The topics in my September-October 2019 newsletter are:
Climate Change—Investors
Climate Change-Companies
Climate Change—Reporting
Food
People
Corporate Governance
General Counsel and Sustainability
Long-Termism
Sustainable and Impact Investing
Engagement and Stewardship
Measurement and Reporting
Four Pieces from Me
Climate Change - Investors
“Decarbonization Factors” by Alexander Cheema-Fox, Bridge Realmuto LaPerla, George Serafeim, David Turkington, and Hui (Stacie) Wang. The Abstract:
“In the face of accelerating climate change, investors are making capital allocations seeking to decarbonize portfolios by reducing the carbon emissions of their holdings. To understand the performance of portfolio decarbonization strategies and investor behavior towards decarbonization we construct decarbonization factors that go long low carbon intensity sectors, industries, or firms and short high carbon intensity. We consider several portfolio formation strategies and find strategies that lowered carbon emissions more aggressively performed better. Decarbonization factor returns are associated with contemporaneous institutional flows into the factors. Buying decarbonization factors when coincident flows are positive while selling when they are negative produces significantly positive alphas. Combining decarbonization factors that have positive contemporaneous flows would provide investors with significantly superior returns and continuous exposure to low carbon portfolios. The results are more pronounced in Europe relative to the US. Our results suggest that institutional investor flows contain information about anticipated fundamentals related to climate change developments.
“In 2015, I spoke of the ‘Tragedy of the Horizon’ – the catastrophic impacts of climate change will be felt beyond the traditional horizons of most banks, investors and financial policymakers, who do not have the direct incentives to fix them. Since then, important progress has been made from the Paris Accord to advances in managing the risks around climate change and optimising the returns in the transition to a low carbon economy. For the first time, a path to break this Tragedy is becoming possible.
Institutional investors, as guardians of long-term saving, have the horizons to appreciate climate risks and opportunities and many are developing the skills to manage them. But to appropriately price climate risk and to reward innovation, investors need the right information.
The work of the Task Force on Climate-Related Financial Disclosures (TCFD) is vital to improving the reporting and understanding of climate-related financial risks. Since the TCFD’s recommendations to the G20 Leaders Summit there has been a step change in the demand by investors for better climate reporting. TCFD supporters now manage almost USD 110 trillion on assets.
Momentum behind TCFD’s voluntary disclosure recommendation is creating a virtuous circle by encouraging learning by doing. As companies apply the recommendations and investors differentiate between firms using better information, adoption will continue to spread, disclosure will become more decision-useful, and its impact will grow.
Translating climate models into economic and financial impacts is difficult, even more so for investors who depend on the information provided by firms. Initiatives like UN Environment’s Finance Initiative are invaluable for sharing of good practice—such as in scenario analysis—so firms can make their approach more granular and sophisticated.
Much remains to be done. This report will help us maintain momentum as we continue along the virtuous circle where more companies disclose more information, investors make better informed decisions, and sustainable investment goes mainstream.”
“Public policy provides the signals and incentives that direct the flow of capital across the global economy. Policymakers need to create policy frameworks that support investment in low carbon assets, enable investment in adaptation measures, and enact a just transition for affected workers and communities. They also need to ensure that investors take full account of the risks and opportunities presented by climate change in their decision-making.
Investors are a key influence on policymakers and, therefore, policy engagement by long-term investors is a necessary extension of these investors’ responsibilities and fiduciary duties to their beneficiaries.
Ahead of the UN Secretary-General’s Climate Action Summit in New York in September 2019, a record 515 investors managing over US $35 trillion signed the Global Investor Statement to Governments on Climate Change, which called on world governments to:
Achieve the Paris Agreement’s goals
Accelerate private sector investment into the low carbon transition
Commit to improve climate-related financial reporting
The statement was initially launched in June 2018 ahead of the G7 Summit, and show-cased with updated lists of signatories at the Global Climate Action Summit in September 2018, at COP24 in Katowice in December 2018, and at the G20 Summit in Osaka in June 2019.
The Investor Agenda Founding Partners have also released an open letter from their CEOs, and a briefing paper outlining the key asks in the statement. You can read the statement, the open letter and the briefing paper below.”
“The $201 billion Ontario Teachers’ Pension Plan said consultants and advisers need to educate themselves on climate change to help the smaller funds integrate the risks into their investment process.
Barbara Zvan, chief risk and strategy officer at OTPP, said the challenge facing the pension industry was no longer about raising awareness but rather how to implement climate change into their organisation. She said it was easier for the bigger plans with more resources to get access to the climate data they need to make investment decisions.
The smaller organisations ‘can’t always afford to do that,’ she said in a telephone interview. ‘The ecosystems of consultants and advisers need to improve their knowledge on climate change. Bringing groups together will help build the tools needed.’
It found that while there has been widespread adoption and more board engagement since the recommendations were launched in 2017, more work is needed to get a uniform and comparable approach to climate change disclosure across the investment community.”
