How some companies are tying executive incentives to progress on climate change.

As governments and the general public become increasingly sensitive to the ill effects of climate change, the private sector has responded with new technology and business practices. Netherlands-based Royal DSM, a former coal company that now makes its business in life sciences and materials, puts an internal price on carbon in its capital projects and ties executive pay to sustainability goals.

Hugh Welsh, the North American president of DSM, says climate change should be an issue in the current U.S. presidential election campaigns. But he hopes for public pressure to force the changes needed to combat climate change, especially from the millennial generation that he sees as focusing on such issues more intuitively than its predecessor baby-boomer generation.

Setting a price on carbon is a must to ensure that those adding to the greenhouse gases that result in climate change pay for the consequences rather than having the costs passed on to future generations, says Welsh. He discussed these issues on the Knowledge at Wharton show on Wharton Business Radio on SiriusXM channel 111. (Listen to the podcast at the top of this page.)

Below is an edited transcript of the interview.

Knowledge at Wharton: Let’s get into what DSM is doing to try and change the path of your company [in connection with climate change]. More and more corporations are jumping onto the understanding that change must be made here in the years to come.

Hugh Welsh: DSM, which stands for Dutch State Mines, started out as a coal mining company in 1904 in the Netherlands. Today we’re in every business there is except coal mining, having transformed our portfolio over the years. We continue to try to find new and unique ways to address the issue of climate change, and more or less future-proof our business against the consequences of climate change going forward.

Knowledge at Wharton: That term which you just used does speak to forward thinking. Corporations forward-think all the time, but they don’t necessarily forward-think about the environment. It does make you think about what the path of a corporation needs to be going forward.

Welsh: Yes, and it’s one that resonates across our entire operations and our strategy — all the way to the work we do with investor relations. We’re a large publicly traded company, [and] when we sit down with investors, the story we want to tell is not just [about] the financial results of the next quarter, but the transformation of the organization and the execution of our strategy over the course of the next five, 10, 20 years such that we look like a much more palatable investment for the long-term shareholders we’re trying to attract.

“It’s encouraging to see companies like Royal Dutch Shell [and other] large fossil fuel companies begin to tie some of these incentives for their executives [to] not just the financial results, but the sustainability results.”

Knowledge at Wharton: As you mentioned, DSM was involved many years ago in a business that has been struggling right now. What is the pushback you get from coal companies these days? They are seemingly still blocking the path … of opportunity to [address climate change].

Welsh: All I can offer them and other fossil fuel companies is to serve up DSM as an example. We were a coal mining company. We dug coal out of the ground. We delivered it to people’s homes so that they could illuminate them and they can heat them. And over the years we evolved. We moved out of those businesses into new businesses, what we think are much more sustainable businesses. We try to encourage the coal companies today who are struggling mightily in their existing business case to make a similar transformation.

Knowledge at Wharton: Here in the U.S., ExxonMobil is making statements about energy going forward and carbon pricing, and jumping on board to a conversation that needs to be had.

Welsh: Yes, it is encouraging to hear that rhetoric. But we would also like to see maybe a move away from just rhetoric to dealing with remedies and in some respects, remuneration. It’s encouraging to see companies like Royal Dutch Shell [and other] large fossil fuel companies begin to tie some of these incentives for their executives [to] not just the financial results, but the sustainability results. That’s a real indicator of a genuine intent to begin that transformation process.

Knowledge at Wharton: That’s something DSM does in terms of tying compensation to sustainability goals and actually getting things done, correct?

“[Many] companies like DSM are imposing upon themselves today an internal price on carbon when they’re doing an evaluation on capex projects with large-scale investment.”

Welsh: Correct. We started with tying our executives’ bonuses — 50% of their annual bonuses and 50% of their stock options — to sustainability goals in 2010. We made that decision because we realized that we needed to move beyond just rhetoric and by tying the reaching of these goals to executives’ money, we knew we would get immediate behavioral change, and that would cascade down through the organization.

We’ve seen that [change] over the past five years. We’ve been very successful in meeting our sustainability targets and coming up with new and innovative ways to do business that offer solutions, not just of course to DSM, but [also] to our customers.

Knowledge at Wharton: A lot of the push has come from the general public in the last 10 to 15 years. It has to be a great experience to be able to see that initiative run by so many people in past years now having unity — something that’s in sync between the public and companies like yours.

