About Sustainability Ratings: CPAs Are Being Educated by Their Profession’s Journal – A Good First Effort to Push Information to All Levels of CPAs

by Hank Boerner – Chair and Chief Strategist, G&A Institute

The professional CPAs working inside a public company, or in the outside accounting firm working with a company may or may not yet be involved in assisting corporate managers in responding to a growing number of third-party surveys focused on the company’s ESG strategies, actions and achievements.  Responses to these periodic surveys and engagements by other means with the ratings and rankings organizations are increasingly shaping outcomes – that is, investor opinions of the company.

Many more companies are now receiving surveys from and responding to a growing number of third-party ESG rating providers – and as we are told by our corporate connections, very often managers are straining under the effort to effectively respond given the breadth of information sought and the information available in the corporation.

As we advise corporate managers, it is important to know that there is a publicly-available ESG profile of your company that investors are considering in various ways – and either you will shape the profile and tell the company’s sustainability progress story, or someone else will.  That “someone else” would be the global universe of ESG rating providers — and their output is directed to their investor clients. The ones who invest in, or could invest in, your company.

Savvy corporate managers of course “get it” and really make the effort to effectively respond to as many queries and surveys as possible.  But what about the internal financial managers and outside accountants – are they involved?  At some firms, yes, and other firms no — or not yet.

The Big Four are tuned in to corporate ESG / sustainability disclosure and reporting.  But many smaller CPA firms are not.

And among small- and mid-cap publicly-traded firms, the role of the ratings and rankings service providers could still be an unknown and under-appreciated factor in shaping the firm’s reputation, valuation, access to and cost of capital, and other considerations. The article in the influential CPA Journal this month is a worthwhile attempt to educate professional CPAs, whatever their position.

Five professors — co-authors and colleagues at the Feliciano School of Business, Montclair State University — explored the question, “Are Sustainability Rankings Consistent Across Rating Agencies?”  One obvious element in the piece that we noticed is something happening in both the corporate sector and investment community:  the fluid interchangeability of terms of reference.

Is what is being explored by the ESG ratings and rankings service providers and their investor clients performance related to …CSR (corporate social responsibility)…ESG performance factors (environment/social/governance)…corporate sustainability…corporate citizenship…sustainable investing?  Combinations? All of these?
The authors use the terms interchangeably, as do company managers and capital markets practitioners in discussing the ever-more important role that “corporate sustainability rating providers” play in investor decision-making.

They cite the 2014 overview of rating agencies by Novethic Research (7 international rating agencies, 2 non-financial data providers, 8 specialized agencies and 20 local/regional agencies). Several studies and books are identified as reference sources.

Specific CSR rankings examined for 2015 results:  Newsweek’s Greenest Companies; Forbes Global 100 Most Sustainable Corporations; and, CSR Magazine Top 100 Global RepTrak companies.

We offer the perspectives of the Journal authors in our Top Story so that you can see what CPA’s will be reading in their Journal.

There are important points raised — but the three rankings examined do not cover the full breadth of the expanding universe of ESG rating organizations.  And we are light years away from 2015 in terms of the rating agencies’ influence.

The three rankings cited are not as “investor decision-useful” as would be the analytical work of teams at such firms as MSCI, Sustainalytics, Institutional Shareholder Services (ISS); what was offered in 2015 doesn’t compare to the depth of ESG data available today via Bloomberg and T-R Eikon terminals; the RobecoSAM Corporate Sustainability Assessment (CSA) ratings that influence inclusion in the DJSI; and, volumes of information made available by CDP (formerly the Carbon Disclosure Project).

The G&A Institute team assists corporate managers in responding to these important players and an ever-widening range of third-party ESG service providers.

We’d like to share three basic observations with you and with CPAs: (1) the third party queries are becoming more probing in the information and data sought; (2) the corporate response effort is much more organized and thorough these days; (3) the results of both of these efforts are increasingly important to, and utilized by, the institutional investment community (both asset owners and their managers).

So — the more information that CPAs have about sustainable investing and corporate ESG performance, the better equipped they’ll be to support their clients.  The article is a good start in this regard.

The journal authors are academics Betsy Lin, Silvia Romero, Agatha Jeffers, Laurence DeGaetano, and Frank Aquilino.

Top Story

Are Sustainability Rankings Consistent Across Ratings Agencies?
(Thursday – July 26, 2018) Source: CPA Journal – As more and more companies begin to devote serious attention to sustainability reporting, many different systems of rating the depth and effectiveness of sustainability efforts have arisen. The authors compare three leading…

Barron’s Magazine Heralds the Arrival of Sustainable Investing to the Mainstream In Special Issue This Week – Sustainable Investing Version 2.0 Is Here!

By Hank Boerner – Chair and Chief Strategist, G&A Institute

The influential Barron’s magazine is published on Mondays by Dow Jones & Company with distribution to almost a half-million retail and institutional investors (300,000+ for print version, the rest digital or combination).

