D&O insurers take a closer look at ESG issues in the retail sector

As insurers begin taking a greater interest in environmental, social, and governance (ESG) factors when reviewing a directors’ and officers’ liability (D&O) insurance policy, retail companies should prepare for added scrutiny to their operations.

More than just environment

Interest in the environmental impact from companies has been on the rise in recent years, but more recently we have seen social and governance concerns creep up the pecking order among insurers dealing with D&O policies at retail companies.

Social initiatives like the Me Too and Black Lives Matter movements have seen a greater emphasis placed on board and management diversity. Further, corporate culture and the behaviour of directors and executives has seen insurers taking the impact from reputational damage into greater account.

Companies that have been caught in the crosshairs of advocacy groups, employees, and shareholders have been subject to litigation and campaigns focused on ousting executives, or else targeting director remuneration. Further, businesses faced regulatory interventions and investigations into supply chains, environmental impact, and disclosures related to social and climate issues within retail companies.

Corporate disclosures offer stakeholders additional opportunities to showcase ESG-led initiatives. Dow Jones offers ESG assessments to S&P-listed companies to examine sustainability efforts. The FTSE Russel offers similar structure for UK-listed companies, assessing the social and environmental impact of supply chains labour standards, and corporate governance standards. These options allow businesses to communicate with investors clearly, setting benchmarks for their own models, and giving them the ability to compare ESG scores against peers in an authoritative manner.

ESG is captivating a far wider audience today, though organisations which have historically pushed for improved ESG disclosures and measurements have laid the groundwork for other to follow. In 2015, the Financial Stability Board introduced the Task Force on Climate-related Financial Disclosures (TCFD) which has since pushed for improved environmental disclosures. Other institutions include the Global Reporting Initiative, which has sought to improve sustainability reporting for companies of all sizes in a bid to better understand a company’s impact on the economy, environment, and people.

There is also the International Sustainability Standards Board, created in November 2021. The board will seek to expand on the work already done by the TCFD and move towards creating a universal standard for environmental impact, before broadening out to both social and governance-focused factors as well. These entities are designed to make the impact of ESG more transparent, and in turn, improve the ability to assess risk at companies when it comes to ESG.

Increased attention on ESG has meant insurers are taking a more guarded approach to D&O policies, seeking more information on a company’s current and future strategies in terms of environment, social, and governance issues.

Questions D&O insurers may ask retailers:

  • Do you have a carbon neutral strategy and how is it communicated?

Many companies have already begun adapting to the “green economy” with initiatives which target improved sustainability and clear targets for carbon emission reductions. Being able to show a clear intent to achieve carbon reduction targets in a clear time frame will demonstrate a clear environmental initiative. The way companies promote these initiatives will also assist in making them more attractive. Transparency regarding environmental disclosures is essential, with the minimum being an inclusion of sustainability and climate strategies in a company’s annual report. Beyond this, companies with dedicated sustainability reports, clear, forward-looking strategies to tackle environmental issues within it, and other shareholder disclosure material will all help in demonstrating good environmental and social management.

  • Is the board and management responsible for ESG issues?

The ESG-driven impact on D&O insurance is largely down to reputational risk, tied to concerns over negative events a company may face. Consequently, retail companies should demonstrate an actively engaged board with clear oversight of a business’ ESG strategy, pre-emptively addressing major supply chain, labour, or environmental issues. Having a dedicated ESG officer as part of a management team is a common move to address this. The position demonstrates a company’s willingness to improve ESG standards within itself and provides a clear point of contact for ESG-related strategy progression, along with providing a board a clear liaison for ESG activity. Another route retail companies can consider is basing remuneration and other compensation on ESG targets.

  • Are there clear commitments to diversity and human rights?

Insurers are looking beyond environmental concerns in D&O coverage now, as concerns of reputational risk to a company are affected by racial and gender issues, while scandals concerning labour practices have demonstrated the impact they can have on businesses. It is therefore essential that companies take these factors into account when communicating with stakeholders and the wider market – early transparency and communication over the possible implications a company’s finances may face regarding fines, lawsuits, or investigations into facets of the business which tap into social standards. Again, clarity and transparency are the tools for the job. Retail companies are perhaps more clear cut in this sense, with oversight of international and domestic suppliers working conditions an essential point for clarity. Insurers will want to know how often reviews of suppliers and working conditions of domestic and international factories are, along with clarity in the company’s ethical stance on modern slavery. Diversity initiatives focusing on representation of women and people of colour on the board and in management will also be seen as green flags to insurers, while wider social initiatives focused on community projects assist in tapping into a company’s social prowess.

  • How do you monitor supply chains for good ESG practice?

Retail companies which use domestic or foreign supply chains will also benefit from monitoring and auditing these facilities to ensure ESG-friendly will be cost-beneficial to businesses in the long-term. Essentially, companies will want to ensure that the supply chains they partner with do not possess any major red flags, be that regarding climate or social components. Carrying out annual in-person assessments of factories should be a minimum for companies with partnering supply chains. Visits to sites will allow companies to gauge the working conditions of supply chains, while businesses should also investigate the working culture of supply chains and the regions they operate in to ensure workers are not being subjected to human rights violations. Companies should also consider the environmental impact supply chains have. Ideally, companies will have already sought to optimise the supply journey for minimal carbon footprint impact, with a minimum move being an audit of suppliers’ climate impact, and targets for them both to move towards minimising this.

Having an engaged relationship with supply chains will keep companies in good stead when it comes time to renew D&O policies. Insurers which see companies taking a proactive approach to their partners will be more confident in knowing a business is not a possible liability due to external factors of its supply chains.

For further information on how ESG could impact your D&O policies, and what actions you can take, please contact:

Michael Kay, Head of Retail Practice Group

T: +44 (0)1618 283304

E: michael.kay@lockton.com

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