Silicon Valley Bank: Another ESG Failure

All is not gold that glitters

Published: Tuesday, April 11, 2023 - 00:03

I wrote previously¹ that environmental, social, and governance (ESG) metrics are often dysfunctional because they prioritize the wrong things and thus deliver the wrong results.

The recent failure of Silicon Valley Bank (SVB) despite SVB Financial Group’s “medium” (at the time) ESG risk rating from Sustainalytics² and its extensive proclamations of ESG goals and achievements³ reinforces this conclusion. SVB’s ESG goals, in fact, achieved final scores of zero across the board because one has to be in business to meet goals. This reinforces the conclusion that if we take care of quality basics, and business basics such as minding the store, ESG will take care of itself. If we put ESG first, or even give it a place at the table, we might not have a store to mind.

Keep it simple

It has been a general rule throughout history that simplicity wins and complexity fails. The basic principle, as expressed by Ohio State University’s former football coach Woody Hayes, is “three yards and a cloud of dust.” If we can get a minimum of three yards consistently, we will almost always get a first down. Hayes’ simple approach worked well enough to make Penn State’s Nittany Lions and the school’s alumni, of whom I am one, very apprehensive about any game with the Buckeyes. Hayes was, in fact, among the few coaches against whom Joe Paterno had a losing record.

Frederick the Great of Prussia warned that somebody who tries to protect everything ends up protecting nothing. Similarly, a business can focus effectively on only a handful of metrics, but Page 7 of SVB’s ESG report for 2021 cites 12. Only one—objectives and key results (OKR)—seems to even relate to actual business performance, and this assumes the objectives did relate to business performance rather than ESG goals.

Henry Ford, in contrast, gave us three basic and easily understandable metrics, two of which relate directly to major ISO standards and all of which support performance. We can waste exactly three things: time, material, and energy. If users of the ISO 14001:2015 standard for environmental systems extend its scope to include all material wastes rather than just environmental aspects, they can save a lot of money the same way Ford did.

Ford recognized that anything he threw away—and this was when he could legally dump into the nearest river or landfill whatever wouldn’t go up his smokestacks—was something for which he had paid. This meant he and his stakeholders had a right to whatever value could be extracted from these materials. He therefore found ways to turn the waste into saleable products. Waste wood became wood chemicals and Kingsford charcoal, or he didn’t make the waste in the first place.

There were no environmental regulations that related to acid rain, but Ford nonetheless removed the sulfur, along with valuable coal chemicals, from his coal before he burned it; the sulfur was far more valuable as ammonium sulfate fertilizer than as fuel. Environmental goals had yet to be invented because few people aside from conservationists like Theodore Roosevelt, along with foresighted people like Ford himself, recognized the virtues of sustainability. Ford’s approach to material waste meant, however, that these yet-to-be-invented goals took care of themselves during manufacturing.

Readers can use this metric in their workplaces very quickly. Everything that goes into a process, including consumables as well as stock or items in the bill of materials, must come out as either saleable product or waste. If something is being thrown away or even recycled, ask why. Ford’s workers took exception to recyclable chips from machining operations, even though most shops took them for granted and many still do so today.

Identifying and removing energy waste supports the ISO 50001:2018 standard for energy management systems. Avoided energy waste, even if it’s from renewable sources, supports the power grid and decreases use of fossil fuel. We don’t need complicated new solutions, new programs, or new management fads when we have had simple and effective solutions for more than 100 years. Ford’s counterpart of “three yards and a cloud of dust” delivered proven and unequivocal world-class results that included not only astronomical profits but also unprecedented high wages and low prices. This business model is what made the United States the wealthiest and most powerful nation on earth while it created a prosperous middle class. The basic lesson is “stick with what works.”

SVB stakeholders reaped what ESG sowed

Ford’s three simple performance indicators all support bottom-line business performance, business continuity, and most ESG goals. If we look at SVG’s ESG highlights from 2021, we will find 12 “achievements,” only one of which—objectives and key results—appears to have any relevance to simple basics such as “minding the store” or “remaining solvent so we can pay our employees and also our depositors.” Among the others is, however, “Donated approximately $18 million to charitable causes in 2021, surpassing our annual pledge one percent goal.”

I argued previously that when our fiduciary duty is to our stakeholders, aka relevant interested parties in ISO 9001:2015, the supply chain’s money is not ours to give away to nonstakeholders. The costs must be borne by customers in the form of higher prices, by investors as lower profits, and by employees as lower wages, not to mention the effect of insolvency on bank depositors and the Federal Deposit Insurance Corporation (FDIC). The latter must make good depositor losses up to $250,000. The U.S. Treasury Department announced on March 12, 2023, that the government will make good losses in excess of $250,000,⁴ which is probably necessary to avert a domino effect in which SVB depositors will be unable to access money to pay their own suppliers and workers.

I can’t identify anything socially responsible about putting the continuity of operations of multiple corporations at risk, and it’s fortunate that Treasury stepped in as it did. I also can’t identify anything socially responsible about forcing other banks to carry the cost of SVB’s failures as stated by Treasury: “Any losses to the Deposit Insurance Fund to support uninsured depositors will be recovered by a special assessment on banks, as required by law.”

A bank run by depositors was, of course, the immediate cause of SVB’s failure. While ESG did not cause the bank run, we can still contend that diverting the focus from business basics to ESG goals played a major role. SVB took the easily foreseeable risk of investing money in long-term Treasury bonds when interest rates were very low. These bonds are not truly liquid assets, even though the government guarantees the principal and the interest. If we need the money immediately, as SVB did to pay its depositors, and interest rates have risen since we bought the bonds, we must sell them at a loss.⁵ Everybody learns this in basic economics classes, and the phrase “minding the store” applies squarely to this consideration.