Barron’s says it has been “delivering market-beating stock picks and investment advice to wealthy readers since 1921…”

In Fall 2017, the Barron’s editors picked up the pace on coverage of sustainable investing, adoption of ESG approaches and related topics and positioned its expanding coverage with the statement: “Sustainable Investing is a Powerful Force in Today’s Capital Markets.” T

he October 7, 2017 issue was devoted to sustainable investing and the cover story was “The Top Sustainable Funds” for investors.

Editor Beverly Goodman explained: “As a team of seven writers and I began work on Barron’s first special edition devoted entirely to sustainable investing, we realized something – we could not get people to stop talking about it! CEO’s wanted to tout the strides they are making in labor practices and protecting the environment. Fund managers wanted to talk about how adding ESG criteria to stock picking isn’t that much of a stretch from the multitude of decisions they routinely use.”

And so: Barron’s would now cover this burgeoning style of investing on a regular basis. “We are only in Version 1.0 of sustainable investing – 2.0 is where ESG is not a separate category but a natural part of active management.”

The October 2017 issue’s cover story was about sustainable mutual funds based on data provided by Morningstar using Sustainalytics data – 37% of the 203 funds achieved a “high” or “above average rating” and beat the S&P 500® Index returns. (Only 28% of all large-cap mutual funds managed to do that.)

The Editors Began Steady Coverage of Sustainable Investing

Each of the issues that followed there would be some kind of coverage of sustainable investing. Barron’s followed up with another significant issue in February 2018 naming the sharing the magazine’s first ranking of sustainable companies for investor-readers.

Calvert Research and Management helped with the choices (using data from Sustainalytics, ISS and Thomson Reuters ASSET4) for the “Top 100 Sustainable Companies” rankings.

The top five positions were held by Cisco (#1), salesforce.com, Best Buy, Intuit, and HP (at #5). Said Calvert CEO John Streur: “This list gives people insight into companies addressing future risks and into the quality of management.”

Now – The Mainstream Impact of This Week’s Issue

The editors continued to ramp up coverage in each issue since late-2017. And this week’s issue (dated June 25) positioned Sustainable Investing Version 2.0 for its audience. This week’s content included:

The cover story is about “The New Conscience of Wall Street” – focused on BlackRock CEO Larry Fink and his “Investing With Purpose Theme.” (Subtitle: Larry Fink’s Mission: How the BlackRock CEO is leading a sustainable revolution on Wall Street.”)

One of the articles is a debate between George Serafeim (Harvard B School professor and stalwart advocate for sustainable investment) and Adam Sessel (CEO of Gravity Capital Management): “Does Sustainable Investing Lead to Lower Returns?”

The traditional Barron’s approach to a panel of expert to explore an investing topic is this week’s “ESG Roundtable: Great For the World, Good For Investors” – featuring Erika Karp of Cornerstone Capital; Todd Ahisten, Parnassus Investments; Jon Hale, Morningstar; and Roelfien Kuijpers of DWS Group (the asset management spin off of Deutsche Bank).

There is a “Getting Started in Sustainable Investing” guide for readers, including a Glossary and suggestions for mutual funds “with a purpose”.

The feature about Larry Fink is entitled, “In Defense of Social Purpose” – and his argument for sustainable investing that editors say has “ignited a burning debate about his concept…and him.”

Fink’s words in his CEO letter, says writer Leslie Norton, “…amounted to a Rorschach test for a polarized nation. As the debate rages on over immigration, climate change, guns, income inequality, and other issues, even considering their economic impact on a company looks like a political statement. Yet Corporate America and Wall Street are increasingly doing that…”

To hear CEO Fink tell it, writes Norton, “…short termism is a scourge of corporate thinking and is encouraged by the financial media…” And…ignoring ESG can take a toll…

With this feature there is a neat “Road to Sustainability” chart showing the evolution of SRI from the 1960s to today with many societal issues described along the way to 2018.

Other features include “The Trump Bump: A Silver Lining for ESG Investors” – telling readers that in the month after the November 2016 election results were in, investors’ money flowed into ESG mutual funds and ETFs; the flow into the 275 mutual funds and ETF’s focused on ESG was 10-fold over the prior month!

And, the backlash continues; since November 2016, inflows to ESG-focused mutual funds and ETFs is averaging $700 million per month, which is three times the pace of the prior 12 months. This lifted ESG focused funds to $118 billion to date. 

Looking at fiduciaries, the editors say that $23 trillion is not invested in pension, separately managed accounts and other funds using ESG approaches.

Barron’s editors have selected “The 20 Most Influential People in Sustainable Investing” – the Who’s Who in ESG – you will want to see that list.We are cheered to see our US SIF colleagues Lisa Woll, Tim Smith, Amy Domini, Matt Pasky, and John Streuer in the Top 20!

There is also an interview in the special issue with Jeremy Grantham and how the respected value investor (he’s on the list) is a force in increasing awareness of climate change.

Finally, the Barron’s conference unit scheduled its first “Impact Investing Summit” in San Francisco (last week) and Crystal Kim reports on that event, with focus on the Millennials and their generation’s increasing impact on investing trends.

