Masa Njegovan, ESG and Sustainability Senior Manager at Deloitte – There is no competition and access to new markets without the green transition

More companies in Serbia are becoming interested in green transition after realizing the advantages it brings, such as higher competitiveness, access to new markets and improving the company reputation.

Deloitte assists companies to harmonize their operations with the legislative requirements, identify and use the possibilities that green transition provides and adopt sustainable practices and strategies. Masa Njegovan, the ESG and Sustainability Senior Manager at Deloitte Risk Advisory department, reveals how Deloitte helps companies in this area and why companies in Serbia should try the proactive approach in implementing ESG practices and reporting, in an interview with eKapija.

eKapija: The EU has set a clear path to decarbonize its economy by 2050 with its Green Deal and a series of public climate policies. How will the EU regulations affect the companies from Serbia and the region?

– Last week, the EU has made an important step towards adopting the “Fit for 55” package that aims to reduce greenhouse gas emissions (GHG) by 55% by 2030. Having in mind that the EU is the main export partner for the region with over 80% share in the total exports and that this region is strategically committed to the EU membership, it is almost certain that EU climate policies will hugely impact the operations of companies from Serbia and other Western Balkans countries. I am primarily referring to the Carbon Border Adjustment Mechanism (CBAM) which is designed to prevent the risk of so-called “carbon leakage”, which means moving carbon-intensive production abroad to countries where less stringent climate policies are in place than in the EU. CBAM aims to ensure the equal conditions for EU and non-EU business by applying fees on imports of carbon-intensive products that haven`t previously been exempted from domestic taxes.

After the adoption, scheduled for May 2023, EU CBAM will become the first cross-border carbon tariff in the world. The CBAM regulation will initially be applied to electricity, iron, steel, aluminum, cement, fertilizers and hydrogen with the view to extend the scope gradually to cover other goods (organic chemicals and polymers in the next phase). The CBAM is expected to enter the initial transitional period on October 1, 2023 during which importers of goods in the scope of the new rules will only have to report greenhouse gas emissions (GHG) created in the production process. The full CBAM will enter into effect on January 1, 2027 and it should be fully harmonized with the EU Emission Trading System (EU ETS) by 2034. By 2026, Serbia will introduce system for monitoring, reporting and identifying the greenhouse gasses in order to prepare for CBAM and comply with the obligations from the Paris Agreement. Hence, the companies in the region have to prepare for reporting on GHG emissions both at local and international levels.

Taking into the account the high carbon intensity of Western Balkans economies, EU CBAM presents a challenge to companies from the region that export the said products to the EU. Those companies will be exposed to indirect costs that will affect their competitiveness compared to the same products manufactured in the EU countries. Western Balkans companies will have to make strategic decisions in order to deal with EU CBAM rules. The companies will have to reduce carbon emissions in their operations if they want to avoid paying CBAM prices. That will require investing in new technologies, infrastructure and innovations and shifting to renewable energy sources (RES). Therefore, introducing CBAM may serve to motivate Western Balkans companies to speed up the green transition process and turn to more sustainable business models. This can lead to opening new market options, improving the competitive position and providing greater access to green investments and financing.

eKapija: It is often said that green transition is an opportunity for development for Western Balkans countries. Do the regional companies recognize the green transition as a development chance and how high is it on their list of priorities?

– When we talk about the green transition we have to bear in mind that we are at the start of a new industrial revolution – the era of producing clean energy technologies such as solar panels, wind turbines, batteries for storing energy and electrolyzers – which opens possibilities for new markets and creating millions of new jobs. The International Energy Agency (IEA) estimates that the clean energy technologies market will be worth USD 650 billion a year by 2030, which is over three times more compared to the current level, whereas the number of employees in this industry will increase from the current six million to 14 million.

According to this year`s European Investment Bank research, the lack of qualified workforce presents an obstacle to investing in the green technologies. Solar Power Europe estimates that the number of employees in the solar power sector in the EU will have to grow from 500,000 in 2021 to over one million by 2030 in order to reach the goal of having 45% of RES in the overall energy production. The realization of the new green infrastructure investment cycle necessitates a considerable number of employees in the field. This is an opportunity for the countries in the region to get out of the “poverty trap” and to strategically choose green technologies where they have the advantage to build competitiveness and create regional green ecosystems.

I believe that more and more companies will be turning to RES as a way to protect themselves from price fluctuations and signing long-term power supply agreements or building their own power production capacities, on account of the energy crisis and the increase in prices of electricity and other fuels. Beside the price advantage, RES are an easy way to reduce the carbon footprint and one of the key parameters of sustainable business that both buyers and investors keep track of. Deloitte research shows that the levelized cost of energy (LCOE) for solar and wind plants is already lower than the market price of electricity in Serbia. In addition, companies have access to green credit lines with favorable financing conditions for RES and energy efficiency projects.