SVB’s failure also means the ESG goals will never be met. SVB added to its achievement, “45 percent of our Board of Directors are women, including our new Chair as of 4/21/2022.” If the company dissolves, there won’t be a board of directors. Nobody has figured out the percentage one gets from dividing zero by zero, but it is safe to say that having no female directors is not consistent with the stated goal.

Elsewhere, SVB’s ESG report notes “4,643,500 tons of annual CO₂ avoided across 18 deals completed by SVB’s Project Finance team.” This relates to yet another dysfunctional goal, namely net-zero carbon emissions, which did absolutely nothing to keep the company solvent. Bethlehem Steel’s former facility in Pennsylvania has zero carbon emissions, along with zero emissions of steel, wages, and profits. Our national affluence and standard of living, along with any chance of paying down rather than increasing our skyrocketing national debt, depend on the availability of cheap energy.

This does not mean climate science should be ignored, or that it is a good idea to release into the atmosphere thousands of years’ worth of accumulated carbon. However, if we allow a goal of net zero, which might not even be achievable, to drive corporate agendas, we are likely to end up with more financial train wrecks of this nature in the future. This dysfunctional goal also encourages offshoring valuable jobs to the People’s Republic of China, which is at this very moment building more coal-fired power plants.⁶ It not only destroys valuable jobs, but it fails totally to address the ESG goal. Moving the smokestacks to the other side of the world does not get rid of the carbon emissions.

If we look for ways to suppress energy wastes, and use ISO 50001:2018 intelligently, we will get lower prices, higher wages, higher profits, and fewer carbon emissions. If we take care of the basics, the basics will take care of us.

More ESG failures

I also looked up the ESG rating for Norfolk Southern, whose train wreck in Palestine, Ohio, allegedly released 550 tons of the carcinogen vinyl chloride into the atmosphere.⁷ Norfolk Southern Corp. (NSC) has a 23.3 (medium) ESG rating from Sustainalytics. This is despite the company’s average record of 163.6 derailments and 2.9 toxic material releases per year.⁷ Bed, Bath & Beyond is conducting layoffs⁹ and has negative earnings per share, according to Yahoo Finance, but it gets a 17.7 (low) ESG risk rating from Sustainalytics. This reinforces my perception that ESG ratings are useless at best. Note, however, that Sustainalytics does include an extensive disclaimer on its website that begins, “The information provided is for informational, noncommercial purposes only, does not constitute investment advice, and is subject to conditions available in our Legal Disclaimer.”

Rudyard Kipling was right

Rudyard Kipling’s poem “The Gods of the Copybook Headings” compares the long-term focus, as embodied by the headings of the copy books in which students practiced their penmanship, to short-term focus, as represented by the “Gods of the Market Place.” The latter always promise that we can somehow get something for nothing, or that a new buzzword, quick fix, or acronym (such as ESG) will deliver results, despite obvious contradictions.

The Gods of the Copybook Headings have no political affiliations because they represent impartial laws of science, economics, and nature. The Gods of the Market Place, by contrast, are often political, or at least popular, and therefore promise what they cannot deliver, such as wealth and affluence, without the effort of producing them. The Gods of the Copybook Headings are harder masters because they demand work and effort, but they are also universally reliable paymasters that deliver world-class results to those who follow their rules.

The poem is worth reading in its entirety, but key excerpts appear here:

“...In the Carboniferous Epoch we were promised abundance for all,
By robbing selected Peter to pay for collective Paul;
But, though we had plenty of money, there was nothing our money could buy,
And the Gods of the Copybook Headings said: ‘If you don’t work you die.’

Then the Gods of the Market tumbled, and their smooth-tongued wizards withdrew
And the hearts of the meanest were humbled and began to believe it was true
That All is not Gold that Glitters, and Two and Two make Four
And the Gods of the Copybook Headings limped up to explain it once more.”

The Gods of the Copybook Headings, who tell us we must deliver actual value and utility to our customers as opposed to high-sounding proclamations about ESG, put an end to SVB on March 10, 2023. They also say, however, that if we stick to the “three yards and a cloud of dust” basics that enable delivery of genuine value in return for less labor, fewer materials, and less energy, the ESG goals will take care of themselves.

References
1. Levinson, William A. “ESG: A Dysfunctional Metric.” Quality Digest. Feb. 22, 2023.
2. Sustainalytics. “Company ESG Risk Ratings: SVG Financial Group.” Sustainalytics.
3. SVB Financial Group. “Environmental, Social and Governance Report 2022.”
4. U.S. Department of the Treasury. “Joint Statement by Treasury, Federal Reserve, and FDIC.” March 12, 2023.
5. Smith, Stacey. “Bank fail: How rising interest rates paved the way for Silicon Valley Bank’s collapse.” NPR. March 19, 2023.
6. Simon, Julia. “China is building six times more new coal plants than other countries, report finds.” NPR. March 2, 2023.
7. Duer, Benjamin. “Lawsuit: Norfolk Southern released 1.1 million pounds of vinyl chloride into air.” Canton Repository. Feb. 16, 2023.
8. Evans, Nick. “What Norfolk Southern’s accident reports say about the company and industry.” Pennsylvania Capital Star. Feb. 27, 2023.  See also this letter from the U.S. House of Representatives, Committee on Oversight and Accountability.
9. Hirsch, Lauren, and Holman, Jordan. “Staring Down Bankruptcy, Bed Bath & Beyond Says It Will Sell Stock.” New York Times. Feb. 6, 2023.

About The Author

William A. Levinson

William A. Levinson, P.E., FASQ, CQE, CMQOE, is the principal of Levinson Productivity Systems P.C. and the author of the book The Expanded and Annotated My Life and Work: Henry Ford’s Universal Code for World-Class Success (Productivity Press, 2013).