We at G&A Institute think this is a tipping point moment for investors, as the Barron’s editors position sustainable investing as now a mainstream

# # #

Footnotes:  We prepared a brief about Barron’s coverage in October 2018 on our “G&A Institute’s To the Point!” web platform, and a follow up brief in February 2018.  You can find the in-depth briefs at:

https://ga-institute.com/to-the-point/the-authoritative-barrons-magazine-now-sets-the-pace-sustainable-investing-is-a-powerful-force-in-todays-capital-markets-so-say-the-editors/

https://ga-institute.com/to-the-point/proof-of-concept-for-sustainable-investing-barrons-weighs-in-with-inaugural-list-of-top-100-sustainable-companies/

There is information about Morningstar’s focus on sustainable investing mutual funds and ETFs at:  https://www.morningstar.com/articles/745467/morningstar-sustainability-rating.htm

Be sure to check out the special issue of Barron’s at:https://www.barrons.com/this_week

 

 

Proof of Concept for Sustainable Investing: The Influential Barron’s Names the Inaugural “The Top 100 Sustainable Companies — Big Corporations With The Best ESG Policies Have Been Beating the Stock Market.”

By Hank Boerner – Chairman and Chief Strategist, G&A Institute

Barron’s 100 Most Sustainable Companies

Barron’s is one of the most influential of investor-focused publications (in print and digital format) and a few months ago (in October), the editors published the first of an ongoing series of articles that will focus on ESG performance and sustainable investing, initially making these points:

  • Barron’s plans to cover this burgeoning style of investing on a more regular basis. A lot of possible content that was developed was left on the cutting room floor, the editors note.
  • Says Barron’s: “We are only in Version 1.0 of sustainable investing. 2.0 is where ESG is not a separate category but a natural part of active management.”
  • And:  “Given the corporate scandals of recent days (Wells Fargo, Equifax, Chipotle, Volkswagen, Valeant Pharmaceuticals), it is clear that focus on companies with good ESG policies is the pathway to greater returns for investors!”

The current issue of Barron’s (Feb 5, 2018) has a feature article and comprehensive charting with this cover description:

The Top 100 Sustainable Companies – Big Corporations With the Best ESG Policies Have Been Beating the Market.”

Think of this as proof of concept: The S&P 500® Index Companies returned 22% for the year 2017 and the Barron’s Top 100 Sustainable Companies average return was 29%.

The 100 U.S. companies were ranked in five categories considering 300 performance indicators.  Barron’s asked Calvert Research and Management, a unit of Eaton Vance, to develop the list of the Top 100 from the universe of 1,000 largest publicly-held companies by market value, all headquartered in the United States.

Calvert looked at the 300 performance indicators that were provided by three key data and analytic providers that serve a broad base of institutional investors:

  • Sustainalytics,
  • Institutional Shareholder Services (ISS)
  • and Thomson Reuters ASSET4 unit.

Five umbrella categories were considered:

  • Shareholders
  • Employees
  • Customers
  • Planet
  • Community

There were items considered in the “shareholders” category, like accounting policies and board structure; employee workplace diversity and labor relations; customer, business ethics and product safety; planet; community; GHG emissions; human rights and supply chain.

We can say here that “good governance” (the “G” in ESG) is now much more broadly defined by shareholders and includes the “S” and “E” performance indicators (and management thereof), not the formerly-narrow definitions of governance. Senior managers and board, take notice.

Every company was ranked from 1-to-100, including even those firms manufacturing weapons (these firms are usually excluded from other indexes and best-of lists, and a number of third party recognitions).

Materiality is key: the analysts adjusted the weighting of each category for how material it was for each industry. (Example: “planet” is more material for chip makers using water in manufacturing, vs. water for banking institutions – each company is weighted this way.)

The Top 100 list has each company’s weighted score and other information and is organized by sector and categories; the complete list and information about the methodology is found at Barron’s.com.

The Top 5 Companies overall were:

  • Cisco Systems (CSCO)
  • salesforce.com (CRM)
  • Best Buy (BBY)
  • Intuit (INTU)
  • HP (HPQ)

The 100 roster is organized in categories:

  • The Most Sustainable Consumer Discretionary Companies (Best Buy is at #1)
  • The Most Sustainable Financials (Northern Trust is #1) – Barron’s notes that there are few banks in the Top 100. Exceptions: PNC Financial Services Group and State Street.
  • The Most Sustainable Industrials (Oshkosh is ranked #1)
  • The Most Sustainable Tech Outfits (Cisco is at the top)

Familiar companies names in the roster include Adobe Systems, Colgate-Palmolive, PepsiCo, Deer, UPS, Target, Kellogg, Apple, and Henry Schein.

Singled out for their perspectives to be shared in the Barron’s feature commenting on the ESG trends: John Wilson, Cornerstone Capital; John Streur, Calvert; Calvet Analyst Chris Madden; Paul Smith, CEO of CFA Institute; Jon Hale, Head of Sustainability Research at Morningstar.

Calvert CEO John Streur noted: “This list gives people insight into companies addressing future risks and into the quality of management.”

Top-ranked Cisco is an example of quality of management and management of risk: The company reduced Scope 1 and 2 GHG emissions by 41% since 2007 and gets 80% of its electricity from renewable sources.

This is a feature article by Leslie P. Norton, along with a chart of the Top 100 Companies.