Green transition in Serbia and in the Balkans is currently in the early stages of development. Still, we noticed a rise in companies` interest for green transition and sustainable business practices in the last several years. An increasing number of companies has started to recognize the advantages of the green transition, especially regarding higher competitiveness, access to new markets and improving their reputation. However, the priority given to green transition process as well as the human and financial resources for its realization, greatly vary among different companies. At Deloitte we strive to assist companies to harmonize their operations with the legislative requirements, identify and use the opportunities that green transition provides and to support them in adopting sustainable practices and strategies that will help them reach their sustainability goals.

eKapija: What are the risks that companies that don`t comply with the green transition requirements face?

– Companies that don`t harmonize their operations with the green transition requirements are exposed to many risks. I would like to single out the following:

● Regulatory risks: Companies that don`t observe and comply with the progressively stricter climate, GHG emissions and sustainability regulations, can be subject to penalties, business restrictions and increased costs of regulatory harmonization. Having in mind the plan for setting up a regulatory system for emissions trading modeled after EU ETS, the companies that don`t adjust their business with green transition requirements will have to buy CO2 emission permits in the future, which will directly impact their overall costs. For instance, the price of carbon in the EU ETS has exceeded 100 euros per metric ton of CO2 this year. If we consider that the the total GHG emissions in Serbia in 2020 amounted to RSD 44,55 million of metric tons of CO2, and that the stationary installations emitted 60% of the total amount, we can estimate that the Serbian economy could shell out up to EUR 2,5 billion a year, per the current GHG emission prices.

● Financial risks: Failure to meet the green transition requirements restricts access to financing and investments, since more banks are starting to obligate their clients to comply with the EU legislation and green transition goals. From the bank`s standpoint, companies with higher carbon footprint are more exposed to the transitional risks and are more likely to go bankrupt in the future, especially if they lack a strategic plan for transitioning to low carbon economy. In the future, banks shall “punish” those companies with unfavorable financing conditions and in more drastic cases, banks will reduce financing options thanks to the so-called “exclusion policies” related to fossil fuel usage and “controversial activities”.

● Supply chain risks: As more EU companies turn to sustainable practices, they are asking the same from their suppliers and partners. Such demands are mostly coming from the German Supply Chain Due Diligence Act that came into effect on January 1, 2023 and the similar regulation at the EU level – the Corporate Sustainability Due Diligence Directive – is being developed at the moment. in the worst case scenario, failure to meet the green transition provisions will lead to losing business connections and possibilities for cooperation with other companies that are committed to sustainability, and at best, it will require that companies observe the environmental standards and workers` rights.

● Competitiveness: Companies that don`t pay attention to the green transition can miss their chance to gain competitive advantage stemming from innovations, efficient technologies and sustainable business models. In the long run, these companies will have lower profitability and will be less competitive in the market that the companies that accepted sustainable practices, due to higher direct and indirect operational costs.

● Reputational risks: The public sphere is becoming more aware of the climate change issues and expects companies to take concrete steps towards sustainability. Deloitte research point towards a clear trend of change in consumer habits and lifestyles towards sustainability. Companies that don`t observe green transition might suffer damages to their reputation, which could lead to losing consumers`, partners` and investors` trust.

eKapija: ESG established itself as a dominant frame that helps companies with risk management and situations related to environmental protection, social and management criteria. Where should companies start when it comes to implementing ESG factors into business operations? What are some examples of good practice?

– ESG is a breakthrough in the fifty-year evolution of sustainable business that came about in the global consensus to go from voluntary to obligatory business standards which are based on integrating factors related to environment, society and corporate governance – Environmental, Social, Governance (ESG) – into business strategies, activities and corporate culture. The biggest change the ESG brought is the concept of double materiality. Profitability was the main standard for operating a company in the past. Today, companies have to use a two-dimensional approach where they make business decisions based on the impact ESG factors have on profitability and the impact the company has on environment and community. Integration of ESG factors into business operations is a lengthy process that calls for all interested parties to be involved. Since ESG is a new topic in these parts, we advise companies to educate their employees on ESG subjects before they start implementing them in order to ensure their support for successful implementation. So far, Deloitte has carried out dozens of such courses in the region, in various formats and on various topics related to ESG.

The first stage in implementing ESG standards is the analysis of materiality that identifies the topics most relevant to the company on account of its industry, business model and the interested parties The analysis begins by mapping out the wide range of ESG topics such as GHG emissions, use of natural resources, waste management, workplace conditions and respecting gender equality in leadership. Then, consultations are conducted with interested parties, including investors, suppliers, employees, clients and representatives of local communities within which the company operates so as to understand their needs and expectations as relates to ESG issues. ESG topics are then prioritized based on the analysis of gathered information and the end result yields the materiality matrix.

The assessment of the current condition of the company is performed after the materiality analysis, by revising its existing policies, practices and performances according to key ESG parameters and by identifying the space for improving so the company could harmonize with the regulatory requirements and best practices in the given sector. The next steps includes developing a comprehensive ESG strategy that determines goals, priorities and action plans for each ESG topic after which the strategy implementation begins across all business aspects. The company has to engage employees in the process, by giving them responsibilities and tasks related to ESG goals, and to form a managing structure within the company that will monitor the realization of ESG goals, in order to successfully implement ESG strategies. Sustainable business demands that companies be transparent about their ESG performances and it`s necessary to constantly keep track of progress, to improve performances and to regularly provide reports to interested parties.

