically proactive.

3. Independently confirm your company’s ESG credentials

Sustainability and social issues are emotive topics, and accusations of greenwashing are a significant risk when it comes to undermining your ability to charge a premium.

Start by building trust and accountability in your ESG strategy through accreditations such as certification to ISO 14001 for environmental management systems, ISO 37000 for governance and adhering to ISO 26000 guidance for social responsibility.

You can reinforce this with independent assurance of your ESG metrics, disclosures, reporting and peer benchmarking. A supply chain audit will also help ensure ESG policies, procedures and performance are aligned across your entire value chain – avoiding any nasty surprises from rogue suppliers.

4. Communicate your ESG benefits with transparency

Independent credentials might help you to establish a foundation of trust, but the only way to keep it is by being honest about your journey and the steps you still need to take.

Apple’s recent Mother Nature advert left the company exposed to accusations of monumental greenwashing for its ‘dubious’ claims around carbon neutrality.

To avoid similar issues, your communications need to be both transparent and accessible. Include clear, relevant data to back up your ESG credentials, and present it in a format that can be easily consumed by your key stakeholders.

Instead of excluding or omitting any unfavourable findings, explain the measurable steps you’re taking to address them.

One brand that has done this successfully is outdoor fashion retailer Patagonia, which publishes supply chain and environmental data on its website. It explains its mission in clear terms to consumers, who can then access unvarnished assessments of the company’s production facilities worldwide.

The relationship between ESG and pricing is still evolving

The increasing volume in regulations for ESG reporting and sustainability means that pricing strategies in different industries will be impacted in markedly different ways.

In order to maximise the returns of your own ESG strategy in terms of premium pricing, valuation, reputation, and differentiation, you need to have a clear understanding of its value to every stakeholder.