She writes: “…Barron’s offers our first ranking of the most sustainable companies in the U.S. We have always aimed to provide information about what keenly interests investors – and what affects investment risk and performance…” And…”what began as an expression of values (“SRI”) is finding wider currency as good corporate practices…”

The complete list of the top companies is at Barron’s com. (The issue is dated February 5th, 2018)  You will need a password (for subscribers) to access the text and accompanying chart.

For in-depth information: We prepared a comprehensive management brief in October 2017 on Barron’s sustainable coverage for our “G&A Institute’s To the Point!” web platform: https://ga-institute.com/to-the-point/proof-of-concept-for-sustainable-investing-barrons-weighs-in-with-inaugural-list-of-top-100-sustainable-companies/

The Important Group of ESG Rankers for Institutional Investors Expands to a Significant Player — Institutional Shareholder Services (ISS)

Traditional Corporate Governance Focus Expanding to Encompass  ISS Environmental & Social QualityScores for 1,500 Public Companies Coming in January… Expanding to 5,000 Companies in Q2…

by Hank Boerner – G&A Institute Chair

A significant new player is now entering the mix of the growing number of organizations providing institutional investors with ESG rankings and data.

At G&A Institute, we’ve been tracking the growth of these organizations (such as MSCI, Sustainalytics, RobecoSAM, Bloomberg, Thomson Reuters, and others) and work with our clients to help managements understand, optimize and utilize these important intelligence points coming from the rapidly-growing number of investors considering ESG.

Founded in 1985 as Institutional Shareholder Services Inc., ISS is the world’s leading provider of corporate governance and responsible investment solutions for asset owners, asset managers, hedge funds, and asset service providers. Institutional investors today rely on ISS’ expertise to help them make informed corporate governance decisions, integrate responsible investing policies and practices into their strategy, and execute upon these policies through end-to-end voting.

Among the issues monitored, analyzed and perspectives and opinions offered to the investors by ISS:  board room makeup; qualifications of individual board candidates standing for election; CEO compensation; separation of the posts of chair of the board and chief executive officer; proposed transactions such as merger or acquisition; shareholder rights; transparency and disclosure of board and C-suite activities; “over-boarding by directors”…and more.

Over the decades ISS has been a powerful and very visible force in annual corporate proxy voting issues, offering advice to the client base to help the institutions exercise their fiduciary duties, including the mechanics of the voting process during the annual electoral season.

Consider the influence of ISS in the capital markets:  117 global markets covered; 40,000 corporate meetings reviewed; on behalf of 1,700 global institutional investor clients.

Now, “E” and “S” along with “G” issues are coming into sharp focus for ISS – due to the demand of its institutional clients – and included in the QualityScore process.

Tune in now to an important development that significantly expands the influence of ISS and communicates new dimensions of “G” (governance) into the ESG space (E=environmental, S=social, societal issues).  The E and S QualityScore builds on ISS’s market-leading Governance QualityScore, which provides a measure of governance risk, performance, disclosure and transparency in Board Structure, Compensation, Shareholder Right, and Audit & Risk Oversight.

The E&S QualityScore, says ISS, provides a measure of corporate disclosure practices and transparency to shareholders and stakeholders.  This is the Disclosure and Transparency Signal that investor-clients seek, and is a resource that enables effective comparison with company peers.

ISS had been an independent organization, then was acquired by MSCI, and later divested, becoming a unit of the P/E firm Vestar Capital; it was purchased by Genstar Capital in October 2017.  To rebuild the firm’s ESG capabilities lost as a result of the 2014 spinoff from MSCI,  ISS in September 2015 acquired Ethix SRI Advisors, one of Europe’s leading ESG analytics and advisory firms with offices in Scandinavia.

In January 2017, ISS also acquired IW Financial, one of the leading ESG analytics firms in the United States (based in Maine), and in June of 2017 acquired the climate investment data unit of Zurich-based South Pole Group.

ISS’s initial expansion beyond “G” to include Environmental and Social issues in the QualityScore, which will be announced on January 18, covers companies in six industries:  (1) Autos and Components; (2) Capital Goods; (3) Consumer Durables & Apparel; (4) Energy; (5) Materials; and, (6) Transportation – roughly 1,500 companies in all.

Public company managements have been invited to respond to the new “E&S” data verification process for their company (the period ends January 12th).

In 2Q the program expands to include 3,500 more corporate entities in other industries (the total corporate universe in focus by mid-year will be 5,000-plus public companies).

These ratings will be a critical part of a company’s ESG profile for the rapidly expanding number investors with Assets Under Management (AUM) that are considering ESG in their investment decision-making.  This number, as of the latest 2016 US SIF survey includes US$8.72 trillion out of $40.3 trillion total AUM in the United States.  This is now $1-out-of-every-$5   in the U.S. capital markets –and globally the numbers are even more striking with the latest GSIA report showing even larger percentages and rapid expansion in every other part of the world.