In the years since the Framework was launched, the six OPSWF members have been exchanging practices that relate to the principles of the Framework. This practice exchange has taken place over Working Group calls, and between CEOs at two in-person meetings hosted at the Elysee Palace by President Macron.”
“Published shortly after the landmark report by the Global Commission on Adaptation, WBCSD’s report brings together important global developments and latest thinking on climate adaptation and resilience, with particular focus on private sector climate resilience. It builds on the need for businesses to prepare for both the physical risks that are associated with climate change, as well as the associated transitional risks on the path towards a net-zero economy.
Adaptation clearly delivers a triple dividend in terms of avoided losses, economic benefits and social and environmental benefits.
Ambitious mitigation is crucial to reducing long-term climate costs. This ambition will translate into the deep and systemic transformation of global economies and associated business activity. It will require reprioritizing economic issues according to the magnitude of change that is required, the interconnected risks across our global systems, and the urgency of a rapidly diminishing timeframe.
Successful businesses will be those that are able to adapt to and thrive through this transformation.
Over the past year, WBCSD has been working with the business community on their imperatives for climate resilience. Companies need to prepare for both the physical risks that are associated with climate change, as well the associated transition risks on the path to an economy that is net-zero greenhouse gas (GHG) emissions. Businesses need to integrate their climate change risks into their Enterprise Risk Management processes, and factor climate action into their decision-making processes.
There are three key steps that businesses can take to build business climate resilience:
Develop and maintain ambitious mitigation efforts. If a business makes progress in its mitigation efforts, it becomes less vulnerable to disruptive risks, such as policy and legal measures, resource scarcity or adverse market developments.
Adapt to ensure business continuity in the face of climate-related physical risks. Businesses must assess and evaluate climate-related physical risks throughout their operations, supply chains and across the communities in which they operate.
Assess the connections, dependencies and value to society and nature. The connections, dependencies and interrelationships between climate and society, climate and nature and climate and sustainable development will increase public pressure on the true purpose of business activities and the role of business in society.”
“The Intergovernmental Panel on Climate Change (IPCC) Special Report on Global Warming of
1.5°C sent a resounding message that the impacts of allowing 2°C global warming are far greater and more catastrophic than 1.5°C. The report states that, while achieving a 1.5°C world is still possible, it will require radical and urgent transformation of all systems at an unprecedented scale.
The World Business Council for Sustainable Development (WBCSD) and its member companies believe that carbon pricing mechanisms are critical to support the urgent efforts required to drive the transition towards a low carbon future and achieving the 1.5oC goal.
With countries looking to ramp up ambition in their respective NDCs for submission in 2020, several analyses and scenarios show that carbon pricing needs to be a key part of all NDCs and long-term strategies in the coming years if we are to stand a chance of reaching the Paris goal.
We see the development of a robust global carbon market (comprised of links between emission trading systems and transfer of carbon units) underpinned by environmental integrity and aligned with the achievement of SDGs, as a huge opportunity to accelerate climate action at the global level. This echoes the view of the UN Secretary-General (and others) when they call for a tax on carbon, not people
.
With Article 6 remaining the missing piece of the Paris Rulebook, 2019 will be a critical year for the advancement of the discussions surrounding cooperative mechanisms, and will become the focus for successful negotiations at COP25 in Santiago, Chile. This might be the last chance to put in place cooperative mechanisms that deliver meaningful emission reductions whilst considering issues relating to environmental, economic and social impacts.
Investments in the energy systems transformation, guided by a carbon price can help efforts to reach net-zero emission globally over the course of the century and support the near-term acceleration needed whilst supporting societies’ development.”
“In an interview with Kasmira Jefford on CNNMoney Switzerland, WBCSD President and CEO Peter Bakker shared his key takeaways from the week.
‘Business had a positive series of action-oriented announcements, science launched their planetary emergency plans and the youth were there, protesting, and really making the case for urgent and clear action.’
‘Companies from around the world are stepping up. They understand that their supply chains, operations and sales are global, as much as the problems we are facing in the world with climate change, the destruction of nature or social unrest… Business needs to do what it does best: to innovate and set up action plans to get to a 1.5 degree world. But not one company can solve this challenge alone, business needs to work together to drive up ambition and action.’”
“Triggering climate change and potentially devastating economic effects, the greatest issue of our time is global warming. The corporate sector is at the heart of this issue; it is a major contributor to global warming and is also greatly exposed to the effects of climate change.
We remain resolutely focused, however, on quarterly earnings as an indicator of corporate performance. While sustainability accounting and reporting is increasingly common, it is also marginal, and largely inadequate for investors’ decision making.
Global corporations cannot be held to account in the absence of effective accounting. This is well understood for earnings, the measurement of which is standardised, and audited. Accountability needs to be equally well understood for greenhouse gas (‘carbon’) emissions, the reporting of which is currently voluntary, incomplete, lacking in comparability, largely unverified, and inadequately linked to science-based targets for carbon reduction.
