ESG

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Are Investors Ahead of Companies on ESG, or Vice Versa?

The practice of integrating environmental, social and governance (ESG) factors into the investment process has gained significant traction in recent years. It is particularly heartening to see so many mainstream investment managers deepening their interest in ESG. Yet there is an important question being debated in the ESG community and beyond: Are investors ahead of companies when it comes to ESG, or vice versa?

On the one hand, recent studies seem to suggest that investors are ahead of companies in their understanding of ESG and that they feel limited by the lack of useful information being provided from companies. A recent study published by the MIT Sloan Management Review states that “[i]nvestors care more about sustainability issues than many executives believe.”[1] The study paints a picture of an eager investor community encouraging companies to do a better job in developing their sustainability strategies and in demonstrating their business case for sustainability.

On the other hand, leading Fortune 500 companies seem concerned that their largest investors are not giving them adequate credit for their sustainability efforts, noting that investors seldom ask about ESG during meetings or calls. A recent report on institutional investors published by OFI Global Asset Management in partnership with Pensions & Investments notes that “[o]f the [240] institutional investors surveyed, 77% do not factor ESG considerations into their investment making decisions; with almost three quarter of respondents stating that either ESG’s value proposition is unclear, or that they don’t understand how to measure ESG’s success.”[2]

So who is right? Well, as with most complex issues, the answer is: “It depends.” A closer look at the available research, alongside our own experience in ESG integration and corporate engagement, suggests that there is a significant gap between leading global companies and their smaller peers. Similarly, there is a notable gap between large institutional investors and other participants in the investment sphere.  

When examining our own universe of corporate issuers, which encompasses the largest, investment-grade-rated Fortune 500 companies, we see a number of examples of excellent ESG management. The companies that we review, especially in consumer packaged goods, financial services, health care & pharma, and technology, are increasingly committed to ESG and sustainability because they recognize that it can drive business success.

At the same time, the types of large institutional investors that often allocate significant assets (via large investment managers) into leading global corporations are generally concerned about scale, requiring robust, proven and efficient investment processes. As such, their experience with ESG integration tends to be more recent, and often a bit more limited to ESG screens and the use of externally provided data and metrics with market-proven legitimacy.

A deeper consideration of the issue brings into focus a question of strategic significance of ESG. There is growing evidence that companies can deliver the greatest business value through ESG efforts when these efforts are strategic and deliberate, and this aligns with our experience with leading companies across sectors.[3] At the same time, large institutional investors are still on the learning curve when it comes to ESG, and they tend to rely on discrete ESG metrics in a process that is often decoupled from any analysis of corporate strategy and core business drivers.

So while institutional investors and their asset managers are using limited tools and methodologies to analyze ESG, many large, Fortune 500 companies have evolved their ESG and sustainability initiatives, elevating their business relevance. Full-fledged sustainability strategies have replaced mere PR campaigns. Broad companywide task forces led by the CEO have replaced small, often marginalized sustainability teams. Rigorously tracked and reported ESG performance metrics have replaced vague discussions of “progress.”

Simply put, we are seeing a profound shift in corporate mindset. Business leaders increasingly believe that it is possible to “do well by doing good,” and they are confidently leading their organizations in this direction. As a result, companies are working harder than ever to develop and implement sophisticated sustainability initiatives. This is driving unprecedented levels of social and environmental innovation, reshaping the way we look at business. It is no surprise that corporate social responsibility (CSR) reports by leading companies are now brimming with rich, detailed information about their efforts across a range of sustainability issues.

When we look at the current state of ESG integration, we see a unique opportunity. While companies are offering information rich in color and detail, the information that many large ESG investors tend to review can be akin to a bare, untouched page in a coloring book. It’s time to fill in the missing “color.”

This is the perfect moment for thoughtful investors and their asset managers to take the time to analyze ESG more comprehensively, letting the full strategic significance of ESG shine through. In doing so, they can demonstrate the value proposition of ESG integration that so many institutional investors seek.

Our hope is that, with time, a large proportion of investors will embrace ESG integration in its most thoughtful, comprehensive form. This would, in turn, lead to higher-quality investment decisions across the investment community, and arguably better outcomes for all stakeholders.

 

 

[1] “Investing for a Sustainable Future,” MIT Sloan Management Review and The Boston Consulting Group, May 2016. http://sloanreview.mit.edu/projects/investing-for-a-sustainable-future/

[2] “Institutional Investors: Shared Expectations, Divergent Paths,” OFI Global Asset Management and Pensions & Investments, Spring 2016. http://www.ofiglobal.com/assets/pdf/shared-expectations-divergent-paths-whitepaper.pdf

[3] Based on Breckinridge Capital Advisors research of company documents, including annual reports and CSR reports, and the discussions during corporate engagement calls.

 

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