Environmental Risk Management

By Harvard Business Review

This report has been written derived from the responses of the HBR survey on this issue, this in cooperation with Zurich, FERMA and PRIMO. Notice that on the 26th of June a webinar will be held.

Increasing attention to environmental risk
Overwhelmingly, our survey responses tell us that European organizations—companies, largely, but also a sprinkling of government agencies and non-profits—are now placing high priority on managing environmental risk. Nearly two-thirds (61%) rated the level of commitment from both the C-suite and the board as being high or extremely high, while more than half (53%) said their organization’s environmental risk management effort is closely or very closely linked with its overall strategy and objectives. More than three of four (77%) said they believe environmental risks are important or extremely important to their success or failure.

The reasons for the heightened concern are clear: Many of these organizations have taken losses related to environmental risks in the recent past, and they are feeling pressure from environmental laws and regulations. Forty percent of respondents said they have had to pay the cost of risk identification, assessment, and compliance with environmental laws during the past five years, for example, while substantial groups have also had to pay the cost of cleanup from pollutants (28%); costs to manage and mitigate risks, including insurance premiums (25%); third-party losses and claims (23%); and costs from regulatory requirements in geographic areas they had expanded into (21%).

The costs are only going up, organizations believe. More than half of respondents (56%) said that environmental rules in the countries where they operate have become more onerous in the past five years, and an overwhelming 74% that they expect them to become more so. Europe itself, moreover, was cited as the region imposing the most onerous environmental laws and regulation, 74% saying they are stringent or extremely stringent, with North America (51%) following distantly and other regions far behind. Two-thirds (67%) said their organization has a high level of concern regarding European environmental regulations and risks associated with them—far more than for any other region. While one respondent noted that laws and regulations in China are becoming “much stricter,” the results underscore the degree to which environmental regulation in the emerging economies has not yet caught up with the developed world.

Oversight moves up the ladder
Not surprisingly, oversight of environmental risk at European organizations is focusing itself in the C-suite. Some degree of reporting of environmental risks to top management is now nearly universal, almost two-thirds (62%) of respondents saying this is done regularly, while another 34% said it is done on an ad hoc basis.

At almost one-third of survey respondents (31%), the CRO primary oversight of environmental risk management, suggesting that environmental hazards and liabilities are increasingly seen as an element of enterprise-wide risk management, along with financial, health and safety, and other issues. At more than one in four of the remainder (26%), oversight lies with either the CEO or the CFO/treasurer.

However, there is no one dominant model in this respect—others assigned the responsibility include the COO, head of HR, environmental manager, and business unit leaders. Yet at more than half of organizations (55%), at least one person is focused full-time on environmental risk, underscoring the increasing importance of this area. Most frequently, this person is an environmental officer or manager rather than a risk or sustainability manager.

Covering the cost
Insurance remains the primary tool for covering these costs among European organizations—78% saying they so through either an insurance policy or self-insurance. However, specific plans to respond to or remediate environmental damage vary greatly. Survey respondents represent industries that generally incur minimal environmental liabilities, such as accounting, banking, business services, and media, as well as some that typically are much more vulnerable, including energy, telecoms, industrial manufacturing, and engineering. Accordingly, some respondents plan ahead through self-funding, insurance, or factoring potential remediation into the budgets for their capital projects. Others anticipate no problems, or expect to cover whatever costs arise out of their operating budgets.

Organizations have difficulty quantifying the impact of environmental risk on their balance sheets; more than half (55%) said they cannot do so. Indeed, more than two-thirds (69%) cited difficulty measuring the impact of environmental risks on profitability and value creation as the greatest obstacle they face to implementing an organization-wide environmental risk strategy—the largest of any category. Troublingly, more than one in four (28%) said there is a lack of incentives for key individuals within the organization to push for an organization-wide strategy.

Putting process and initiatives in place

Specific processes and initiatives to measure, analyze, and manage environmental risk are becoming widespread if not the norm at many European organizations. Sixty-percent of organizations have now implemented an environmental risk assessment, and more than half (54%) said they conduct one either annually or biannually.

Almost half (49%) said they make specific requirements of their suppliers related to managing environmental risks. Additionally, 46% said they have instituted rapid-response policies and procedures for handling environmental events that require government reporting and compliance.  Of these, two-thirds (66%) said a prime motivator for doing so was an actual crisis management situation, while more than half (53%) cited regulatory authority. Of those that have not done so, however, over 90% said they either are not planning to or don’t know, indicating that for many organizations, this is not yet a priority.