The G&A Institute team will be communicating much more detail about this important new initiative by ISS in the weeks ahead, through our various communications channels.  For more information, contact EVP Louis D. Coppola at: lcoppola@ga-institute.com or ISS at ESGHelpdesk@Issethix.com

There are details here on the ESG QualityScore:
https://www.issgovernance.com/file/faq/es-key-issues-discloure-transparency-qualityscore.pdf

For those interested in the Quality Score for Core Corporate Governance Practices in Focus:https://www.issgovernance.com/file/products/1_QS-2017-Methodology-Update-27Oct2017.pdf

Information on ISS Corporate Solutions is here:  https://login.isscorporatesolutions.com/galp/login

AN IMPORTANT UPDATE ON ISS’ EXPANSION INTO ESG
A thorough exploration of ISS’ new E and S QualityScores is available on the G&A Institute’s To The Point! platform including a conversation with Marija Kramer, Head of ISS’ Responsible Investment Business. This important brief is available without subscription, with our compliments by clicking here.

Responsible Investing – An Evolved Definition for the 21st Century

Guest Post by Herb Blank
Senior Consultant | S-Network Global Indexes, LLC,
– Partner: Thomson Reuters Corporate Responsibility Indices

G&A’s good friend Herb Blank wrote this very interesting piece on Responsible Investing that we thought our readers would enjoy, value and learn from so we are sharing it here on Sustainability-Update:

 

There seems to be a lot of confusion in the market as to what constitutes Responsible Investing (RI) and Socially Responsible Investing (SRI).  There shouldn’t be, however, especially about the latter.  The principles of SRI have over time become more clearly defined and now fit into a consistent framework.  It may be worth taking a step back to look at the evolution of SRI through the years and try to define what SRI means within the modern context.

In western culture, many trace the SRI movement back to the famed John Wesley Methodist sermon, “The Use of Money”, encouraging business practices that do no harm to neighbors.  One of the early investment funds quoted Edmund Burke, “The only thing necessary for the triumph of evil is for good men to do nothing” in implementing strategies that avoided ownership of the shares of companies in sinful industries as defined in the fund’s charter.  The popularity of this fund led to the development of others, some of which defined sinful industries differently and some that also excluded companies with poor corporate citizenship practices. The latter was generally defined by public controversies. For example, in the 1980’s and early 1990’s, I served on the Investment Committee of a Social Principles Fund where the Board members determined the criteria for what business practices were undesirable. Excluded companies included: Sherwin Williams that produced lead-based paints linked to children’s deaths; Union Carbide over its resistance to taking full responsibility for the cleanup and restitution to victims following the Bhopal disaster; Schlumberger for its repudiation of the Sullivan principles; and Exxon for its Alaskan oil spill and subsequent unsatisfactory response.

Around the same time, there were a number of student protests attempting to pressure university endowments  to  employ  socially  responsible  investment  screens  to  influence  the  behaviors  of corporations.  In  turn,  this  provoked  papers  by  respected  academics,  one  of  which  was  by  Yale University’s Dr. Stephen Ross arguing that removing stocks from the selection universe resulted in a reduction in the expected-return-per-unit-risk ratio for the overall portfolio.   He turned the socially responsible proposition on its head, proclaiming that it was downright irresponsible for a fiduciary in charge of an investment portfolio to consider social factors because the fiduciary’s most important obligation was to generate the highest possible return for a selected level of risk.  Other accomplished professors praised this paper.  Several opined publicly that social constraints had no place in the science of investing. The concept that attention to social factors causes inferior returns is still held as gospel by some to this day.

The next shift occurred in the 1990’s when some advocates of good corporate citizenship applied the ecological term sustainability to finance and economics.  Sustainability is defined as the potential for long- term maintenance of well-being which has ecological, economic, political and social dimensions. On March  20,  1987,  the  Brundtland  Commission  of  the  United  Nations  declared  that  “sustainable development is development that meets the needs of the present without compromising the ability of future generations to meet their own needs “Applied to the investment in stocks of corporations, sustainability looks beyond whether a company is engaged in “good” or “bad” businesses and to the actual practices of the company.”  However, as Louise Fallon, Editor of Worldwise Investor observed, “The problem with it, is that its interpretation depends on the perspective of the user.”

This harkens back to the “arbitrary” criticism attributed to SRI because what is socially irresponsible to the Southern Baptist Convention is not necessarily socially irresponsible to the Sierra Club and vice versa. In fact, one observed trend has been to drop the word social from responsible investing practices.  A lot of companies have renamed their CSR (Corporate Social Responsibility) departments and officers to Corporate Responsibility.  Similarly, many investment publications and an increasing number of investors have evolved these concepts from SRI to the phrase Responsible Investing. In this context, the word responsible means to divert resources away from the least sustainable activities in order to increase allocations to the more sustainable areas of the firm while the word social is firmly ensconced as one of the pillars of ESG (Economic, Social, and Governance) by referring to measurable firm behaviors with social impact. This is consistent with and leads into the current United Nations Principles declaration.

