What Middle Market Companies Should Know About ESG and Sustainability in 2023

Maram T. Salaheldin, Senior Attorney at law firm Clark Hill, joined our colleagues in January of 2023 for a Solutions InSight discussion on how middle-market business leaders can turn an effective ESG program into a competitive advantage, particularly during the rise of ESG-related enforcement and lawsuits. This article synthesizes some of the key takeaways from that discussion.

In the past, ESG has been a conversation focused primarily on large enterprises and publicly traded companies. But the web of ESG requirements that apply to middle-market companies is rapidly expanding and becoming more complex. This year, middle-market companies will have to start paying attention to ESG and sustainability trends that may not have been on their agenda previously to remain competitive.

New ESG and Sustainability Requirements Affecting Middle Market Companies

In 2023, we expect to see an evolution of the ESG efforts started in the past few years, specifically an increase or continuation of enforcement activity, litigation, ESG-related lawsuits, and regulatory activity. Globalization has been a big theme for the past 20 years, pushing our supply chain further out and making companies dependent on the global market for raw supplies. Some organizations are finding these trade agreements and far-shoring dependencies aren't working, and more large companies are opting for near-shoring and looking for suppliers in the national market. U.S. middle-market companies will get more demand from these big corporations, many of which have agreements and obligations to their shareholders for ESG efforts, and these obligations pertain to their suppliers. Middle-market companies will get pulled into ESG reporting obligations depending on their footprint and size.

U.S. middle-market companies are already being subjected to some of these ESG requirements indirectly through flow-down provisions or cascading requirements. For example, there's a lot of business between the E.U. and North America in the automotive and manufacturing sector. The E.U. has one of the most aggressive green strategies in the world right now, pursuing de-carbonization at a much more rapid rate than many other jurisdictions. At some point, many North American companies sell parts or finished products to customers in the E.U. and become directly or indirectly subject to the E.U.’s ESG and sustainability requirements, which are already in place and will only become more stringent in the coming years.

Creating an Effective ESG Program

There is no one-size-fits-all solution when it comes to creating an effective ESG program. Whether a company has started an ESG program or is thinking about starting one, there may be a temptation to bite off more than they can chew when looking at what other companies are doing. However, ESG programs must be sustainable, realistic, and customized to a business's operations. The ESG movement's central premise is to ensure companies have the data and metrics to back up their statements, so companies should only create initiatives they can fulfill. If you're making unsubstantiated claims or claims you can't back up, you could find yourself challenged by an agency, your shareholders, the public, or any of your consumers or customers. ESG is an area in which to be proactive, but also cautious and prudent to avoid legal trouble.

ESG as a Competitive Advantage for Middle-Market Companies in 2023

Given the economic downturns and concerns of a recession, many organizations are tightening their budgets on ESG and sustainability initiatives. However, in 2023, middle-market companies can no longer consider these initiatives as cost centers—they are tools to compete in an environment with increasing regulations and expectations from the public, shareholders, and other stakeholders.

At its core, business sustainability is about setting your company up so it can continue operating long-term. Cutting costs on ESG and sustainability efforts may save companies some money in the short-term but could cost them in the long run. ESG can be a competitive advantage and a mechanism to help CFOs get better funding in the market and negotiate better contracts with their suppliers. Companies well-invested in ESG and sustainability can leverage their ESG metrics to get better insurance rates, new investors, and new opportunities that weren't available, as investors and stakeholders are demanding more of this information than ever.