• Isn’t ESG boring? Don’t be so sure. A dramatic shift took place in 2022 as ESG went from being a nice-to-have to something that increasingly influences corporate strategy.
• Here’s how: ESG really had to move beyond its compliance and accounting origins if it wanted to have a more profound effect on the business world. Thankfully, it’s done just that.
• What’s next: ESG has huge commercial potential for businesses that know how to identify risk and turn it into opportunity.

Let’s dig in:

When I talk to ESG professionals, I’m always struck by the “boring” reality of ESG. While BlackRock and State Street executives were being grilled by Texas lawmakers over their ESG investing this week, most corporate ESG professionals were busy inputting data into Excel spreadsheets. The political backlash against ESG and the day-to-day reality of ESG at companies is, in other words, worlds apart. 

But there’s an issue with labeling this reality as boring. For the most part, the reporting aspect of ESG isn’t strategic. It won’t by itself change the way a company operates or how it plans to grow in the future. 

If there was one major ESG trend in 2022, though, it was companies are beginning to make ESG tenets central to corporate strategy, and that’s something that involves creative problem solving and innovation—aka the stuff that’s not boring.  

Corporate ESG departments haven’t been around that long. And so far, they have mostly fulfilled two roles. They ensure that companies comply with mushrooming regulatory updates, and they allow companies to be considered for ESG indices, which attracts investments from passive investors the world over. 

These functions alone were enough to create a backlash against ESG. Free-market ideologues have never liked the idea of regulation, much less if it constrained companies’ environmental and social practices. And as the exclusion of Tesla from S&P’s ESG index (and its subsequent stock price drop) has shown, these indices can be canaries in the coal mine for a company’s public valuation or reputation.  

This year’s move beyond ESG’s compliance and accounting origins allows it to have a more profound impact on the business world, says Kristen Sullivan, a partner at Deloitte and the company’s Sustainability and ESG Services leader.

“A dramatic shift occurred in the past year,” Sullivan told me. “The recognition grew that [ESG] reporting is a tool, but not the sole intended objective [of ESG]. Increasingly, ESG informs strategy.” 

I’m always wary when a services company sells me on a trend they happen to have a solution for. But when I traveled to Italy last month for a shareholder and management retreat organized by Sibelco, a multinational mining company, I saw firsthand the shift from ESG as a “nice to have” to something that is core to corporate strategy. 

In private conversations, the CEO, CSO, and other senior leaders of the company told me about their sustainability journey. It included, just as Sullivan had outlined, an evolution from mere ESG reporting to input for a survey, or “materiality assessment”, on the ESG issues that are most important to a company’s stakeholders—and most impactful to its bottom line. In a nutshell, the spaces where companies can turn risk into opportunity.

Most important to the respondents of Sibelco’s survey? You guessed it: CO2 emissions. 

Now, it’s one thing for a company’s stakeholders to want it to lower its carbon footprint. It’s quite another to find out that doing so may be critical to the company’s future business model. In response, Sibelco studied promising carbon capture technologies and concluded that one of them fit well with its expertise. 

This week, Sibelco announced it would be investing in Eion, a New Jersey-based carbon removal company. The technology created by Eion, Sibelco believes, may allow mining companies to transition from emitting carbon to capturing it, allowing Sibelco to turn the risk posed by CO2 into a commercial opportunity.   

Outcomes like these don’t come as a surprise to Sullivan. “Once you complete a rigorous materiality assessment,” she told me, “you can more intentionally integrate climate risks into enterprise risk management. You can see where you can invest to capture potential, and where [you] should limit risk.” 

It left me with one major question: If ESG ultimately is about strategy, why is it so controversial? 

Sullivan gave me a cautious response. With ESG, she said, “you start from the point of view that business has an obligation for the impact it has. That’s not the foundation U.S. business has had.”

Thanks for reading. Impact Report will now go on hiatus for the holiday season, and will move to Thursdays in the new year. The next Impact Report will be sent on Jan. 5. Happy Holidays!

Peter Vanham
Executive Editor, Fortune Impact and Connect
@petervanham
peter.vanham@fortune.com

Also on our radar:

Microsoft’s new chief sustainability officer joins from Biden’s White House
Melanie Nakagawa was appointed as the new chief sustainability officer of Microsoft this week, reporting directly to company president Brad Smith. Nakagawa joins directly from the White House, where she served as special assistant to President Joe Biden, and senior director for climate and energy in the National Security Council. Nakagawa’s previous experience also includes a stint in Obama’s White House in 2016-2017.  Nakagawa’s appointment comes as Microsoft doubles down on its climate commitments, which include being carbon-negative, water-positive, and zero-waste by 2030, and to partner with its clients to reduce their emissions. Microsoft was also one of the companies earlier this year that advocated for Scope 3 emissions disclosures in the upcoming SEC rules.

ESG goes mainstream in executive compensation
In our inbox: “Seven in 10 S&P 500 companies (69%) reported in this year’s proxies they use at least one ESG metric in their executive incentive plans, an increase from the 60% they reported last year. And growth is occurring in both short- and long-term incentive plans,” WTW, a consulting firm, noted in a new study. Surprising? Not so much. The backlash against ESG, we know, is mostly a political one. But U.S. companies do have some catching up to do with Europe. The study also found that “90% of European companies include at least one ESG measure in their executive incentive plans.” The use of ESG metrics in European long-term incentive plans more than doubled in the past two years, reaching 44% this year, compared to only 8% among US companies.