Good practices vary depending on the industry and the circumstances the company operates in. Danish company Orsted is an excellent example of good practice in the energy sector. in a relatively short time. the company transformed from a business based on burning fossil fuels to one of the leading actors in the RES field that focuses on building wind farms. The company is aiming to become carbon neutral by 2025 and is consistently working on expanding the production of green energy.

We have great examples of good practice in the region too. Rimac Automobili from Croatia is the company that was strategically committed to reaching sustainability goals from the start. Rimac develops and manufactures electric cars, vehicle systems and batteries. The company contributes to reducing fossil fuel reliance and harmful gas emissions and it is dedicated to nurturing talents by investing in employee training and education with the aim to create high-quality jobs in Croatia.
We shouldn`t neglect the role of small and medium-sized enterprises that are often more flexible with innovations than the large companies. American company Beyond Meat is one of the most famous companies that manufactures alternative plant proteins. Their products taste and smell and have textures that bear perfect resemblance to meat, while also having numerous advantages compared to meat alternatives such as lower impact on the environment and use of resources and better individual health.

eKapija: One of the most common criticisms of ESG reporting is the lack of universal set of standards. However, that is about to change soon after the adoption of European Sustainability Reporting Standards (ESRS). How will this impact Serbian companies, even though Serbia is not a EU member?

– There was a considerable increase in ESG frameworks and initiatives in the past few years, which led to fragmentation and lack of clarity in ESG reporting. Various organizations and legislative bodies need to cooperate on synchronizing standards and guidelines in order to complete the ESG reporting harmonization process. The initiative carried out by the IFRS Foundation and its partners is one of the key steps in this process, the other being EU Corporate Sustainability Reporting Directive (CSRD), a vital factor in harmonization of ESG reporting at the EU level.

CRSD was introduced as a revised and expanded version of the existing Non-Financial Reporting Directive (NFRD) so as to improve and expand the obligatory reporting on sustainability for companies that operate in the EU. Compared to NFRD, CSRD extends the obligation of reporting to larger number of companies ( from previously 11,000 companies to around 50,000) including small and medium-sized enterprises. CSRD requires companies to provide detailed information on their ESG performances, including information on strategies, goals, risks and impact on the environment and the community as well as to submit their sustainability report to independent audits and reviews, thus guaranteeing the information they make public is trustworthy and correct. One of the key advancements in the new CRSD regulation is the standardization of ESG reporting through ESRS standards which will provide a unique framework for reporting based on clearly defined measures. The first group of companies will have to prepare their annual reports in 2024 and publish them in 2025.

Even though the CSRD directly affects companies that operate within the EU, companies in Serbia that have business connection to the EU or plan to expand their business to the EU market will also deal with the consequences of this legislation. Since European companies have to report on the overall supply chain, Serbian companies that cooperate with partners and clients from the EU could also be subject to requirements connected to ESG reporting and practices. As a result, we expect a higher demand for ESG data and compliance with ESG standards in Serbia. We advise Serbian companies to start proactively introducing ESG practices and reporting, observe the developing CSRD legislation and harmonize their operations with standards adopted in the European market in order to prepare for potential changes.

It should be mentioned that CSRD is closely connected to the set of EU directives for sustainable finances and it will play an important role in securing the data which financial institution will use in their own ESG reporting and deciding on financing and investing in companies. Our clients in the banking sector have already been searching for solutions for the shortage of publicly available ESG data and creating mechanisms and tools for data management and analysis. I believe that this will be one of the main challenges for banks in the next period. The Risk Advisory department at Deloitte has an ongoing project just like that, which aims to answer to regulatory demands for Green Asset Ratio reporting (GAR).

eKapija: How can sustainability in business improve a company`s competitiveness?

– Sustainable business can improve company`s competitiveness on virtually all levels with its holistic approach. I will cite a few examples:

● Cost reduction: Sustainable practices such as energy efficiency, waste management, minimizing resource consumption can reduce production and operational costs, which increases profitability in the long run.

● Innovation: Focusing on sustainability often prompts the development of innovative products, technologies and work models which can contribute to building competitive advantages.

● Risk management: Sustainable operations aid companies to better assess and manage risks related to climate change, resource depletion and regulatory changes, thus minimizing exposure to negative business factors.

● Access to finance: Financial institutions and investors are starting to recognize the importance of sustainability in business. Companies that adopt sustainable practices often have access to better financing conditions and higher number of investors.

● Improving company`s image and reputation: Companies dedicated to sustainability often enjoy better reputation and customer loyalty which leads to bigger market share.

● Employee satisfaction: Sustainable companies often adopt practices which boost employee satisfaction such as fair pay, chance for career development and flexible working conditions. Happy and satisfied employees are usually more productive and loyal.

● Attracting talent: Many employees, especially the younger generations, are looking for companies that promote social and environmental issues. Sustainable companies can attract highly qualified workers and reduce employee turnover.