Sustainability First's Fair for the Future Project was launched two years ago to answer the questions: how should utilities such as energy, water and communications better address the politics of fairness and the environment in a disrupted world? How might fairer, more sustainable business models contribute to this? and What are the implications of this for policy and regulation?
This predates, but is now reflected by, wider discussions about stakeholder capitalism, the future of the corporation and the meaning of a public purpose company.
Little did we know when we launched the project the sheer scale of 'disruption' which utilities and the wider economy would face. Covid-19 is only the last, though in at least the short to medium term the most severe, of these disruptors. It started with the threat of nationalisation accompaniedby reputational hits from big fines for environmental pollution, misreporting of data and the big freeze. It most notably saw the long term landscape turned on its head by the climate rebellion, the net zero commitment and the increasing pressure from investors to demonstrate Environment, Social and Governance (ESG) credentials.
It would be a brave commentator who did not expect further shocks to follow over the next few years, and an even braver one to suggest what these might be!
Our central tenet is that by adopting a sustainable and fair business model, a more proactive approach and a better understanding of social and environmental risk, companies can achieve a 'Sustainable Licence to Operate'. This can improve business performance and sustainability, help prepare better for the inevitable shocks which occur in a disrupted world and enable companies to gain the trust and third-party endorsement which can help them to ride out the problems or mistakes which inevitably happen. This is even more true in the light of recent events.
Covid 19
A focus on public purpose is meaningless unless it is put into action in a crisis.Utilities, as providers of essential services and critical infrastructure, are very much in the front-line of the pandemic.How they put talk into action in the current emergency – as companies in their own areas of operation but also how they collaborate as sectors - is vital.
So far, utilities appear to be 'having a good war.'Their key workers seem to be doing a great job of keeping the lights on, the water flowing and communication networks running. Good companies are empowering and supporting their staff in difficult circumstances to do the right thing, and thinking about what the crisis means for their customers. If this continues, it should increase trust and provide a breathing space.
It is not so much the short term Covid 19 lockdown, however, which is likely to have lasting consequences as a number of the further disruptions it seems likely to trigger.
On the economic front, a deep recession will have significant implications across the board for utilities.The step change in the magnitude of deprivation faced by an increasingly large proportion of society is the most pressing. Companies are already facing pressure to reduce bill impacts and a growing vulnerability agenda.
A major short-term fiscal stimulus, with deficit and debt ratios returning towards levels last seen after the 2007 crash, is also likely. With very low interest rates and a historically extremely low yield curve, monetary policy simply does not have the bandwidth to play the stimulus role it did after 2007.
Slightly longer term, there may be voices calling for be a return to austerity. This author suspects that there will continue to be a role for spending on infrastructure capital as part of a post Brexit fiscal and productivity/competitiveness agenda but that difficult long-term decisions such as decarbonisation of heat will be pushed right. Might a Carbon tax help square the circle?
A widening between investment grade and non- investment grade costs of debt and flows into safe havens such as the dollar, gold and (potentially) regulated utilities is also to be expected.
Business practices are also changing.A re-examination of approaches to supply chains, away from 'Just in Time' and from over- reliance on third country sourcing, is also likely to occur.An increased emphasis on the benefits of and willingness to fund resilience/security of supply, with politicians becoming more risk averse, is already happening. The inevitable lessons learnt enquiries will however take some time and energy out of everyone involved.
An acceleration of changes to 'the nature of work' and to digitisation are also occurring. Things which might have taken years have been done in days and will not wholly unwind. Depending on the 'stickiness' of new behaviours, this could in turn lead to changing patterns of energy and water demand.
Other disruptors
The changes brought about by Covid come on top of a range of other disruptors. Most notable is the net-zero commitment and the public and local government focus on mitigation through the climate emergency movement. There is also a growing awareness, including through the winter floods, that climate change is happening, and that adaptation is not something which can be indefinitely delayed.
Changes in the political landscape, with a majority government, an opposition which is potentially less ideological and more electable, and an increased focus on devolution and the regions and notably the north south divide are also reshaping the business environment.And, of course, this is in the context of successive delay to and uncertainty surrounding Brexit and what form this will take.How far the deregulatory agenda takes off as we come out of the pandemic and try to reduce costs is also an open question.
The investment world is also changing.This includes a growth in and mainstreaming of the wider 'public purpose' agenda, with ESG moving centre stage in financial markets, a push to go beyond this with Impact Investing, and the former governor of the Bank of England actively pushing net zero as something which banks and others need to mainstream.
A number of utility companies have responded (in some cases under real or perceived pressure from regulators and government and following high profile reputational hits from real or perceived underperformance) 'putting their own house in order': for example by moving toward an overt public purpose ethos; reducing investor returns/establishing dividend holidays; and moving away from the use of offshore holding companies.