Fortunately, of all the many and varied environmental, social and governance (ESG) metrics, carbon emissions are the easiest to deal with. For the most part, we measure them already, according to a generally accepted protocol. They are also straightforward to audit.”
“In light of current market movement on climate-related disclosures, this research note presents two studies that examine the impact of disclosure through the CDP (formerly the Carbon Disclosure Project) and the SEC (U.S. Securities and Exchange Commission) on a firm’s access to capital. Study 1 found that between 2012 and 2016, firms that disclosed through the CDP ranked 19 percentiles better than the average firm in their ability to access capital, while firms that disclosed through the SEC ranked 4 percentiles worse than the average. Study 2 found that investors favoured CDP because: i) comprehensive voluntary disclosures signal high-quality management teams, with enhanced awareness of material threats and opportunities posed by climate change; and ii) comprehensive voluntary disclosures enable dialogue between firms and investors that consider climate change as material to their business. As a result, investors are more likely to provide capital to firms that disclose through the CDP.”
Societal understanding of climate change and the need to take action has increased over recent years, leading to an increase in both public discourse and government initiatives. The 2015 Paris Agreement’s central aim to restrict global temperature rise to 2 degrees above pre-industrial levels, and to pursue efforts to limit the increase to 1.5 degrees, set a new ambition for the world’s response to climate change. The scope of this challenge is becoming more widely understood. In this context, investors and the broader financial system are seeking better information to make more informed decisions about capital allocation and to price risk. While different companies will be affected by climate change in different ways, many will need to respond to potential increases in cost and/or decreases in revenue. The cost of water and energy, for example, may increase and assets (for example stock, investments, loans or infrastructure) may become stranded in specific locations. For some companies, climate-related issues are material now, with impacts already disrupting supply chains and changing consumer behaviour. For others, climate-related issues are key to longer-term strategic planning decisions. Climate-related risks are foreseeable, and as the implications become clearer, more are likely to adapt their behaviours and investments making the potential impacts a shorter-term issue for all companies. The UK Government has set a target to bring all greenhouse gas emissions to net zero by 2050. Other governments are also realigning around such targets, with investors beginning to follow, for example as part of the UN-convened Net-Zero Asset Owner Alliance. This target provides a unique 30-year signal for the future for which both companies and investors can aim. Given this direction, there is an increasing demand for companies to respond, and report on what the business model looks like in the future and how it intends to get there.”
“Transforming the world’s food and land use systems is necessary to achieve the targets for climate and sustainable development set out in the 2015 Sustainable Development Goals and the Paris Agreement on climate change. The Food and Land Use Coalition (FOLU) was launched in 2017 to catalyse and speed up this transformation.
The term “food and land use systems” covers every factor in the ways land is used and food is produced, stored, packed, processed, traded, distributed, marketed, consumed and disposed of. It embraces the social, political, economic and environmental systems that influence and are influenced by those activities. Food from aquatic systems, marine and freshwater, is also included in the definition because fish (wild and farmed) accounts for a significant share of the protein in human diets and this share will potentially increase. The report also covers agriculture for non-food purposes, such as bioenergy, fibres for textiles and plantation forestry products, as these already compete with food for fertile land and the competition could intensify in the future.”
“WBCSD released the CEO Guide to Food System Transformation which outlines seven pathways and clear actions for CEOs to transform our food system in the next decade. It highlights the business leadership needed for a deep, rapid and systemic transformation of the food system to achieve healthy people and a healthy planet.
In the newest CEO Guide, launched at WBCSD’s Council Meeting in Lisbon, 17 top business executives from across the world call for urgent business leadership and action on addressing the changes needed to ensure that our food system is able to sustainably feed a growing population expected to reach over 10 billion by 2050.
Peter Bakker, WBCSD’s President and CEO: ‘There is no doubt about the need to act now; we have seen a flurry of science and reports highlighting the need for urgent action. However, so far none of these reports have focused on the business leadership needed to provide the critical solutions for the food system transformation.’
He continues: ‘The time for bold leadership starts now. 2020 will be a super year of ambition and performance ratcheting for climate, nature and nutrition, leading into what will be the first UN Global Food Summit in 2021, towards the Earth Summit in 2022. Together we will drive the work which shows that business is championing this agenda to successfully achieve healthy people and a healthy planet – a world where more than 9 billion people are all living well and within the boundaries of our planet, by 2050. Because we are either in to lead, or we will let the world fail.’
The CEO Guide to Food System Transformation sets out seven pathways across the value chain where business must lead action, leveraging opportunities for risk mitigation but importantly also strategic advantage. These seven pathways as well as the Guide’s action points for CEOs are aligned with the findings of the FOLU report and other milestone science reports published in 2019 and will guide our work together in the coming years. There will be disruptions and tradeoffs for farmers, businesses and governments. We will prioritize our work together for impact at scale, both in value chains and by demonstrating business leadership, providing others with the courage and understanding of how to participate.”