The United Nations Principles for Responsible Investing (UNPRI) defines “responsible investment” as an approach to investment that explicitly acknowledges the relevance to the investor of environmental, social and governance (ESG) factors, and the long-term health and stability of the market as a whole. It is driven by a growing recognition in the financial community that effective research, analysis and evaluation of ESG issues is a fundamental part of assessing the value and performance of an investment over the medium and longer term, and that this analysis should inform asset allocation, stock selection, portfolio construction, shareholder engagement and voting. Responsible investment requires investors and companies to take a wider view, acknowledging the full spectrum of risks and opportunities facing them, in order to allocate capital in a manner that is aligned with the short and long-term interests of their clients and beneficiaries. This definition has led many to refer to responsible investing as ESG Investing.

Identification of ESG factors as the three main building blocks brings form and shape to Responsible or ESG Investing (RI or ESGI).  Rather than judging a line of business to be “bad”, RI takes a best-practices approach within the ESG framework As the global trends of corporations stepping up reporting these data items continue to increase, the There are two major global organizations: the Global Reporting Initiative (GRI) and the Sustainable Accounting Standards Boards (SASB) dedicated to global acceptance of ESG reporting standards. The GRI is in its fourth global iteration and is based on the underlying principles of sustainability.  The US-based SASB follows a more rules-based approach.  Both initiatives focus on identifying material Key Performance Indicators (KPIs) within each of the three ESG pillars, then creating a reality where corporate reporting of these KPIs becomes as automatic as reporting on the firm’s key balance sheet and income statement items.

As increasing amounts of measurable corporate ESG data have become available globally, so have efforts to integrate these data into investment portfolios – even those portfolios without ESG mandates. This  makes  sense  because  they  contain  the  same  types  of  insights  into  the  future  directions  of companies and potential major risks (e.g., environmental events, litigation) as inventory turnover ratios and projected revenue growth rates. One such approach that has gained popularity is called Triple Bottom-Line Investing.   This is a holistic approach to measuring a company’s performance on environmental, social, and economic issues. The triple bottom line approach to management focuses companies not just on the economic value they add, but also on their exposures to potential positive and negative environmental and social effects and controversies.

Certainly, we will continue to see investors who wish to put their money to work in accordance with their beliefs.  This includes the traditional no-sin and socially principled investors referenced earlier along with a more recent movement known as impact investing.  One early forms of impact investing by institutional investors was the voting of proxies against management initiative to institute “poison pills” and other practices they considered representative of poor corporate governance. These efforts continue today but some have adopted even more activist approaches.  According to the Global Impact Investing Network, impact investments are investments made into companies, organizations, and funds with the intention to generate measurable social and environmental impact alongside an investment return.

In accordance with active awareness, leading SRI and impact investing practitioners have embraced the promotion of ESG reporting and made active use of increasingly available ESG data.  The traditional SRI investors score ESG data alongside traditional fundamental factors for their entire universe, then screen out companies in objectionable businesses or on a list of companies with bad practices. The impact investors use a similar universe screening practice to focus on companies where their investment dollars can promote positive impact.

The best fiduciary practices issue has now come full circle.   Increasingly, companies are publicly disclosing data relating to Key Performance Indicators regarding their environmental, social and corporate governance  practices.    Published  studies  have  documented  relationships  during  different  periods between such data and returns, some of which correlate periods of outperformance with positive ESG data.  Whether these relationships will persist throughout the majority of market cycles is still open to question.   Nevertheless, it is clear that investors who exclude or ignore ESG data as part of their fundamental research process do so at their own risk. The tenets of Modern Portfolio Theory state that alpha can only exist when one or more participants have access to and apply information that others do not.  If investors have access to publicly available data but ignore them, this may create the same market advantages that investors can achieve with nonpublic information. The only difference is that in this case, that informational advantage is perfectly legal.

At this point, I turn the question back to Dr. Ross and his colleagues.   As an increasing number of portfolio managers continue to integrate ESG data into the investment process, can investment policies that preclude the consideration of such data truly be responsible?  I posit that such a position is internally inconsistent. ESG-aware investing that accounts for these factors along with other fundamental factors is destined to become the standard for responsible investing.

 

Glossary

Active  ownership  –  Voting  company shares  and/or  engaging  corporate  managers  and  boards  of directors in dialogue on environmental, social, and corporate governance issues

Best-in-class – An approach that focuses on investments in companies that have historically performed better than their peers within a particular industry or sector based on analysis of environmental, social, and corporate governance issues. Typically involves positive or negative screening, or portfolio tilting

Corporate Governance – Procedures and processes according to which an organization (in this context, mainly a company) is directed and controlled. The corporate governance structure specifies the distribution of rights and responsibilities among the different participants in the organization—such as the board, managers, shareholders and other stakeholders—and lays down the rules and procedures for decision making

CR (Corporate Responsibility) also known as CSR (Corporate Social Responsibility) – An approach to business which takes into account economic, social, environmental, and ethical impacts for a variety of reasons, including mitigating risk, decreasing costs, and improving brand image and competitiveness.

