Governing for Good

Environmental, social and governance (“ESG”) considerations are increasingly important for business success. A sharpened focus is being placed on ESG matters by stakeholders, including potential corporate buyers, investors and partners, as they themselves continue to face greater pressures to uphold a higher standard across the industries and geographic regions in which they operate. For companies in the life sciences and healthcare (“LSHC”) sector, there is an inherent focus on social factors, and environmental issues (especially climate change) are now firmly in the mainstream. The “G” element in ESG has typically received less attention but its significance shouldn’t be overlooked because good governance is seen as a positive indicator and can be a business differentiator. Getting governance right upfront is key – good governance can mitigate legal, financial, reputational and regulatory risks and also create opportunities in a competitive market. 

Stakeholders’ expectations

ESG scrutiny in dealmaking, including mergers and acquisitions and private equity, is set to increase in the coming years. Potential corporate buyers and/or investors will have their own reputation and ESG policies in mind when considering a transaction and the scope of due diligence required on the target business. A target business that can credibly demonstrate that they are “ESG compliant” will put themselves at an advantage, being able to generate market interest and potentially achieve higher valuations from prospective buyers and/or investors. 

So what is good governance?

Good governance goes beyond legal and regulatory compliance or risk management frameworks – it’s also about running a business responsibly and sustainably, and should be reflected throughout a company’s business including its supply chain and any joint venture partnerships. Key elements of good governance include:

• Board diversity: For companies operating in the LSHC sector, the focus should be on developing, implementing and/or maintaining robust governance frameworks and then keeping them under review. Good governance will naturally be led from the top and having a diverse board in place is important. Where certain groups (e.g. women and/or those from minority ethnic groups) are underrepresented, businesses should consider positive action to address this. Target-setting in recruitment and promotion is a common example of a positive action initiative. However, beware – lawful positive action is a fairly limited concept in the UK and initiatives must be considered on a jurisdiction-by-jurisdiction basis.
• Executive pay: Companies are increasingly including ESG metrics as a measure of success in bonus and longer-term incentive scheme arrangements, including more than 90% of FTSE 100 companies [See Deloitte report “Investor support for FTSE 100 CEO pay rebounds despite return to pre-pandemic levels” (30 May 2022) (Investor support for FTSE 100 CEO pay rebounds despite return to pre-pandemic levels | Deloitte UK)]. ESG metrics might include business performance on environmental matters (e.g. progress towards net zero targets), avoiding significant or repeated notices or fines from the MHRA and other regulators, avoiding adverse legal judgments and settlements, implementing measures to address pay disparity and underrepresentation amongst the workforce and improving employee engagement. 
• Anti-Bribery and Corruption (“ABC”): Effective ABC policies and procedures are central to good governance. This is particularly important in the LSHC sector where the risk of corruption can be more acute due to the often global nature of the supply chain, the highly regulated environment and frequent contracting with the public sector. That LSHC businesses can have a direct impact on public health is another reason why the sector has to hold itself to the highest standards of ethics and integrity. A well-developed ABC policy helps to set the tone for a company’s culture. It will be most effective where it has been clearly communicated to and is understood by the workforce, is backed up by robust operating procedures including workplace training, and is regularly reviewed. 
• Supply chain due diligence: Ensuring that a company’s supply chain reflects the company’s commitment to sustainability and ESG values is part of good governance, particularly in view of the increasing number of laws and legislative proposals obliging companies to do so. For example:
  • Human rights and the environment: The European Commission is proposing a Directive on Corporate Sustainability Due Diligence (“Directive”) that would compel EU companies and non-EU companies with EU turnover across all industries, including the LSHC sector, to carry out due diligence across their groups and supply chains to identify direct and indirect adverse human rights and environmental impacts of their business. The proposal envisions obliging companies by law to take action to mitigate any undesirable impacts and incorporate sustainability and human rights considerations into their corporate governance and management systems. The Directive is expected to apply to non-EU companies with a net turnover in the EU of €150 million or more, or just €40 million or more if the company operates in certain sectors.
  • Modern slavery prevention: In the UK there is a requirement for certain commercial organisations which supply goods and services to publish an annual modern slavery statement setting out the steps that the organisation has taken to ensure that slavery and human trafficking is not taking place either in its supply chains or in parts of its business. For companies in the LSHC sector, the complexity of the supply chains (which are often global) can be a challenge for good corporate governance, and can for example present a greater risk of modern slavery practices occurring. Companies should carry out thorough due diligence on suppliers and partners and seek to engage them on contractual terms that reinforce the company’s commitment to corporate sustainability, including anti-slavery, and their compliance with all relevant laws, rules and regulations. Regular audits should also be conducted to confirm that suppliers and partners, particularly those in higher risk jurisdictions, remain compliant. 
• Whistleblower protections: Where actual or potential wrongdoing occurs, it is crucial to good governance that a company can (and does) identify and address it. Companies should have whistleblowing policies and procedures that empower staff to raise concerns about actual or potential misconduct without fear of reprisal, knowing that their concerns will be taken seriously. Workplace training on how to conduct effective investigations and what to do if misconduct is uncovered is crucial. Exposed cover-ups can undo years of good work.

Summary

ESG considerations may not have been front of mind so far but it is not too late to address this. Relevant policies and procedures can be audited, and remuneration arrangements reassessed with ESG metrics in mind to improve governance frameworks. Going forward and in years to come, corporate development, legal, compliance/ethics and reward functions should all have ESG considerations front and centre in setting up new projects, and expanding and developing their businesses. Committing to ESG matters is a predictor of success, and it’s the right thing to do.