Welsh: It’s extremely encouraging. We have a long way to go, but if I look back just five years, we’ve moved a tremendous amount, culminating in some respects in the [United Nations’] Paris climate agreement last year. But we shouldn’t rest on our laurels; we have a lot more to do — and a lot more to do in the private sector.

Knowledge at Wharton: What would you like to see happen here in the next couple of decades to try and improve the lot for your company and for other companies where [sustainability] is concerned?

Welsh: One thing we need, and it’s fairly provocative here in the United States, is a price on carbon. The use of fossil fuels [and] carbon-based materials to produce products has had an impact on climate change. Rather than passing that liability onto our children and grandchildren, it’s very important that this generation accepts responsibility for that and bears the costs for that. That can come with a price on carbon.

We’ll see acceleration away from climate change-inducing gases and emissions if we put a price on carbon and we can move more to renewable energy and make those renewable energy sources, like solar, like wind, like biofuels more competitive.

Knowledge at Wharton: Is that a good possibility in your mind in the years to come?

Welsh: Absolutely. We’re already seeing some early work in California and in Quebec with the carbon trading system. We’ve heard the Chinese already mention they’re going to have a price on carbon. My boss, the CEO of DSM, is working diligently on the Carbon Pricing Leadership Coalition as part of the World Bank to try to set some policies on a global basis with respect to a price on carbon. So we will see that in the not-too-distant future.

An indication of that is [many] companies like DSM are imposing upon themselves today an internal price on carbon when they’re doing an evaluation on capex projects with large-scale investment.

Knowledge at Wharton: Which is what for your company?

Welsh: 50 euros a ton.

“It can be a little frustrating, being in Washington, [D.C.] … running across … companies that have the rhetoric of climate-change mitigation and are lobbying against every bill that comes down that’s geared towards mitigating climate change.”

Knowledge at Wharton: What does that [mean] in terms of an annual cost for DSM over the course of a year?

Welsh: It makes us look at large-scale capital projects where we’re going to deploy a large amount of capital, as in build a new plant to work on a new incentive. It imposes that price there so that we’re not caught off guard, five, 10 [or] 15 years down the road during the natural life of a plant with a plant that can’t compete in a world with a price on carbon.

Knowledge at Wharton: This is one of those topics that probably should be discussed more during the presidential race…. Happy as you are to see that joining between the public and private sector on trying to tackle this, is it a little disappointing that it’s not more of an issue and brought up on a more consistent basis in the election cycle and in Washington, D.C. in general?

Welsh: It is more than a little disappointing. The recognition of climate change as a serious issue is well received by both the general public as well as in the political class. But when you look at some of the platforms for the major political parties, they’re not including issues like a price on carbon or [other] work towards mitigating climate change. I’d like to see more tangible results.

It can be a little frustrating, being in Washington, [D.C.] from time to time and on Capitol Hill, running across folks from companies who have the rhetoric of climate-change mitigation and are lobbying against every bill that comes down that’s geared towards mitigating climate change.

Knowledge at Wharton: Is the amount that is being talked about with carbon pricing at a high enough level? Some articles said that maybe the pricing structure is not high enough.

Welsh: I agree that the pricing structure ultimately adopted needs to be high enough to account for all the external costs associated with the use of fossil fuels. Then you will have a genuine incentive to move more rapidly — both governments and the private sector — to renewable energy sources.

They don’t want to discuss this necessarily in political campaigns, but [governments are] going to need to find a funding source to mitigate the impacts of climate change. If you think about the infrastructure impacts and the harbor impacts and the bridge impacts, funding for that [has] to come from somewhere and we can’t continue to try to impose that liability on our children and grandchildren.

“One of the largest sources of greenhouse gas emissions in the United States is from the front end, and a little bit out of the back end of a dairy cow. It might even be as high as the second-highest source of greenhouse gas emissions here.”

Knowledge at Wharton: Outside of carbon pricing, what are some of the other areas that you and DSM are looking at as important areas that need to be focused on?

Welsh: We are working on finding new and innovative products to mitigate climate change. I could give you one example. We have a product called Clean Cow. It’s a feed additive that we can feed dairy cows to reduce methane emissions. One of the largest sources of greenhouse gas emissions in the United States is from the front end, and a little bit out of the back end of a dairy cow. It might even be as high as the second-highest source of greenhouse gas emissions here. We can reduce those [by] up to 60% in some cases by introducing a clean cow feed additive.