Animal livestock systems already occupy 26% of the planet’s surface area, and account for 15-18% of greenhouse gas emissions – more than the global transportation fleet. As well as contributing to the climate crisis, they can fuel deforestation and reduce biodiversity, as land is cleared and converted for livestock farming. Yet demand for animal proteins is expected to grow by nearly 70% by 2050, according to the World Resources Institute (WRI)1 , as incomes rise in developing nations. Under this scenario, the world would fail to meet the Paris Agreement goal to limit global warming to well below 2°C, according to a landmark EAT-Lancet report2 on sustainable diets released early this year. Its findings were reinforced by a report on climate change and land use published in August 2019 by the Intergovernmental Panel on Climate Change (IPCC), which warned that temperatures can only be kept at safe levels if land is managed sustainably.”
“The recent publication of Buckingham and Goodall’s Nine Lies About Work brought home some painful facts about people management for me. First, the state of people management remains poor. Gallup recently reported, for instance, that the U.S. quit rate is at an all-time high; 67% of employees are disengaged at work; and more than half say they are actively looking for a new job. Second, HR lacks a commitment to evidence-based people management (evaluating a decision or policy with evidence such as data and peer-reviewed scientific research to ensure the desired result is achieved).
As I thought about the HR practices that remain in use, notwithstanding the evidence against them—things like forced curve performance evaluations—it occurred to me that many of these practices stem from one root cause: the ability to fire employees at will. Because organizations can easily terminate people (and are very willing to do so), workplaces often use counterproductive management approaches that evaluate, rather than invest in and develop, employees.”
“The traditional toolbox of investment professionals is falling short.
We’re trying to solve the finance industry’s most difficult problems with the wrong tools. A recent study from our Center for Applied Research pinpointed three persistent industry challenges that have been largely unaddressed: short-term focus, lack of clarity around industry value proposition and a decrease in client trust. For example, 77 percent of asset owners and 57 percent of asset managers said they were concerned that short-term incentives were not being aligned with long-term objectives.
To address these issues, investment leaders need to work toward transformational change that will move the industry’s center of gravity closer to clients, employees and the communities in which we operate. Our 3L Change Framework outlines how we can efficiently work toward a human-centric industry.”
“The stakes for responsible corporate stewardship have never been higher.
Corporations today account for a greater proportion of our collective productivity than ever before. Of the 100 largest economies in the world, 71 are corporations, and only 29 are countries. U.S. corporations alone generated profits of $2.3 trillion in 2018—the highest in history. Reflecting their unprecedented scale, U.S. corporations have been blamed for accelerating environmental degradation and aggravating disparities in income and wealth. Calls for the exercise of corporate social responsibility have become increasingly urgent. Recognizing this urgency, the Business Roundtable last month embraced broad stakeholder governance and urged corporate leaders to focus on sustainable value creation. Yet, as directors of U.S. corporations seek to answer these calls, they remain subject to countervailing market pressure to deliver outsized stockholder returns in compressed time horizons.
To allow directors to mediate this challenge, and to facilitate responsible long-term corporate decision making, we have long supported a stakeholder-centered model of corporate governance and cautioned against rote application of the entrenched shareholder-primacy model. Recognizing that investors, and the asset managers who represent them, share with the rest of society an interest in sustainable prosperity, we have sponsored The New Paradigm—a reconception of corporate governance as a collaboration among shareholders, managers, employees, customers, suppliers, and the communities in which corporations operate.
The New Paradigm thus offers an alternative to the shareholder-value maximization principle that has dominated corporate law thinking for some fifty years. We question the historical, doctrinal, and empirical underpinnings of that principle, which too easily justifies the pursuit of a short-term rise in stock price at the expense of long-term corporate value. Perhaps maximizing share price corresponds to greater overall corporate value as a matter of abstract economic theory premised on unrealistic simplifying assumptions. But destructive stock market bubbles, accumulating empirical evidence that share prices do not correlate with desirable macroeconomic outcomes, and the compelling lessons of behavioral economics all confirm that this theory does not work in the real world.”
“The Business Roundtable’s recent call for a commitment to long-term sustainable economic value creation has prompted a vigorous debate about the optimal corporate governance model for achieving that goal.
Certain familiar arguments have reappeared in reaction to the Business Roundtable’s important statement rejecting shareholder primacy and embracing stakeholder governance. Various law firms and commentators insist that such innovation in corporate governance is constrained by an imperative to maximize shareholder value—the ideology that a corporation can have no purpose other than profit maximization for shareholder gain. Others assert that the path to effective governance reform lies with prescriptive regulation, presumptively by the federal government.
