As an increasing number of UK charities seek to invest more responsibly and address environmental, social and governance (ESG) issues within their endowment portfolios, it seems right to ask if they are getting what they want from the asset management industry.
What are the good and bad practices when it comes to the ‘stewardship’ of your assets? How can a charity identify ‘greenwashing’? (A term coined by environmentalist Jay Westerveld in 1986 to describe misleading corporate environmental claims). Asset managers have to step up their reporting of ESG issues, particularly around climate change, and clients need to hold their asset managers firmly to account.
Careful vs careless managers
In the broadest sense, it is possible to split the attributes between those managers one might describe as ‘careful’ from those who appear too ‘careless’. A careful and responsible asset manager should think long-term, consider the broader – and often complex – relations between society and a business and engage actively with companies to drive positive change.
In contrast, the ‘careless’ brigade often over-simplify to make their lives easier, spend little time and resource actively engaging and rarely consider the broader policy issues that may harm their clients. Above all, trustees need to beware of ‘greenwashing’ from managers who jump on the ESG bandwagon and make statements that may not stand up to scrutiny.
The risks of outsourcing
Beware also of those that ‘outsource’ and rely on external agencies for their ESG work. The recent case of Nissan and the falsifying of emissions data at five of its plants, together with the arrest of its chairman, Carlos Ghosn, on allegations of financial misconduct, highlight the issue.
Until recently, Nissan was graded B on ESG factors by MSCI and only downgraded to their lowest score ‘CCC’ in September 2018, even though the governance failings have been evident for some time. Rather surprisingly, MSCI still grade Renault as an ‘A’, despite the very close links and cross-shareholdings between the companies. ESG should be a fundamental part of the risk and reward analysis of every company and there is no short cut to doing the work yourself.
Engagement with companies
We believe that stewardship is a mindset, which means thinking like owners of a business, and not simply traders of shares. A key element of active management is engagement. It is important to speak out as shareholders, both in relation to companies, but also in wider ‘policy work’ which will shape the investment landscape delivering more sustainable returns.
As companies grow, their influence over society spreads. Executives of the world’s biggest companies arguably exert more influence than the governments of many countries. One of the most controversial topics is executive pay and here, as in many areas, we find too few managers willing to stand up to the power of company boards.
All too often, they simply vote with management’s recommendations. The Financial Times conducted a survey last year, which showed that the world’s largest fund managers voted in favour of pay awards more than 90% of the time. So far this year, Sarasin & Partners’ has voted against 42% of pay resolutions in the UK and 50% in the US.
Embracing environmental and societal issues
This is not just about voting on Annual General Meeting resolutions. Asset managers should also address wider environmental and societal issues. No company is perfect and nearly all have exposure to ‘negative externalities’, a term coined by economists to describe costs which are imposed on others without adequate compensation. This could be, for instance, harmful air or water emissions. Businesses that do this can be accused of exploiting ‘natural capital’ or exploiting ‘social capital’ to make ‘financial capital’.
Take the example of consumer company Coca-Cola, where obesity and plastic packaging are serious problems. The company clearly recognises these risks and discloses them in their annual ‘10K’ filing with US regulators: “obesity concerns may reduce demand for some of our products” and that “changes in laws on beverage packaging could increase costs”. They are aware of these threats to their business and one could argue that they could have responded by adjusting product lines with more diet variants and announcing a new global ambition to “collect and recycle a bottle or can for every one we sell by 2030”.
They embrace the concept of the circular economy, where everything gets recycled instead of thrown away. The question is whether these companies are acting quickly or resolutely enough and should focus on reducing, not recycling, waste. Taking action faster will likely cut profits (and therefore management incentive payments), so the cynic would argue they are simply putting off the pain for as long as they can. Ultimately, companies who do not consider their harmful externalities could see sales and profits suffer and share prices fall.
Adapting policies to the demands of climate change
The greatest environmental challenge and externality of them all is climate change. The major governments of the world finally agreed some common targets at the UN Paris Summit in December 2015 with a pledge to “keep a global temperature rise well below 20C and pursue efforts to limit even further to 1.50C”. Sadly, adding up the pledges made so far still results in more than a 30C increase and many predictions suggest it could be even worse. Serious action is needed to radically transform the energy system by reducing our net emissions to zero. Policies to tackle climate change will have to ratchet-up dramatically and we do not believe investment markets are yet discounting this properly.
Everyone needs to play a part in driving change and that must include both asset owners and asset managers. At Sarasin & Partners, climate change is clearly identified as one of our five ‘mega-themes’, which will shape investment markets in the decade to come.
An increasing number of our charity clients have signed up to our ‘Climate Active’ strategy, which combines divestment and engagement to persuade companies to take faster action where we identify climate risks.
For these clients, we will divest from any company where we do not believe enough progress is being made. Many managers focus too narrowly just on fossil fuel companies, but it is a wider issue across the investment spectrum from ‘producers to users to consumers’ and affects many different businesses. So far, we have written to 35 companies seeking a commitment to the Paris goals and an alignment with a pathway towards zero net emissions. In our follow up conversations with companies, too often we are told that no other investor has asked this question.
This is not to say that other institutional investors are not active. Several are, and we form alliances with like-minded investors to increase the power of our voice wherever we can.
For example, we are co-coordinators, alongside the Church Commissioners, of a large group of investors’ engagements with European oil and gas companies under the Climate Action 100+ initiative, which brings together over 300 investors and $32 trillion of invested assets.
We are also leading an investor initiative to challenge companies and their auditors to ensure they are reporting to shareholders in a way that takes account of the Paris Climate Accord. All such efforts should be widely encouraged, while greenwashes need to be robustly challenged.
This content is sponsored by Sarasin & Partners. Paul Fairbrother is business partner at Sarasin & Partners