Divestment – Selling or disposing of shares or other assets. Gained prominence during the boycott of companies doing business in South Africa

Environmental Investing – Sometimes referred to as green investing, this is an investment philosophy that includes criteria relating to the environmental performance and areas of business of companies considered for investment; the three principal areas of focus are: emissions reductions; natural resource usage; and innovative technological improvements

ESG (Environmental, Social, Governance) Investing – This is an investment approach which incorporates environmental, social, and governance factors into the investment process. ESG terminology was developed and promulgated by the United Nations Principles for Responsible Investing (UNPRI)

Ethical Investing – Investment policies and strategies guided by moral values, ethical codes, or religious beliefs. These practices have traditionally been associated with negative screening.

Global Reporting Initiative – The Global Reporting Initiative (GRI) is a network-based organization whose goals include universal disclosure on environmental, social, and governance performance.

Impact Investing – Investing in companies, organizations, and funds with the intention to generate measurable social and environmental impact alongside an investment return

Negative Screening – This term can be used to categorize any investment strategy of avoiding companies whose products and business practices are harmful to individuals, communities, or the environment.  Formerly used exclusively to screen out companies in “bad” or sinful industries, this now also applies to investment strategies incorporating a best-of-breed approach.

Proxy Activism – Actively voting on shareholder resolutions affecting environmental, social, and governance issues of a corporation.

Positive Screening – Screening may involve including strong corporate social responsibility (CSR) performers, or otherwise incorporating CSR factors into the process of investment analysis and management. This starts with a best-of-breed approach and then may overlay more traditional fundamental and price-based factors to create and maintain investment portfolios

Principles for Responsible Investment (PRI) –The United Nations-backed Principles for Responsible Investment Initiative (PRI) is a network of international investors working together to put the six Principles for Responsible Investment into practice. The Principles were devised with input from the global community of responsible investors. They reflect the view that environmental, social, and corporate governance (ESG) issues can affect the performance of investment portfolios and therefore must be given appropriate consideration by investors if they are to fulfill their fiduciary (or equivalent) duty. The Principles provide a voluntary framework by which all investors can incorporate ESG issues into their decision-making and ownership practices and so better align their objectives with those of society at large.

Responsible Investing (RI) -This is the process of integrating data on environmental, social, and corporate governance performance and risk exposures into investment decision-making

Shareholder Activism – Actively voting on shareholder resolutions affecting environmental, social, and governance issues of a corporation

Social Performance – The social performance of a company involves its corporate citizenship and how it benefits or impacts negatively on the areas in which it operates.  Issues include: product responsibility; health and safety; training and development; employment quality; diversity issues; and human rights issues

Socially Responsible Investing (SRI) – This is the process of coordinating investment policies and strategies  with  shared  viewpoints  as  to  what  constitutes  socially  responsible  corporate  behaviors. Today’s SRI investor frequently combines an RI approach with additional screens to eliminate companies in objectionable industries or with “anti-societal” practices.

Sustainability –  Responsible, Impact investing (SRI) is  the process of  integrating personal values, societal concerns, and/or institutional mission into investment decision-making. SRI is an investment process that considers the social and environmental consequences of investments, both positive and negative, within the context of rigorous financial analysis. SRI portfolios seek to invest in companies with the strongest demonstrated performance in the areas of environmental, social, and corporate governance issues (commonly referred to as “ESG”)—in both the public and private markets. SRI is also known as “green” or “values-based” or “impact” investing, or simply as “responsible” investing.

Triple Bottom Line – A holistic approach to measuring a company’s performance on environmental, social, and economic issues. The triple bottom line approach to management focuses companies not just on the economic value they add, but also on their exposures to potential positive and negative environmental and social effects and controversies


Bibliography

1.   Bauer, Rob; Derwall, Jeroen; Guenster, Nadja; Koedijk, Kees, “The Economic Value of Corporate Eco-Efficiency,” Academy of Management Research Paper, 25 July 2005

2.   Burnett, Royce; Skousen, Christopher; Wright, Charlotte; “Eco-Effective Management: An Empirical Link between Firm Value and Corporate Sustainability.” Accounting and the Public Interest:” December 2011, Vol. 11, No. 1, pp. 1-15.

3.   Copp, Richard; Kremmer, Michael; and Roca Eduardo, “Socially Responsible Investments in Market Downturns”, Griffith Law Review 2010. Vol 19 no 1

4.   Davis,  Stephen;  Lukomnik, Jon;  and  Pitt-Watson,  David,  “Active  Shareowner  Stewardship:  A  New Paradigm for Capitalism,” Rotman International Journal of Pension Management, Vol. 2, No. 2, Fall 2009

5.   Global Reporting Initiative, “G4 Sustainability Reporting Guidelines”, Pamphlet, 2013

6.   Karnarni, Aneel and Ross, Stephen, “The Case Against Corporate and Social Responsibility”. California Management Review, Vol. 53 (2), Winter 2011

7.   Ribando, Jason and Bonne, George, “A New Quality Factor: Finding Alpha with Asset4 ESG Data,” Starmine Research Note, Thomson Reuters, 2010

8.   Ross,  Stephen,  “Endowment  Portfolios:  Objectives  and  Constraints,”  Financial  Economics  Essays (Prentice-Hall, Inc.), 1982

9.   Wheeler, David; Colbert, Barry; and Freeman, R. Edward, ‘Focusing on Value: Reconciling Corporate Social Responsibility, Sustainability, and a Stakeholder Approach in a Network World”, Journal of General Management, Volume 28, No.3, Spring 2003

