What can businesses learn about raising corporate governance standards from their experience of grappling with social, environmental and ethical concerns?

Indices and rankings are heavily dependent on information that companies disclose about their performance. Providing information about governance practices might seem more straightforward than reporting on the wide range of issues covered by corporate responsibility. Best practice, as set out for example in the UK’s combined code, is clearly defined and widely accepted. By comparison, society’s expectations of companies resemble shifting sands.

There is, however, a growing case for governance to be more than a simple matter of ticking boxes, divorced from wider issues of corporate responsibility. “It’s about going beyond box-ticking and getting good governance into the culture of the company,” says Patricia Peter, head of corporate governance at the UK’s Institute of Directors. “It’s about having an effective board, a well-managed company and good risk and reputation management. Corporate responsibility and corporate governance are both elements of the board’s overall role.”

This wider interpretation is reflected in the OECD’s revised principles on corporate governance, which cover the rights of stakeholders, such as employees and suppliers. The document says: “The governance framework should recognise that the interests of the corporation are served by recognising the interests of stakeholders and their contribution to the long-term success of the corporation.”

In South Africa, the second King report on corporate governance urges listed companies to embrace social, environmental and economic issues as a way of doing business. In May, the Johannesburg Securities Exchange launched a socially responsible investment index measuring companies’ policies, performance and reporting in these three areas, as well as their governance practices.

In the UK, the forthcoming requirement for 1,300 listed companies to publish an operating and financial review, setting out factors including social and environmental ones that affect performance, could encourage boards that do not yet do so to make corporate responsibility a central part of strategy.

Many companies, notably in the US, continue to see governance purely in compliance terms, says Geoff Lye, director of SustainAbility, a long-established business consultancy on corporate responsibility. He argues that sticking to this narrow view could damage long-term shareholder value.

Companies are vulnerable to an increasing range of risks, both legal and moral, as expectations of business increase. New areas of liability, including climate change and human rights, are emerging that would not have reached the radar screen of most companies a decade ago, he says in the report “The Changing Landscape of Liability”.

The danger of relying on a purely compliance-led approach is illustrated by obesity, which has become at least partly a corporate responsibility issue. Food companies used to assume they had fulfilled their responsibilities if their products were manufactured, tested and labelled in accordance with relevant rules and regulations, says Mr Lye. “That model was smashed in the last five years – now they are scrabbling to reduce salt, fat and other ingredients.”

According to SustainAbility, as yet only a small number of companies demonstrate in their reporting how they integrate social and environmental considerations into governance processes at board level.

One company that is attempting to do this is MMO, the UK mobile operator. Each board member has the task of “championing” areas identified as key risks for the company. Peter Erskine, the chief executive, has responsibility for social, environmental and ethical risks.

These kinds of risk matter increasingly to investors, who are seeking not only more detailed but also more relevant information about companies. In a striking reflection of this trend, Bob Monks, the US corporate governance activist, has taken a stake in Trucost, a London-based environmental research agency, saying that green issues will soon have the same impact on share performance as corporate governance.

“Shareholders who are more informed will make more money,” he says.

Another illustration is the way that Standard & Poor’s, the credit rating and investment research provider, assesses companies’ relations with stakeholders such as employees, customers, suppliers and local communities as part of its corporate governance analysis.

In Risks Opportunities, SustainAbility’s latest research into non-financial reporting, George Dallas, managing director of S&P’s governance practice, acknowledges that equity analysts often see such issues as a diversion from the main factors driving investment decisions.

In the UK, the policy committee of FTSE4Good, the ethical investment index, is examining how governance fits with corporate responsibility, with a view to introducing criteria on boards’ role in promoting the latter.

Do indices and rankings make a difference? They are factors that mainstream investors would take into account, says Craig Mackenzie, head of investor responsibility at Insight Investment and chairman of the criteria committee of FTSE4Good. “If a company isn’t in FTSE4Good, that’s a crude indicator of its record on CSR. If it is in the Dow Jones SAM index, which is quite hard to get into, that’s a positive sign. But investors still have to do due diligence.”

The bigger impact is on companies themselves, which use inclusion in these indices, or in rankings such as Business in the Community’s corporate responsibility index, as a badge of approval to show to governments, regulators, employees and investors.

The competition to be included in such rankings, and then to win a place at the top, is “quite powerful at driving change in companies”, says Mr Mackenzie.

Financial Times, 15 December 2004