Knowledge at Wharton: To be able to get something like that moved forward, and use that as a product that’s in the norm with cows, whether it be in the United States or anywhere else, what is the hold-up?

Welsh: We of course need regulatory support to get it through approval processes, maybe more quickly than ordinarily. We also need to try to generate a real business case for the farmers who [will use] this product. We don’t expect them to bear the costs solely of a product that [will] be a climate-change mitigator. They need to find a way to pass that cost onto consumers, [and] be incentivized in a different way, or couple it with other products that can improve the efficiency of an animal … such that it can produce more meat or more milk.

Knowledge at Wharton: The number that you laid out in terms of the amount of greenhouse gasses that are emitted from cows is something that will catch more people off guard. It’s something that I think needs to be publicized even more.

Welsh: I would agree. I could imagine that it’s something that resonates with the children of all of our employees when they get to go home and talk about what their parents do every day.

Intuitive for Millennials

Knowledge at Wharton: You’re also in a bit of a cultural shift where this idea resonates a lot more with millennials than maybe it did with the [Baby] Boomer generation 20 or 30 years ago. Now maybe it’s starting to [resonate] a little bit more with people across generations, but having the millennials thinking about it and making it more of an issue becomes very important.

Welsh: That’s absolutely true. We can change the incentive structure for the executives in our company [from] the older generation to try to get them to focus on these issues where it might not be intuitive for them. It is intuitive for the millennials. You will see more companies working in this space, [and] working on these issues, if for no other reason than to enable them to attract the most talented folks in the business. That’s the real long-term source of sustainable competitive advantage.

Knowledge at Wharton: What could be the rise of productivity from animals [from using feed additives]?

Welsh: We work every day in the animal health space to increase the productivity of animals, be they swine or poultry. We’re going to need to do that. The population of the planet [will] move from seven billion to nine billion, [and it] grows richer every year. Wealthier people want meat protein. We [will] need to find a way to produce that, not just at a higher amount, but in a much more sustainable way.

Knowledge at Wharton: What other green initiatives is DSM looking at?

Welsh: A whole host of initiatives with respect to non-solvent-based floor coatings, or using some of our high tensile strength fiber technology to produce more sustainable nets for the aquaculture business, or high strength, high heat resistant plastics that could be used in an automobile to reduce their weight and increase their fuel efficiency.

Knowledge at Wharton: Why would a coal company in this day and age continue to fight the fight of trying to push forward the need for massive amounts of coal being pulled out of the ground?

Welsh: I can only say that it’s got to be a lack of imagination. It is not a sustainable business. I can’t imagine that anybody in that business feels that it’s a sustainable business, either from a climate perspective as well as a business perspective. You would hope that they would begin to move as rapidly as possible to evolving away from that and deploying their assets in a different way.

Again, we were a coal company, now we’re a food company. We were a coal company, now we’re a clean energy company. We were a coal company, now we’re a sustainable plastics company. The transformation is possible.

Knowledge at Wharton: Is it your hope and expectation that whoever becomes president when we roll through November here, that thinking about sustainability issues, carbon pricing [and] green initiatives will be at the forefront on that person’s mind?

Welsh: I very much hope so. We’d love to see more support from the executive branch today with respect to things like the renewable fuel standard here in the U.S. and some other policy initiatives.

But we’re hoping that a lot of the rhetoric and emotion and energy that’s been created around sustainability and particularly around renewable energy will be picked up by the next administration, be it Republican or Democrat, and we get much more granular in trying to create not just a solution to these big problems but genuine competitive advantage for the United States of America.

Knowledge at Wharton: Without the U.S. and China making the statements that they did for the Paris Accord, would this get pushed forward as much as it has now?

Welsh: No, that would be impossible. Without the two largest emitters committing to make material changes, the rest would be nice, but it would not be actionable.

Knowledge at Wharton: How quickly do you think a change in China can take place to see a significant reduction of greenhouse gas [emissions]?

Welsh: I’m much encouraged by what they’re trying to do already. We’ve had conversations with the Chinese government around introducing cellulosic ethanol as a potential transportation fuel with 90% less greenhouse gas emissions than gasoline. They still continue to build coal-fired electrical plants, but at a lower rate. The changes in China will come very quickly, not just as a consequence of things like the Paris Accord, but from their own populations who live in cities like Beijing, who will no longer tolerate not being able to breathe.