 

New E, S & G And ESG Benchmarks – TRCRI – For Investors, Corporate Managers and Consultants from Thomson Reuters and S Network Indexes


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Interview by Hank Boerner – Chairman, G&A Institute

Thomson Reuters is a global media and information services company, and one of the largest providers of capital markets information.  In 2009, T-R acquired ASSET4, a longtime ESG performance information service for investors. The ASSET4 methodology is being used for a new family of ESG benchmarks for investors and companies – the Thomson Reuters TR CR indices (TRCRI).  The managers of the indices is S Network Global Indexes LC,  providers of indexes that measure the performance of discrete segments of the global economy.   We spoke with Herbert Blank,  at S Network Global Indexes regarding the new TRCRI

G&A Institute Question:  Tell us about the new TR CR Indexes and Ratings from Thomson Reuters in partnership with S-Network Global Indexes LLC.  What are the first products coming to market – and what need do they fill?

Answer – Herb Blank: The Thomson Reuters Corporate Responsibility Indices (TRCRI) are a suite of benchmarks designed to measure the performance of companies with superior ratings for Environmental, Social and Governance practices (ESG).  Historical data and constituents are available on a rolling basis beginning January 1, 2007.

The Thomson Reuters Corporate Responsibility Ratings (TRCRR) apply extensive quantitative modeling to more than 500 data elements to score more than 4600 companies from 0 to 100 on Environmental, Social, Corporate Governance, and ESG Performance.   The indices and ratings were launched in April 2013.  They democratize ESG Ratings and indices by creating transparent and publicly available methodological standards that can be used for comparisons between global regions and industry groups.

G&A Institute:  What are the key characteristics of the rating process?

Herb Blank: The characteristics of the ratings process are:

  • Baseline Simplicity — Just one number between 0 and 100 on an approximated normal distribution characterizes performance on each dimension.
  • Comparability and Consistency — Data framework is identical for all companies within each industry and region allowing for the generation of comparable statistics over time.  Scoring and benchmarking relative to disclosure practices in industry and by region makes every score comparable in “E”, “S”, “G”,  and “ESG.”
  • Deterministic — Ratings are completely formula-driven and derived from publicly-available data.
  • Emphasis on Materiality — Analytical frameworks emphasize criteria most material to ESG performance and risk in each industry by region.
  • Transparency — Methodology including weights, dynamic scaling, peer groups, and adjustments 100% disclosed and available on spreadsheets via website.

G&A Institute:  When will the indices and ratings be available for users?

Herb Blank: Four indices apiece for the US Large Cap stock market and global ex-US developed stock markets have been available since April 2013.   Four stock indices for Emerging Markets are under development with an expected release date of April 1, 2014.  We also expect to be releasing fixed-income indices for TRCRI sometime during the second half of 2014.

The ratings are available and being utilized now through Thomson Reuters Enterprise Solutions.  The big change in the early part of 2014 is that Registered Investment Advisers (RIA’s), Corporate Users, and individuals will have the ability to purchase to ratings data directly from www.trcri.com via all major credit cards at surprisingly affordable prices.

G&A Institute:  How do you see asset managers, owners, and consultants using the products?

Herb Blank: The fact that the ratings have normal distribution curve properties facilitate their usage by asset managers as screening tools or as additional variables for existing portfolio universe scoring systems.   Since 500 data elements are engineered to create just four ratings per company, pricing is substantially less that the norm for existing ESG database products.  The news is even better for asset owners and their consultants who use the data for benchmarking, universe screening, and research; those who qualify will receive complimentary subscriptions to the ratings and the indices.

Asset managers and financial markets consultants can compare companies and portfolios against peer groups in these areas of corporate responsibility. Companies that are highly-rated in ESG metrics have been intuitively characterized as top performing companies. Now the TR ratings and indices present quantitative evidence to verify this assumption.

G&A  Institute:  How will corporate managers be able to use the products?

Herb Blank: Corporate managers will find it easy to compare themselves with their peers, both domestic and foreign.   Beyond that, the transparency of the ratings facilitates the ability of expert consultants such as G & A Institute to coach such clients on what things they could do to improve their ratings relative to their peers.  Also, corporate executives and financial leaders can highlight their company’s progress in ESG issues in quantitative terms that financial analysts must consider to be material. Strong performance in the ratings will give investors an inspective look into the companies.

G&A Question:  Can you fill us in on the background of the partnership with Thomson Reuters?

Herb Blank: Prior to launching the TRCRI and TRCRR, Thomson Reuters and S-Network have collaborated on the CRB Equity Indexes and have explored other joint ventures. S-Network Global Indexes’ historic expertise is as an architect, developer, and provider of specialty indices that can easily be attached to investment management products such as exchange-traded funds (ETFs) and separately managed accounts.  A key impetus for the TRCRI venture was to create investible ESG indices utilizing the vast corporate responsibility data collected and analyzed by Thomson Reuters Asset4.  In terms of the partnership, the TRCRI are compiled and published by S-Network Global Indexes and calculated using T-R data.