By Esther Toth and George Blacksell
Corporate Citizenship recently hosted a webinar to explore how investors use Environmental, Social and Governance (ESG) factors in their decision-making process. This webinar was part of our programme of work associated with the Long Term Value Project.
We were joined by Verity Chegar, VP, ESG Strategist at BlackRock and Eric Fernald, Executive Director, Head of ESG Corporate Communications at MSCI. Below are the key insights from our webinar relevant to corporate sustainability and investor relations (IR) professionals:
1. There is a real demand for material ESG information from investors
It is a misconception that investors don’t care about companies’ ESG performance. A growing majority of the investment community agrees that taking ESG issues into consideration helps manage investment or credit risks and can be a proxy for management quality. This was highlighted by a CFA Institute study conducted among its members (portfolio managers and investment research analysts) asking how they use, or don’t use ESG data in their daily practice. 73% of respondents said they take ESG issues into account in their investment analysis and decisions.
Yet, companies may not recognise that there is a real demand for ESG information from investors because queries are not labelled as “ESG”. According to Verity: “we may ask questions about key personnel hires or weak regional sales following a scandal, and our expectation is for the company to provide information on its human capital management and governance systems, which are ESG issues.” A very specific ESG query might only be asked if a company has failed to disclose relevant information or its performance is significantly lagging behind its peers.
When investors ask about long-term strategy they are expecting companies to consider and cover relevant ESG issues and risks. This was indeed one of the main points in Larry Fink’s letter to S&P 500 CEOs in 2016, where he wrote: “Over the long-term, environmental, social and governance (ESG) issues – ranging from climate change to diversity to board effectiveness – have real and quantifiable financial impacts. In line with this, it is important for companies to ensure that they have a comprehensive and long-term strategy, which is publically disclosed, followed by quality, annual reporting to demonstrate progress on targets. A clear narrative around the business model and strategy and how they are linked to material ESG issues is what investors are looking for.
2. Transparency on ESG risks and performance can go a long way
Most investors use various data sources to evaluate companies’ ESG performance. The two most important sources of ESG information for investors are:
a) Publicly available company reporting on ESG issues: Ultimately, what investors need is consistent, comparable, standardised and verified ESG reporting by companies in order to further integrate ESG (aka. extra-financial or pre-financial) factors into their decision making process.
At the same time, it is very important for companies to ensure that ESG reporting is balanced. “Companies need to be upfront about where they see their challenges” says Eric Fernald. This was also echoed by Verity: “sustainability reports often only include the good stuff. When companies experience poor performance on material issues, we expect them to disclose it and explain it.”
b) ESG rating and research providers: Due to the lack of standardised public reporting on ESG topics, many investors also rely on specialist ESG investment research providers. A company’s ESG rating or ranking will have a tangible effect on the amount of investment it receives.
At the moment, companies often mention survey fatigue when asked about ESG rating and research providers. Methodologies can differ, especially in terms of extent to which they rely on publicly disclosed ESG information. For the sustainability practitioner, the landscape can seem overwhelming. Fernald recommends engaging with ESG research providers in order get the most out of the process and prevent the risk of your company being penalised for lack of communication or clarity.
Corporate Citizenship’s view is that companies and especially sustainability teams have to prioritize their limited resources. Firstly, dedicating time and energy for improved disclosure on ESG topics can pay dividends when trying to engage investor audiences. It might also help to improve your company’s scores on ESG ratings that utilise publicly available data. Secondly, companies should identify the most relevant ESG research providers that their investors subscribe to. This way they can make sure that the process also delivers value to the business in terms of both reputation and core ESG performance.
3. Not more, but better ESG data is needed
Sustainability reports have successfully been used as a platform to communicate and engage with a wide range of audiences on a whole host of environmental, social (and sometimes governance) issues. However, the real needs of investors are all too often neglected in these reports and information is not sufficiently tied back to financial outcomes. Investors want “decision-useful” information related to ESG. According to Verity Chegar, “quality ESG information for BlackRock means consistently reported, comparable data that is relevant to the specific business and contains forward looking elements.”
The recently published ESG reporting guidance by the London Stock Exchange highlights the key characteristics of “investment grade” ESG data, which is needed by institutional investors:
- Accuracy: deploy rigorous data collection systems
- Boundaries: align to the fiscal year and business ownership model
- Comparability and consistency: use consistent global standards to facilitate comparability
- Data provision: provide raw as well as normalised data
- Timeliness: provide data to coincide with the annual reporting cycle
- External assurance: consider strengthening the credibility of data by having it assured
- Balance: provide an objective view, including both favourable and unfavourable information
At present, sustainability reports are not always up to scratch in this respect – with a general consensus among investors that there is a lack of quality sustainability information available. In the CFA Institute survey mentioned above, 61% agreed that public companies should be required to report at least annually on a set of sustainability indicators in accordance with the most up-to-date reporting framework (51% Americas, 84% Asia-Pacific, 82% EMEA) while 69% think it is important that ESG disclosures be subject to independent verification.
4. Direct engagement with investors can only add value to materiality assessment and ESG reporting processes
During the webinar we asked our audience to indicate whether their organisations have incorporated investor views in the ESG materiality assessment.
- Only a minority (30%) of respondents said that they specifically asked shareholders as part of the process.
- 29% of companies have not yet conducted a thorough materiality assessment and even though the remaining 41% have completed a robust materiality process, they did not seek director investor viewpoints.
At Corporate Citizenship, we have been working with our clients to engage their investors directly on the materiality of ESG issues. We have seen first-hand the benefits such engagements can bring in terms of improving internal awareness of ESG issues and achieving buy-in to address gaps in performance.
Our second audience poll gauged how companies interact directly with investors on ESG issues. The result was interesting, but perhaps not unexpected:
- Only 14% of respondents said they had engaged with their mainstream investors as well as Socially Responsible Investors (SRIs) on ESG topics in addition to responding to investor queries and ESG ratings.
- A further 29% of companies indicated that they have regular dialogue with investors, but only with specialist SRIs.
This is certainly a topic for further research as sustainability and IR teams might be responsible for different types investor engagements altogether. However, we believe that engaging with mainstream investors on ESG topics will become even more prevalent among leading companies.
5. IR and Sustainability departments need work in tandem
Finally, both our guest speakers emphasised that companies must link up IR and Sustainability teams to ensure consistent messages are conveyed to market participants on long-term value creation.
This was also the thrust of our recent report, which we hope provides some food for thought for IR and Sustainability professionals. Internal collaboration between these two teams can deliver real value and help companies advance on all the above four points by ensuring that:
- Language and terminology around ESG issues does not become a barrier between companies and investors
- Transparency and disclosure on ESG performance is not seen as a legal risk
- Decision-useful ESG data is reported and made available to investors in the most efficient way
- Meaningful conversations on ESG risks and opportunities takes place with all your shareholders, not just specialist SRIs
Ultimately, we believe that companies should start moving towards measuring the financial impact of their ESG risk management and performance with a view to developing integrated profitability and sustainability models. We aim to address these aspects in our future work associated with the Long-Term Value Project.
Please get in touch if you have any questions or would like to discuss more. Our Associate Director, Esther Toth will be speaking at the following conferences on the subject:
- Sustainable Brands Madrid 2017 – Madrid, 7-9 May
- Responsible Business Summit Europe 2017 – London, 7-8 June
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