As ESG initiatives are increasingly attracting the interests of investors, a key component into understanding their value is recognizing the view from which value can be derived from. Fortunately, to gain such an understanding, we were able to speak with Courteney Keatinge, the Director of Glass Lewis’s environmental, social and governance research. Keatinge, who covers shareholder proposals across a range of markets, is also the author of Shareholder Activism Issue Reports on topics such as political contributions, sustainability reporting, proxy access and hydraulic fracturing.
Christopher P. Skroupa: More often than not, investments in ESG (environmental, social and governance) initiatives include short-term costs and long-term returns. What data should be shown to investors on ESG investment opportunities to onboard investors interested in the short-term for the long-term?
Courteney Keatinge: There’s two parts to this question. The first one is the time horizon. When looking at some asset owners, their time horizon is indefinite; having short-termism as a pension fund is not really a viable strategy. Because these funds have long-term obligations to their beneficiaries, they have to consider the financial, environmental and social sustainability of the companies in their portfolios. So when you are looking at it from that perspective, a short-term cost that results in a long-term return is much more palatable.
Another factor to consider is the rise of passive investing. There are a number of investors who are increasingly investing in indices rather than in individual equities. In those cases, investors have to take a step back and look at their investment in a portfolio of disparate companies in disparate industries, as opposed to a single company. When you take this kind of holistic view, it is easy to see how certain companies’ impacts can trickle down and potentially negatively impact other companies listed in the index.
I think a lot about climate change, when I think about these externalities. For example, one company could be producing significant GHG (greenhouse gas) emissions and not making investments in minimizing its environmental impact. Although that company may be saving money by avoiding these investments, other companies in the portfolio could experience the negative effects of these externalities.
So, while an investor may own shares in an electric utility company that is cutting costs and bolstering revenues by not investing in clean energy, that same investor also likely owns stock in a property insurance company that has significant exposure to weather events that are largely driven by climate change. Because of this kind of interplay, I think it’s helpful consider ESG initiatives from a holistic portfolio perspective rather than an equity perspective; when you start doing that, ESG considerations start to make a lot more sense for investors.
Overall, I believe ESG initiatives should be less of a short-term versus long-term approach; we need to transition to a more holistic look at an investor’s portfolio. I would also say that when you’re looking at short-term costs, and looking at a company’s environmental and social performance, there are a lot of short-term costs that investors could see playing out in the bottom line. Those are costs of items like lawsuits, fines, penalties, etc. Things that generally have long-term implications, and could also come at a short-term cost to investors.
I think it’s also important to note that investors have been looking at ESG topics for a long time, but they haven’t necessarily called them ESG topics. If you talk to a traditional investor who, for example, invests heavily in mining companies, they know that operational safety is an issue and that if these companies are not adequately addressing safety issues, it can lead companies to face fines, lawsuits and reputational impacts that can have a serious and detrimental effects on these companies’ bottom lines, which will ultimately harm shareholders.
Safety is just one of many material operational metrics that have been closely examined by investors. However, it wasn’t until recently that we started calling them “ESG factors.” I honestly don’t know if this relabeling of certain material operational metrics as “ESG metrics” is always working to the benefit of ESG professionals, because I think there still can be a misconception in the market that the consideration of ESG factors comes at a cost to investors – which I believe is a complete fallacy.
Skroupa: How are metrics impacting ESG integration initiatives on the board- and management-side?
Keatinge: First of all, investors are looking closer at ESG metrics, and companies are hearing about these metrics from their investors In the past several years, companies have been engaging more and more with their investors and the conversations at these meetings have really started to shift from talking about executive compensation to talking about ESG issues.
However, a lot of companies don’t need to be prompted by investors to take a closer look at ESG issues. I think that a lot of companies are seeing ESG initiatives as an opportunity for value creation, whereas many investors view ESG issues from a risk mitigation perspective. I think it’s easier for an investor to see where a company may be lagging its peers or experiencing significant fines, lawsuits or reputational damage as a result of an inattention to ESG factors. However, I also think it’s much easier for companies to take a look at their operations and business opportunities as a chance to derive value from investment in or consideration of ESG.
For example, can we save a lot of money by investing in renewable energy? Maybe we will cut down on electricity costs significantly by generating solar from our roof etc. So I think that companies have been really good about realizing the upside of ESG, whereas investors are a little bit slower to be able to understand the opportunities that companies could enjoy as a result of their investments in this area.
However, the board and management of a company will always have a better line of sight into the nuance and complexity of their company’s operations than their investors. Because of this, I think that being able to effectively capitalize on the opportunities associated with ESG will always be more of a struggle for investors than identifying ESG-related risks.
Skroupa: The future of integrated ESG practices will be, at some level, directly impacted by the interests of a company’s investors. To what degree do you believe the integration of ESG practices will evolve in the corporate world over the next five years?
Keatinge: I think that a big part of companies’ attention to sustainability issues derives from their employee base. We consistently hear from companies that their employees are very interested in working at companies where they feel like they are making a difference and where they feel like their company is doing good things. This is particularly true for the younger cohort of employees that many companies are trying to attract. I keep seeing these companies that were instituting policies because of a strong internal drive for environmental and social initiatives; companies are realizing that and it’s playing a lot into their decision-making in terms of where they are investing their time and energy.
At the same time, we’re seen shareholder proposals receive higher and higher support on issues that are material to companies. I think investors are trying really hard to get to a place where they understand what a material issue for a company is, and then they are working with those companies to make sure that they are tracking and disclosing and providing information on these issues.
From the investor perspective, there’s a big focus on materiality, and driving companies towards making changes to material financial indicators. However, when you look at what companies are doing internally, some of it is in response to employee or customer demand, which are often broader considerations than some of the material issues on which investors are really trying find out more information.
Courteney Keatinge will be interviewed in a panel entitled Rise of ESG Engagement: ESG Data as a Challenge for Company Defense at the Shareholder Activism conference on Thursday, January 25 in New York, NY.