We disagree, and propose an alternative: The New Paradigm. Our approach reimagines corporate governance as a cooperative exercise among a corporation’s shareholders, directors, managers, employees, business partners, and the communities in which the corporation operates. The New Paradigm promotes transparency and engagement to ensure fair treatment of all stakeholders. It also aims to curtail, if not eliminate, short-termism and to combat activist pressure for financial engineering focused on short-term gain. Our approach thus addresses the fundamental criticism of corporations today—that their preoccupation with maximizing short-term shareholder gain has failed to generate economic growth and security for the rest of society—while avoiding the substantial risks of heavy-handed regulatory intervention.”
While the FRC codes are “comply and explain,” they fundamentally commit companies and asset managers and asset owners to sustainable long-term investment. As stated by the FRC:
The new Code sets high expectations of those investing money on behalf of UK savers and pensioners. In particular, the new Code establishes a clear benchmark for stewardship as the responsible allocation, management and oversight of capital to create long-term value for clients and beneficiaries leading to sustainable benefits for the economy, the environment and society (emphasis added).
There is a strong focus on the activities and outcomes of stewardship, not just policy statements. There are new expectations about how investment and stewardship is integrated, including environmental, social and governance (ESG) issues ….
The FRC Corporate Governance Code builds on the stakeholder governance provisions of Sec. 172 of the UK Company Law 2006 by requiring a company’s annual report to describe how the interest of all stakeholders have been considered.”
“Amidst uncertainty about what comes next after the Business Roundtable announced its new Statement on the Purpose of a Corporation, JUST Capital released its “Roadmap for Stakeholder Capitalism” and the results of our 2019 Survey, which details the Issues and stakeholders the American public wants U.S. companies to prioritize most to restore declining trust and create an economy that works for more Americans.
The clear question is, what’s next? How do we turn words into deeds? What can companies actually do to measure and improve their performance on these issues?
Since 2015, JUST Capital has surveyed more than 96,000 Americans on what they believe U.S. companies should prioritize most when it comes to just business behavior. This year, in collaboration with NORC at the University of Chicago, JUST Capital asked a representative sample of more than 4,000 Americans to compare 29 different business Issues on a head-to-head basis in order to produce a data-driven roadmap for corporate leaders to align their business practices with the priorities of the American public.
The goal? To restore faith in business during this era of declining trust and mobilize the private sector in support of the country’s most pressing societal challenges.
A Roadmap for Stakeholder Capitalism
In this year’s survey, we aimed to get to the heart of what Issues matter most when it comes to just business behavior – and to provide more specific guidance to companies looking to improve performance based on this stakeholder model. We asked Americans to compare key business Issues directly, on a head-to-head basis, in order to produce a reliable hierarchy of Issues ranked in order of priority. We then assigned each Issue to the stakeholder it most impacts.
“As we approach a new decade, we are also approaching a tipping point for business, with new benchmarks for what constitutes a good company, a good investment, and a good leader. The defining expectation: good companies and investments will deliver competitive financial returns while helping society meet its biggest challenges, and in so doing will enable sustainable business.
Leaders with foresight and courage will use this dynamic to create new opportunities for growth, sustained returns for shareholders, and greater societal impact. To do this, they will need to think in new ways, create new modes of competitive advantage, pursue deep and broad business model innovation, and engage strategically with ecosystems. They must merge the two currently disconnected uses of the “S-word” in business: sustainability and sustainable competitive advantage.”
The implications for companies, capital, and capitalism are profound. Here, we share our take on the emerging era of business value, and the CEO agenda for value and the common good.”
“The Good Governance Academy was launched on 18 March 2019 under the patronage of Prof. Mervyn King with the objective of collaborating with business schools, institutions and universities, local and international, to share information for the greater public good. The four critical governance areas identified as matters of public interest are:
Value creation in a sustainable manner
Conscious corporate leadership
Integrated thinking and reporting
Mindful outcomes based governance as embodied in King IV
“We believe the case is made. It is now time for GCs to deliver upon it.
We believed it was true when we published our 2015 Guide, and believe that it continues to be true today: GCs are better placed, better equipped and increasingly able to drive change and deliver value to their organizations through an increased focus on corporate sustainability.
When we explained this in our 2015 Guide, it was clear that we had struck a chord that was resonating. GCs were enthusiastic about corporate sustainability, but they also highlighted the need for practical guidance on how to embed it in their organisation’s DNA. What do good practices look like, and how do you achieve tangible results?
Explore the guide
This 2019 Guide seeks to support GCs by examining five areas in more detail, providing practical tips and strategies for success inspired by the GCs who participated in its development.
You can read the executive summary and key takeaways from the guide by clicking the icon below. A full version of the Guide for General Counsel on Corporate Sustainability Version 2.0, along with version 1.0, is available to download here.”
“Global companies are falling short on long-term behaviors. Companies are scoring
lower than they did in 2014, and well below the level reached before the financial crisis, on our
overall measure of long-term behavior.
