Interconnected Global Risks: No Man, or Business, Is an Island

Mervyn King, Chairman, International Integrated Reporting Council | April 16, 2014 |

The 2014 Global Risks Report published by the World Economic Forum (WEF) lists a number of familiar challenges faced by businesses and economic policymakers. Financial crises, unemployment, and water crises top the global risk register this year. The fascinating aspect for me, as chairman of the International Integrated Reporting Council, is highlighted in WEF Chairman Klaus Schwab’s foreword to the report: “Conceptual models are needed to define, characterize and measure the potential negative impacts of interconnected global risks.”

Schwab’s conclusion is telling. Far from isolated, these risks now pose an interconnected threat to the global economy and, by extension, to the way we do business.

Four of the 10 most significant risks profiled by WEF relate to the intersection between mankind’s increasingly complex, and potentially catastrophic, relationships with nature: water crises (#3), climate change (#5), extreme weather events (#6), and food crises (#8). WEF says instabilities caused by these risks “may hinder progress on cross-cutting, long-term challenges and lead to increased inefficiencies and friction costs in strategically important sectors, such as healthcare, financial services, and energy. Managing this uncertainty will require flexibility, fresh thinking, and multi-stakeholder communication.”

The challenge of designing an economic model capable of identifying, and then responding to, systemic and interconnected risks is something the G-20 has been grappling with since the onset of the global financial crisis in 2008. It is also an urgent matter for businesses, which make up around half of the world’s largest economic entities. The concept of “connectivity” of information in a business context acts to bring together the different parts of a business in recognition of the interconnections between them. It forces a new kind of behavior—what we call “integrated thinking”—and is a central principle of integrated reporting, a new corporate reporting model being trialed in approximately 25 countries and embraced by companies as diverse as Hyundai, PepsiCo, National Australia Bank, and Unilever.

In many ways, we are pushing at an open door. As Professor John Kay’s report on equity market short-termism in the UK found, incentive structures embedded in business and investment practice have accelerated the trend toward short-term thinking and decision making. This has led, in turn, to increased volatility and instability, causing damage to the pension funds of ordinary savers as well as to business investment. Take Japan as an example: the average shareholding period at the Tokyo Stock Exchange was more than five years in 1992 but has shortened over time and is less than one year today.

The public policy consequences of these issues are explored in a highly anticipated report from a group of Japanese business leaders chaired by Yoshimitsuko Kobayashi, president and CEO of Mitsubishi Chemical Holdings. The report was commissioned last year by Japanese Prime Minister Shinzo Abe to explore ways of improving the market economy and to promote long-term investment. It says that “active communication” on the part of businesses will “eliminate asymmetry of information between fund providers and receivers and will help companies secure access to funds.” It concludes, “Integrated reporting is thus effective in describing the entirety of the company’s activities. If investors and other stakeholders come to fully understand the overall value to be created by the company as a result of its efforts for integrated reporting, etc., this will help the company’s medium- and long-term growth.”

The report made a direct connection between a business’ responsiveness to stakeholder expectations and the creation of long-term financial value for investors: “Japanese companies have improved their overall value by placing importance on various stakeholders, including shareholders, employees, customers, business partners, and local people.” Indeed, a 2013 survey commissioned by a task force of the Japanese Ministry of the Economy, Trade and Industry found that those Japanese companies that were responsive to a range of stakeholders, not just investors, generally enjoyed higher levels of growth.

The evidence base supporting change and, critically, the business, economic, and societal benefits of doing things differently is increasing. In January, research published by George Serafeim at Harvard Business School showed that “more integrated reporting is associated with a more long-term investor base” in the most extensive study of the US market to date. Serafeim found that, “Integrated Reporting is positively associated with percentage of shares owned by dedicated investors and negatively with percentage of shares held by transient investors. An interpretation of this result is that firms practicing Integrated Reporting not only attract dedicated investors but also become unattractive for transient investors.”

I urge businesses to join this journey toward better quality, more meaningful corporate reporting that acts as a catalyst for behavioral change, and long-term thinking. The outcome is a better understanding of how sustainable value is created, more valuable disclosures that lead to better managed risks, lower volatility, and improved performance.

Businesses sit at the junction where the economy and society meet—far from being apart from society, businesses are an integral and vital part of it. In the words of the poet, John Donne, “No man is an island, entire of itself; every man is a piece of the continent, a part of the main.”

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