There has also been a growing acceptance that stakeholder and customer engagement is not only here to stay but requires further enhancement. Increasing interest in next generation tools such as deliberative fora (spurred on by Climate Assemblies) has increased.
And of course, there has been a water price review which has seen a significant number of appeals to the CMA, including from companies which have been seen as actively pursuing the public purpose agenda, offset by an Ofwat future strategy which is genuinely forward looking. There are also indications of a tough approach to financing issues in RIIO2, tempered by a clear and public Ofgem commitment to net zero.
Implications for public purpose, responsible business and the Fair for the Future Project
So, what do these developments mean for the public purpose agenda in utilities, as examined in our Fair for the Futures project?The 'Sustainable Licence to Operate' proposals we have developed and tested with stakeholders[i] still hold good, although companies should, of course, bring these together into a holistic approach:
Pillar 1: Public purpose, values and culture – There can be little doubt that the disrupted world is here to stay. The fundamental case for a focus on public purpose in essential services therefore remains as strong or stronger than ever.The focus on why the company exists, its culture and values, enables people (employees, customers and wider stakeholders) to be empowered to do the right thing in a responsive, flexible and sensitive way in uncertain times;
Pillar 2: Making best use of different types of capital: competition and collaboration – as we are seeing, collaboration comes to the fore in an emergency.And companies need to make the best use of the full range of assets and resources that they have in difficult times – including their physical, human, and natural capital;
Pillar 3: Fairness: Expectations, roles and responsibilities - It seems to us that a crunch point may be coming in terms of the roles of government, regulators and companies.Regulators, and (at least so long as Brexit takes up so much of the policy bandwidth) even more so government, tend to lag disruptive shocks in their behaviours and priorities, and may never quite catch up (or rather by the time they catch up with the last disruption the next one has changed the goal posts). That said, Ofgem's recent espousal of 'adaptive regulation', and the new Ofwat strategy, are positive signs that fixed term price reviews may be augmented by more continuous processes and longer-term thinking;
Pillar 4: Strategy and narratives that 'ring true' - The immediate impact of Covid 19 has distracted attention from the wider environmental agenda. The delay in COP26 could have a positive impact on commitment to net zero (retains government focus) or negative implications domestically. The jury remains out on whether the net zero and wider environmental commitment will remain as strong as previously once things stabilise – particularly given acute affordability pressures.However, crucially, there is now a 'critical juncture' to consider how recovery from the crisis can be more sustainable – smart, fair, and green. How company strategies ensure both a short and long-term focus is key.
This is vital to manage the tension between resilience and other longer-term issues and short-term reductions in bills - which is likely to be heightened by the emergency.Trusted approaches to help balance these requirements, and narratives that explain how and why this is being done, are needed now more than ever before.
Improving understanding of social and environmental risk and uncertainty and being able to better price and measure the materiality of these risks in a business, is also crucial in this disrupted world.The risk workstream in our Fair for the Future project has done significant work in this area.We've sent a checklist for board and executive teams to support strategic decision making to company CEOs and produced an accompanying briefing paper on Risk and uncertainty during the corona emergency. This builds on our detailed focus on 'dynamic risk factors' including: climate and environment; the consumer/citizen lived experience; civil society; and the media.
Our work has identified that conventional approaches to risk will not cope well with asymmetric shocks such as climate change – e.g. the implications of a 4- degree world are orders of magnitude greater than a 2- degree world. More work is also needed to place changes against future technology, the speed of its adoption and what this means in terms of practical uptake and the consumer/citizen lived experience.
Over the next year, we will bring together all our strands of work and thinking on risk – something which is obviously evolving as we speak given the Covid 19 pandemic. This will reflect forthcoming conversations with company secretaries and general counsel.
We will also produce a 'how to' guide on sustainable licence to operate, drawing on a number of case studies and a series of stakeholder workshops held over the last 18 months.It will also refer to the log that we are keeping of company and regulatory responses to the pandemic to see how all sides are putting purpose into action.This should provide useful and practical examples for responsible businesses who want to do the right thing.
Last, we will produce a Discussion Paper on the implications of the responsible and purposeful business agenda for regulators and policy makers.This will highlight some of the social, environmental and cultural metrics that can be used to provide assurance that companies and others are doing the right thing.The paper will be informed by a roundtable with energy and water customer challenge / engagement group chairs and by joint work with Slaughter and May on regulatory duties.
In this disrupted world all sides – companies, regulators, policy makers and wider stakeholders - need to come together to enable the delivery of fairer social and environmental outcomes.We'd welcome your suggestions as to how we can best navigate these choppy waters in this work.
[i] See Our Fair for the Future Mid-Way Report Delivering on fairness and the environment: An agenda for responsible business in UK regulated utilities