Overdistribution of capital can be a drain on corporate performance. Although distributing capital via buybacks and dividends makes sense in some circumstances, our analysis finds that companies taking this approach tend to generate lower five-year returns on invested capital (ROIC, our preferred measure of performance).
Corporate research and development (R&D) can boost returns. By looking at the marginal value of additional research spending, we show that R&D investments are linked to higher ROIC.
Employee ownership is linked to higher returns among global asset managers. Employee ownership is the strongest predictor of success for asset managers, particularly those in equity investing.
Net returns for asset owners are linked to both governance and investment strategy. Relevant factors include board diversity, active ownership, lower costs, a higher funded ratio, and higher exposure to both public and private equity.
Of course, not all drivers of long-term success are easily measured or detected, and if more
data were available, we could deepen our understanding of vital factors such as talent
retention and customer loyalty. But even with existing data limitations, we are able to confirm
some well-known predictors of long-term success and also unearth some novel ones.
What follows is a fuller account of our findings, our methodology, and our thoughts on how best
to extend these results in the future.”
“After many years, this past summer the Business Roundtable updated its principles of corporate governance with a new Statement on the Purpose of a Corporation. In the accompanying press release, the Business Roundtable emphasized the larger societal role of corporations in America: “If companies fail to recognize that the success of our system is dependent on inclusive long-term growth, many will raise legitimate questions about the role of large employers in our society.” Superseding the decades-long period during which the Business Roundtable supported the view that “corporations exist principally to serve their shareholders,” the revised statement of purpose is oriented toward “the long-term interests” of “all of our stakeholders.”
The Business Roundtable thus joins other prominent voices in corporate America that are now disavowing long-held views of shareholder primacy. The Business Roundtable press release identifies the two sources of this trend. The first is a perceived disconnect between the short-term interests of “shareholders” and the long-term interests of “stakeholders,” a group that, writ large, could encompass all of American society. The second is a desire to stave off government intervention that could impose an overly burdensome stakeholder- centric model of corporate governance through legislation: “If companies fail to recognize that the success of our system is dependent on inclusive long-term growth, many will raise legitimate questions about the role of large employers in our society.”
The short-term/long-term, shareholder/stakeholder debate is likely to become more intense, and more political, in the near future. As the landscape of corporate governance shifts around them, companies should seek firm ground on a foundation of business success by creating and implementing a strategic plan over a time horizon that will maximize both growth and profitability. With a well- developed, well-articulated, and well-executed strategy, a chief executive can generate productivity and value, and a successful enterprise will have correspondingly wide latitude from investors and regulators alike to engage in responsible corporate stewardship in the manner, and over the timeframe, that is best suited to the corporation.”
The proper selection and monitoring of fund managers is one of the most important tasks for Government Pension Investment Fund (GPIF). Its current approach, which depends on the track records and qualitative explanation of candidates and commissioned fund managers, can be significantly improved with the use of Artificial Intelligence (AI). This would lead to better management of GPIF’s assets, which amount to over 150 trillion yen. GPIF expressed their interest in using AI technologies to improve overall business practices, especially on their core competences. Thus, this commissioned study focused on the investigation of: (1) The possibility and implications of applying AI technologies to the long-term management of pension assets, and (2) The impact of AI technology on the business models of asset management companies, especially if GPIF establishes its AI capability to select and monitor fund managers.
One of GPIF’s core activities is the development and maintenance of a “manager structure”. “Manager structure” refers to the structure of managing organizations (managers), and the associated allocations and reallocations of assets to be managed. Within the process of developing and maintaining the manager structure, it is necessary to make various decisions, such as defining the characteristics of each manager, defining their management behavior with respect to various aspects of the economic background, and determining whether their behavior is consistent with the policy declared to GPIF.
The fundamental questions for this study are, “Is there any chance AI could be used within manager structure development and maintenance processes?”, and “In which part of the process can we use AI most effectively?” A joint team formed between GPIF and Sony CSL have gone through GPIF’s manager structure development and maintenance processes in-depth, and agreed to develop a proof-of-concept prototype system to test the principle of using deep learning to detect the investment style of managers from trading behavior data (trading items, timing, volume, unrealized gain and loss, etc) collected daily by GPIF. The system is composed of a series of “detector arrays”, each reacting to the specific investment style of each manager. A detector array is a set of neural networks that are trained beforehand with the data generated by virtual fund managers, that each faithfully execute one of the typical investment styles. The system provides an N-dimension vector representing a mixture of investment styles of the manager at given point in time. A blind test of style detection using actual trading behavior data for 16 fund managers demonstrated that the system can properly detect the styles and drifts of each fund manager. In addition, the system’s visualization capabilities were proven to be effective in identifying the spontaneous convergence of trading behaviors where most funding managers happen to trade similar items.
Results from the proof-of-concept pilot system indicate that, with the introduction of such a system, GPIF should be able to conduct more prudent and data-driven selection and monitoring of fund managers. In addition, this may foster more constructive and in-depth dialog between GPIF and fund managers, which will improve the robustness and performance of investment practices at GPIF in the long run.
