Double Materiality and Decision Quality: An Opportunity for the Courageous

Key Points

• An increasingly complex operating environment has left risk teams under strain at many companies. Traditional risk management tools are, in most cases, not equipped to handle interconnected challenges like climate change, geopolitics, and socio-economic disparities.

• Sustainability regulations offer an opportunity to rethink how we consider these cross-cutting, often existential challenges in corporate decision-making.

• For companies to be successful, however, they must take a more strategic approach to identifying sustainability impacts, risks, and opportunities and addressing findings in real-time when critical decisions are made.

Sustainability impacts have always presented business risks, but they’ve often struggled to gain traction in the face of more obvious and shorter-term operational and financial concerns. Emerging sustainability regulations have driven greater alignment and integration between practices in sustainability and risk management. The likes of the EU’s Corporate Sustainability Reporting Directive (CSRD) and its Corporate Sustainability Due Diligence Directive (CSDDD) will force a deeper integration of sustainability topics into the job descriptions of risk management practitioners.

On the face of it, this is a positive development—more alignment between how we understand different kinds of risk is a good thing. But, ensuring that integration results in better decision-making presents several challenges that companies will need to navigate.

First, traditional approaches to managing risk are often not equipped to handle the increasingly wide array of interconnected uncertainties—from climate change, to geopolitics, and societal polarisation. These defy the often ‘neat’ risk categories which are used to treat risks in discrete and self-contained ways as part of Enterprise Risk Management (ERM) frameworks. They raise difficult trade-offs, challenge values, and cut across organizational structures and siloes.

In addition to this is a second challenge that has long plagued traditional risk management. Approaches to ERM are—in the main—practiced separately from when and how companies make decisions. Risk information is too often collated, reported, and discussed as a compliance and governance exercise after companies decide to enter or exit markets, launch products, acquire competitors, set budgets, make operational changes, or major investments.

In spite of decades of ERM practice, the signs of strain are apparent. For instance, a recent study reveals that not only do the vast majority (83%) of risk professionals state that interconnected risks are emerging more rapidly, but 72% say that their capabilities have not kept pace.

As sustainability practices and risk practices converge, sustainability professionals need to ensure that their activities don’t similarly become perceived as a box-ticking exercise, struggling to keep up with the pace of change in the world. But this moment also presents an interesting opportunity for both sustainability and risk management practitioners to reexamine and reimagine how they influence the decisions that organizations make.

The CSRD’s mandatory Double Materiality Assessment (DMA)—which identifies sustainability topics most material to both companies and their key stakeholders—and the CSDDD’s requirement to identify, assess, prevent, and mitigate sustainability impacts together have the potential to provide the much-needed refresh to how companies navigate these challenges. 

Doing so, however, requires an approach to assessments that treats them as a strategic exercise, incorporated within—and as a key component of—organizational decision-making. DMA’s are in many ways the most comprehensive examination of a company’s sustainability-related impacts, risks, and opportunities. They can help companies identify tough trade-offs, prioritise sustainability initiatives, and navigate uncertainty and complexity successfully. However, doing so requires courage, and involves treating compliance as the by-product, not the objective of the assessment process.

With this in mind, we recommend three essential ingredients for success: 

1. Integrate and align internal approaches—Internal risk, sustainability, compliance, and other functions can get in their own way via the use of separate and sometimes contradictory methodologies and approaches, replete with their own jargon. Frameworks, processes, criteria and supporting systems can and should be designed with decision-makers in mind. That means the use of common understandable terms, methods, processes, decision-making criteria, heuristics, rules, tools, and related approaches that “join-up” clearly with one another. They should make the complexities faced by decision-makers more understandable. In integrating DMA, this may mean ensuring that a long enough time horizon is considered, external stakeholder views are incorporated and that both the upside and downside of outcomes are adequately reflected. 

2. Focus on decision quality—“Decision quality” is all about making the best possible decisions, based on what is known when decisions are made, not after the fact. A DMA can be an invaluable source of decision quality—but only if there is adequate focus placed on this. While DMA’s are often conducted as annual strategic exercises, their findings can have profound and positive reverberations throughout an organisation’s decision-making practices. For example, for large-scale, one-off decisions such as entering a new market or launching a new product, a review of the DMA findings or point-in-time DMA refresh can reveal a potential negative reaction from a key stakeholder, which may not have been identified otherwise. Similarly, the findings from a DMA can improve the quality of recurring decisions, such as choosing suppliers or dealing with customer contracts by integrating material stakeholder concerns into those operational decisions. However, to unlock these areas of value, both risk and sustainability practitioners must find ways to get involved in organisational decisions, when those decisions get made. 

3. Leverage the uncomfortable benefits of outside-in perspectives—One of the most powerful benefits of a DMA is its ability to surface alternative perspectives from key external stakeholders. Decision quality within organizations suffers adversely from a range of biases such as ‘groupthink,’ optimism bias and something called the “false consensus effect” in which we frequently overestimate how much others share our beliefs and values. Great decision-making involves seeking challenging views. This can be uncomfortable, but ultimately leads to better decisions and over time, better outcomes. By actively and regularly seeking views from a variety of critical stakeholders, a strategic approach to DMA can incorporate these benefits as a matter of regular practice. 

It is fortuitous that regulatory trends to align and integrate sustainability and risk management practices are occurring at a time in which a refresh in the latter is overdue. Businesses that lean into the challenge of getting this right—driving assessment results deep into decision-making—will ultimately empower choices in an uncertain world for themselves and their key stakeholders, while simultaneously doing their part to create a more just and sustainable world. 

If you’d like further information on BSR’s approach to double materiality or to discuss what’s right for your organization, please don’t hesitate to reach out to us. Wherever you are in your sustainability journey, we’d love to help!