Valuing Corporate Social Responsibility and Sustainability

1. DRAFT Valuing Corporate Social Responsibility and Sustainability BCCCC Presentation March 2009 CONFIDENTIAL AND PROPRIETARY Any use of this material without specific permission of McKinsey & Company is strictly prohibited

2. Objectives of the research • Focus on financial link between ESG activities and financial value creation • Develop understanding of what it takes to: • Create value through ESG activities • Develop more sophisticated metrics to capture the financial value • Build better tools and methods to communicate that value to internal and external stakeholders

3. Key findings • ESG activities create value along the four areas traditionally valued by the market: • Growth • Return on Capital • Risk Management • Management Quality • Investors and CFOs believe ESG activities create value, but are not fully taking it into account • Many companies create real value from ESG activities, but most do not measure that value, and even fewer communicate the value • There is a real opportunity for ESG professionals to fill this gap

4. 6.2 Research methodology • Initiative white paper, with analysis of ESG measurement issues and recommendations • CFO, Investor, ESG Professional McKinsey Quarterly survey • Examination of ESG programs today, the challenge of measuring value, and methods for assessing and communicating value • Examined existing metric systems • 238 CFOs and investment professionals • 127 ESG professionals and socially responsible institutional investors through BC CCC • Range of industries and regions • Framework for linking ESG activities to Value Creation • Company interviews and case studies • 135 interviews across 20 companies • 11 industries • U.S. and Europe • Range of functions: ESG professionals, human resources, environment, strategy, finance, and investor relations • Tie ESG to value along 4 dimensions typically used by market: growth, return on capital, risk management, management quality • Develop 10 best practices for designing strategic ESG programs

5. What are your “pain points” as an ESG practitioner? Getting adequate resources, traction and integration internally Establishing and monitoring metrics to assess impact of program Meeting the demands of existing metric systems Getting recognition from the market for effective ESG

6. We examined a sample of ESG metrics, measurement, and rating systems1 Our sample Categories of ESG metrics, measurement and ratings systems Examples • Indices developed by financial index companies • Rankings and data produced by SRI information providers • Reputation indices produced by media/ polling/PR firms • ESG-related standards • ESG Initiatives and learning networks 1 Analysis of ESG metrics systems based only on information publicly available on relevant websites SOURCE: McKinsey Analysis

7. 46 A major “pain point” is the existing metrics and indices that evaluate a company’s ESG programs, but do not take financial value into account Average score of the range of metrics systems assessed against 6 criteria Points (score 0-3 points on each issue) 1 • Captures opportunities • Distinguishes financially material issues 2 • Avoids the problem of ‘noise’ 3 • Covers the full range of ESG issues 4 5 • Financially quantifiable data • Sensitive to different types of companies 6 SOURCE: Team analysis

8. How much do you think that ESG activities add to shareholder value? • Add less than 2% • Add between 2 and 5% • Add more than 5% • Don’t know

9. 53 • CFOs, n = 84 • Investment professionals, n = 154 • ESG professionals, n = 87 • Complementary findings from the survey • A large majority of ESG professionals think that ESG programs create value in the short and the long term • CFOs and investors professionals are more likely than ESG professionals to see the long term benefit of these activities Investors and CFOs also believe ESG¹ drives value Percentage of respondents • Effect of ESG programs on organization’s shareholder value in typical times2 • >11 • 6-10 • Value add • 2-5 • <2 • No effect • Reduced value • Don’t know 1 Environmental, social, and governance 2 Excluding any changes stemming from the current economic crisis SOURCE: S. Bonini, N. Brun, and M. Rosenthal, “Valuing corporate social responsibility,” The McKinsey Quarterly, February 2009

10. 5 Although many companies create value from ESG, very few assess the financial value creation and even fewer communicate that to the markets Percent of companies interviewed = 100% • Communicating value • Creating value • Assessing value • ESG program -40% -10% • Maximizing value from ESG • Established metrics to monitor program -40% -5% • Converting ESG metrics to financial value • Communicate ESG value to CFOs, investors

11. Pathway to value from ESG along four dimensions • New markets • Growth • Gain access to new markets and market share through exposure from ESG programs • New products • Create products to meet unmet social needs and increase differentiation • New customers/ • market share • Use ESG to engage consumers and build knowledge of expectations and behaviors • Develop cutting edge technology and innovative products and services for unmet social or environmental needs that could translate to business uses, patents, proprietary knowledge, etc. • Innovation • Foster brand loyalty, reputation and goodwill with stakeholders by engaging with them on ESG programs • Reputation/differentiation • Return on capital • Operational efficiency • Enable bottom line cost savings through environmental operations and practices (e.g., energy and water efficiency, less raw materials needed) • Workforce efficiency • Reduce costs generated by employee attraction and turnover by using ESG to build morale • Develop employees’ skills and increase productivity through participation in ESG activities • Reputation/price premium • Develop reputation on ESG that garners customers’ willingness to pay price increase or premium • Risk management • Regulatory risk • Mitigate risks by complying with regulatory requirements, industry standards, and NGO demands • License to operate • Facilitate uninterrupted operations and entry in new markets using local ESG efforts and community dialogue to engage citizens and reduce local resistance • Supply chain/security of supply • Secure consistent, long-term, and sustainable access to safe, high quality raw materials and products by engaging in community welfare and development • Reputational risk • Avoid negative publicity and boycotts by addressing ESG issues • Management quality • Leadership development • Develop leadership skills and improve employee quality through ESG participation • Adaptability • Build ability to adapt to changing political and social situations by engaging local communities • Long-term strategic view • Develop long-term strategy encompassing ESG issues SOURCE: Team analysis