Sustainable and Impact Investing
Video from the September 13, 2019 Swiss Re conference “Sustainability Leadership Series: Responsible investing in practice.”
“The smallest of the institutional investors, endowments and foundations at $2 trillion in global assets under management have historically had an outsized influence on the trajectory of investment management. The investment goal of ensuring that the endowment’s rate of consumption can be sustained and relatively limited liquidity needs—typically about 5% of the average of the endowment’s value over the past three years—give endowments and foundations the flexibility to invest with a long-term horizon and drives them to be more forward-thinking.
By investing with a long-term horizon, endowments and foundations must manage risks over multiple horizons; ranging from the risk of losses in a severe market dislocation to long-term risks, such as climate change. To illustrate, Yale University first identified absolute return investing, or attempting to generate positive equity-like returns regardless of broader market conditions, as a distinct asset class in 1990; today aggregate absolute return assets under management exceed $6 trillion. More recently, Rockefeller Foundation coined the term impact investing, or investing with the dual goals of financial return and environmental or social benefit, in 2007.”
Moving private wealth to well-targeted impact investments is necessary to achieve sustainable development. An ever growing number of asset owners want to deploy capital for positive impact, and wealth managers want to offer the right impact investing solutions to their clients. The impact investing market is growing rapidly and diversifying steadily in its offerings.
Yet, the impact investing space remains inefficient. Asset owners and wealth managers need more clarity on where to focus their attention: which impact themes, geographies, and asset classes are oversaturated and where do we need to drive new and varied solutions? How can wealth managers better meet the needs and interests of asset owners?
This work is the first substantial step towards clarifying significant market gaps through "heat maps” that identify under-invested market segments and highlighting direct feedback from ultra high net worth investors on the ways that wealth managers can better serve their impact investment objectives.
Join us—towards impact!
Dr. Falko Paetzold, Initiator & Managing Director, Center for Sustainable Finance and Private Wealth (CSP), University of Zurich Sam Bonsey, Chief Operating Officer, The ImPact”
“A defining trend of global financial markets over the past 10 years has been growing investor preference for low-cost investment products with broad market exposure.
The shift in assets from actively managed instruments to passive investing strategies is re-shaping both the asset management industry and the structure of corporate shareholding.
Because of the economies of scale in index investing, the asset management industry is becoming more concentrated and the largest players own and control a greater portion of the global securities market.
Furthermore, index-tracking investing removes much of the flexibility of portfolios to diversify away from risky corners of the market while potentially affording the space for longer-term business strategies and investment horizons.
A growing body of academic literature, including influential research reviewed on this forum, explores the stewardship implications of passive investing, focusing primarily on the “Big Three” asset managers—BlackRock, State Street and Vanguard—the early movers that now own sizeable stakes in most large US public listed companies.
In our recent paper entitled Asset Managers as Stewards of Sustainable Business: Implications of the Rise in Passive Investing we draw on this literature to address the following broad questions: How do passive asset managers, particularly the large ones, exercise their stewardship responsibilities? Are asset managers that offer index-tracking and exchange-traded funds sufficiently incentivized to use their control rights to address urgent ESG risks, such as climate change? What policy strategies would encourage passive investors to play a more active role as stewards of capital markets?
In this post we summarize the main points of the paper.”
“In the year following the Parkland shooting, which killed 17 students and staff members at a Florida high school last February, investor strategic engagement efforts to limit gun violence have achieved key victories and faced setbacks this month. Led by faith-based investors, these efforts are building momentum.
Strategic engagement with publicly traded companies ranges from questions on earnings calls to meetings with company management and the board and from investor-hosted roundtables to shareholder proposals. It has become increasingly prevalent over the past decade.
Only seven of the largest gun manufacturers and retailers in the US are publicly traded. Specifically, three of the largest US gun manufacturers are publicly traded. Sturm, Ruger & Co. (NYSE: RGR) manufactured 1.7 million guns in 2015, followed by American Outdoor Brands (NASDAQ: AOBC), which manufactured 1.5 million via its subsidiary Smith & Wesson. The sixth largest US gun manufacturer Savage Arms at 400,000 guns is owned by Vista Outdoor (NYSE:VSTO). Of the largest gun retailers in the US, four are publicly traded: Walmart (WMT); Dick’s Sporting Goods (NYSE: DKS); Sportsman’s Warehouse (NASDAQ: SPWH); and Gander Outdoors—owned by Camping World (NYSE: CWH). Shareholder advocacy efforts have achieved key victories in three of them in the year since the Parkland shooting.