What sorts of environmental initiatives are European organizations carrying out? By far the most widespread involve energy and resource conservation (67%), followed by crisis management and response plans (61%). But substantial numbers are also devoting effort to improving their understanding of and ability to manage environmental risks. Almost half (46%) are implementing an organization-wide program and/or creating a risk-reduction plan that prioritizes environmental risks, while 44% are conducting an environmental baseline study, and 45% are prioritizing modification of existing products and services along environmentally friendly lines and/or prioritizing development of green products and services.

What results are these efforts producing, and how robustly is the organization backing them? Close to two-thirds (65%) of respondents said their environmental initiatives have a positive or very positive impact on profitability. Overwhelmingly (87%), respondents also described the resources their organization commits to environmental sustainability and risk management as ample (12%) or adequate (75%). And while more than two-thirds (67%) of companies said the level of resources devoted to environmental sustainability and risk management has remained the same, the same percentage expect the level of commitment within their organization to increase either somewhat or significantly over the next five years.

Prioritizing legal and regulatory risks
European organizations’ biggest environmental concerns largely revolve around legal and regulatory risks. More than half (56%) cited regulation—more than any other category—although changes in law related to the environment (49%), cleanup liability (40%), and legal defense costs (27%) are also frequently mentioned. However, organizations also expressed concerns about the damage that environmental problems could do to their reputation and relationships, more than half (52%) citing deterioration of relationships with key stakeholders and almost three of four (73%) mentioning damage to their business reputation.

As to why European organizations launch major environmental initiatives, more than half (57%) cited concern about their environmental impact, other concerns include meeting customer priorities and creating a better business model. Almost half (49%) cited customers’ environmental concerns as a motivator and/or expected positive impact on their business model, while 46% mentioned expected positive impact on the company’s products and services. Forty-four percent said their initiatives were motivated by a drive for overall risk reduction, further underscoring organizations’ increased inclination to view environmental threats as part of the risk function’s mandate.

One issue that European organizations are making a strong priority, reflecting their larger concerns about risks from law and regulation, is the EU Environmental Liability Directive (2004/35/EC) on prevention and remediation of environmental damage.

The ELD is one of the most significant European regulatory initiatives in the field—most recently amended to extend its provisions into marine waters, effective in May 2013. Over half of survey respondents (56%) said their organization has experienced some or significant impact from ELD over the past five years, and almost one-third (31%) said it was instrumental in prompting them to undertake environmental risk mitigation efforts, while more than half (52%) have obtained an insurance policy or other financial security against environmental liabilities as a result.

Only 20% said the ELD’s expansion of “environmental damages” to include protected “species and habitats” has created a real or potential threat for their organization. In their degree of understanding and method of response to the directive, however, organizations vary a great deal. Less than one-third said they are knowledgeable or very knowledgeable about it. Almost two-third (62%) said they are getting information about ELD from in-house or outside counsel. But respondents also mentioned a wide variety of sources helping them to learn about the initiative: insurance brokers, insurers, trade associations, FERMA and other professional associations, and media and the internet, among others.

Respondents detailed a variety of measures they have taken in response to ELD, ranging from writing new coverage into their insurance and taking out new environmental liability policies to reviewing the organization’s overall environmental policy, reviewing the impact on physical sites, and stepping up efforts to protect habitats during development projects. One respondent noted that the organization holds internal roadshows and workshops. Another enumerated a menu of actions: “think, inventorize, think again on the most possible scenario, value, plan/prioritize—and convince the board to act.”

* Who participated in the survey
Respondents to the Environmental Risk Management survey represent a wide variety of industries. While nearly one in five (19%) come from banking, securities, financial services, insurance, or real estate, and 14% from energy, petrochemicals, mining, and utilities, the bulk are distributed much more broadly, in fields ranging from business services to hospitality to consumer manufacturing to media. Only 11% are from government, education, or the non-profit sector. More than one-third (36%), however, are from industries that could be regarded as highly exposed to environmental liabilities: energy; engineering, construction, and architectural; healthcare and medical services; pharmaceutical and medical devices; and industrial manufacturing.

Organizations represented in the survey are predominantly large ones, 72% employing 1,000 or more and 41% employing 5,000 or more persons. Likewise, over half (52%) of the organizations reported US$1 billion or more in sales or revenues in 2011. Organizations represented are also heavily multinational in their reach, almost two-third (65%) having a physical presence in more than one country and 42% in 11 or more.

Almost half of respondents themselves are either involved in these decisions in an official capacity (41%) or directly responsible for decisions regarding environmental risk management at their organization (7%). Sixty percent of respondents are CROs or risk managers, while only 8% are C-suite or board members. Others include departmental and business unit heads or other managers, consultants, and other executives. Likewise, almost half (46%) named risk management as their department or function; together with finance, these represent almost two-thirds (63%) of the total.

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