12. Illustration of how companies can create value from ESG • ILLUSTRATIVE • 4 dimensions • Sub-dimensions • Examples • Growth • New customers/ market share • Novo Nordisk: Engaged in emerging economies like India, China, and Bangladesh to help build clinics, national diabetes programs, systematic education for doctors, nurses and patients, and comprehensive patient support initiatives. As a result, in China, Novo Nordisk has earned market leadership (e.g., market share above 70%) • Verizon: Launched a new product for elderly and disabled to meet social needs of population. Has resulted in increased sales and 100,000 new customers • Return on capital • Operational efficiency • Invested $1 billion over 10 years to reduce its energy consumption and improve its efficiency and has saved $7 billion in last 5 years • Risk manage-ment • Reputational risk • Engaged with local stakeholders and built trust with local communities by being responsive to community needs. Has allowed Intel to be proactive about managing concerns, avoiding zoning delays and fines, and benefiting from tax incentives • Manage-ment quality • Leadership development • Developed “Corporate Service Corps” to send emerging leaders to work pro bono in emerging markets to foster economic growth. Has led to improvements in five areas: global leadership skills, cultural intelligence and global awareness, employee retention and commitment to IBM, new knowledge and skill contribution to IBM, and intrapersonal growth SOURCE: Team analysis

13. ILLUSTRATIVE ESG programs can have direct and indirect financial impacts, depending on the business drivers they target • Indirect impact • Direct financial impact • Business driver • Effect on business driver • Examples of metrics • Financial impact • # and value of new markets entered through program • New geographical markets • Increase revenue through increased sales • Facilitate markets entry • # and value of new products developed and sold • Develop cutting edge technology/products • Increase revenue through increased sales • Innovation • Increase revenue from patents • Expand the number of patents • # and market value of new patents developed • Decrease cost of hiring and training new employees • ESG • program • Employee retention, Cost of training new employees • Improve talent attraction, morale and retention • Human efficiency • Increase revenue per person • Improve skills (e.g. leadership,…) • # employees with new skills from experience • Strengthen reputation, goodwill and loyalty with stakeholders • Favourability ratings evolution, # meetings with stakeholders • Increase revenue indirectly through goodwill • Trust & reputation • Operational efficiency • Enable bottom line costs saving • Water, energy and raw materials uses reduction • Decrease cost SOURCE: McKinsey analysis

14. 36 • Ways to improve the effectiveness of communication about the performance of ESG programs3 Improved communication about the value of ESG activities is needed • ESG1 professionals, n = 87 • CFOs, n = 84 • Investment professionals, n = 154 Percentage of respondents2, multiple choice answers • Offering integrated corporate reporting (corporate financial + ESG programs data) • Integrating information on ESG programs’ financial value into corporate reports • Reporting data related to new markets or • customers reach through ESG programs • Reporting data related to employees • Providing anecdotal evidence of how these programs create value • Using regular business terminology to communicate about such programs • Reporting data related to innovation 1 Environmental, social, and governance 2 Respondents who answered “other”, “none of the above” or “don’t know” are not shown 3 Excluding any changes stemming from current economic crisis SOURCE: S. Bonini, N. Brun, M. Rosenthal, “Valuing corporate social responsibility”, McKinsey Quarterly, February 2009

15. Creation of ESG Program • Metrics • Pathway to value • Communication Pathway to value created by ESG programs • Impact business drivers and create financial value while meeting stakeholder and societal needs and turning them into ESG opportunities • Growth • Return on capital • Risk management • Management quality • Design ESG program resulting from industry issues, stake-holders needs and business drivers • Set clear message depending on the targeted audience and provide informa-tion that the audience is looking for • Develop few relevant metrics to capture the financial value of the program • Business drivers • Industry issues • Turn socio-political issues into ESG opportunities by meeting stakeholder needs and creating financial value along the business drivers • Stakeholder needs • Meet stakeholder expectations and ensure their support in managing ESG opportunities while creating value for the company SOURCE: McKinsey analysis

16. Questions for discussion • What are the biggest obstacles to integrating better metrics into ESG work? • What are the direct benefits to the company of better metrics? • How might using better metrics change what companies do on the ground in terms of project level impact of ESG? • How can ESG professionals begin to apply a more financial mindset/language to the design, measurement, and communication of ESG programs? • How can ESG practitioners facilitate conversations about the value of ESG activities within their own companies? • How can ESG practitioners begin to create quantitative, financial metrics for ESG activities to allow for seamless communication between ESG professionals, CFOs and investors?

17. Appendix

18. Business operates within an overall social contract • Global trends • ESG issues • Consumers and employees • Globalization • Environ-mental • Social • Governance • Semi-formal contract • Frontier • expecta-tions • Formal contract • Business • Society • License • to operate • Growth and opportunity

19. 20 companies from across industries and geographies Participants of the research

20. We see 10 best practices for creating value from ESG • Best practices • Examples • Address key issues facing the industry 1 • Identify and engage stakeholders 2 • Fundamentals • Align with core business strategy 3 • Utilize core competencies 4 • Take a long-term perspective 5 • Strategy • Create opportunities and manage risks 6 • Ensure strong leadership support 7 • Organization • Embed into the strategy, organization, and culture 8 • Select appropriate partners 9 • Implementation • Set clear goals and manage like a business 10 SOURCE: Team analysis