Faith-based investors have led the way in these advocacy efforts. They bolster their moral authority and organizational prowess with significant financial firepower. Interfaith Center on Corporate Responsibility, which pioneered shareholder advocacy for environmental, social, and governance (ESG) issues, represents over $400 billion in assets from 300 institutional investors globally. The Catholic Church and the Mormon Church each separately have over $30 billion in assets. The Church Pension Fund of the Episcopal Church alone has assets in excess of $13 billion, and Trinity Church alone in New York’s financial district alone has a $6 billion investment portfolio. These are in addition to the assets of individual Catholics, Mormons, and Episcopalians.”
“Given the global challenge to tropical forests, it is crucial that investors engage with companies whose supply chains may impact deforestation. Hermes EOS has been part of a global engagement group organised by the PRI and Ceres on deforestation in cattle and soy supply chains, targeting a range of companies from food processors to traders to apparel and footwear manufacturers.
1) awareness of the issues and governance;
2) risk management and traceability;
3) strategy and risk mitigation; and
4) metrics and monitoring in relation to deforestation in these supply chains.
“During my childhood and adolescence, I used to be the delivery boy for the whole family, to the mini market near our home in Beirut. Dad used to repeatedly ask me to bring some soft drinks, grocery items, and cigarettes. I was a revolutionary child, and buying cigarettes did not conform to this revolutionary ethic of mine. “Get your own cigarettes, dad, and feel free to use the balcony! Didn’t you see the picture of the lungs of smokers in the science book?!” And what do you know, my father always respected my desire and fetched his own smokes—albeit reluctantly. I grew up with the idea of being health oriented, environmentally friendly, joined the Green Club at school, became an advocate of SDGs and an ambassador of UNGC Lebanon network at a later stage. Detesting smoking and loving sustainability grew within me in tandem.
In the year 2015, I had the chance to meet with Jennifer Motles, Director of Social Impact and Sustainably at Philip Morris International. We met as students at Harvard Business School (HBS). Jenny works for a company which is a major contributor to health problems and diseases caused by smoking cigarettes. I always thought of her role and company as a contradiction in terms. What has sustainability to do with tobacco? I used to be skeptical that this industry could even merit my asking of the question, let alone be considered as a potential problem solver.”
Measurement and Reporting
A Novartis video on “Materiality Assessment & Impact Valuation”
The mission of the Impact-Weighted Accounts Project at Harvard Business School, under the leadership of Professor George Serafeim, is to drive the creation of financial accounts that reflect a company’s financial, social, and environmental performance. Our ambition is ultimately to create accounting statements that transparently capture external impacts in a way that drives investor and managerial decision making. We aspire to create a methodology that is adopted and widely used by investors and companies in making their business decisions. The Project is part of a broader Impact-Weighted Accounts Initiative (IWAI), which is a research-led joint effort by the Global Steering Group (GSG) and the Impact Management Project (IMP).
Our Principles
Every successful effort organizes around a core set of beliefs and principles. The following are ours:
Impact can be measured and compared
Impact should be measured within an accounting framework with the aim of harnessing our economy to improve our society and planet
Transformational change requires that impact measurement be scalable
To be scalable it needs to be actionable and cost-effective”
“Vital to rebuilding trust in business is an effective accountability framework based on good, governance and reporting. Within this, transparency over stewardship of investments plays a fundamental role in providing confidence to a broad range of stakeholders. Pursuing greater transparency drives greater accountability, and promotes a critical shift from short-term thinking to creating long-term value.
What is this review about?
This is first-of-its kind research designed to enable a better understanding of how UK-based asset managers and asset owners are currently reporting on and engaging with their investee companies on stewardship. We analysed recent stewardship reporting by the 30 largest UK investors who are signatories to the UK Stewardship Code (20 asset managers and 10 asset owners). We then assigned scores based on the depth of their reported stewardship activity across different areas of investor priority. The findings provide a comprehensive picture of investor priorities and expectations, and offer unique insights about the journey toward more transparent reporting that promotes the safe investment of capital for the long-term. More deeply understanding investor priorities helps inform our statutory audit and reporting work. This, in turn, better enables us to meet the needs of investors as the ultimate beneficiaries of our product, as well as those of wider society, in the spirit of increasing trust in business.”
“A commitment to challenge, even when uncomfortable, lies at the heart of our professional obligations as auditors. At a time when trust in audit is vulnerable, we believe it is essential for the profession to reassert its commitment to its cultural foundations to ensure that behaviours of scepticism and challenge are promoted across audit firms.
That’s why we commissioned Professor Karthik Ramanna of the University of Oxford’s Blavatnik School of Government to write an independent paper bringing a fresh perspective on what it takes for audit firms to build a culture of challenge.
Professor Ramanna’s recommendations encompass how auditors are trained and mentored throughout their careers by those more senior, how shared beliefs are created and conveyed, how the organisation is aligned to reinforce cultural values, and how audit firms can make robust processes and controls more visible to external stakeholders.
Professor Ramanna also makes the point that audit firms alone cannot achieve a culture of challenge, highlighting the need for audit committee chairs to work together with auditors to reinforce the value of external challenge that auditors bring"
