Sustainable investing and the Russian invasion of Ukraine
It's not only about exclusions.
COMMENT | Russia's invasion of Ukraine has provoked a lot of discussion about sustainable investing, highlighting the growing influence of sustainability concepts on investing in general. But clarity about the terms of the discussion is sorely needed.
For the most part, the discussion has centered around values-based exclusions, but there is much more to sustainable investing than that. And these other areas are having greater impact on people and planet, including addressing issues raised by the invasion of Ukraine.
Financial materiality
First, while "ESG" is often used as the umbrella term for what we call sustainable investing, it has a narrower meaning. It generally refers to the assessment of material environmental, social, and corporate governance issues on a company.
ESG metrics and ratings are used by investment analysts to evaluate companies more holistically, rather than simply relying on financials. The idea that ESG concerns are financially material and therefore can impact a company’s bottom line is an essential element of sustainable investing and a key reason for its rapid growth. The funds we call "ESG funds" tend to be those in which ESG analysis plays a central role. Most asset managers today have incorporated ESG analysis to some degree into their investment process.
The financial results for investors may be better returns achieved through a more thorough process, but that's dependent on portfolio manager execution, and we all know how difficult it is to beat the market.
But the broader impact of the widespread use of ESG assessments on people and the planet is significant. Investors have successfully made the case to corporate leadership that it should address ESG issues that are material to its business, with the central message being, in the words of Andrew Winston, "that managing climate and other ESG issues is core to business value." Beyond that, Winston notes, many companies are taking "bolder, systemic approaches that create a net positive impact on the world."
One way a company can do that is by being a responsible actor on the public stage when conditions warrant it, rather than shying away from taking stands. As of this writing, at least 340 international companies have announced their withdrawal from Russia. It's not all because of ESG, because other stakeholders--in particular, customers, employees, and business partners--are clamouring for companies to leave Russia. To be sure, it may not be long before the US or Russian governments or conditions on the ground force the issue. But what's striking is the willingness of so many companies to move forward proactively because they know their stakeholders, including the growing number of ESG investors, are aligned in wanting them to do so. ESG has emboldened companies to listen to their stakeholders and has underscored their need to carefully safeguard their reputations in an age of heightened transparency driven by social media.
Thematic focus
A second important facet of sustainable investing is its thematic focus on investments in companies that are helping to solve environmental and social problems through innovative new products and services. Such investments can have their ups and downs in the short term but almost certainly offer attractive long-term growth prospects.
The urgent necessity of a just transition to a low-carbon economy to stave off the worst effects of climate change is, of course, a key driver of sustainability-themed investing. Funds that focus on climate action or other sustainability themes differ from those that take a more general ESG approach. The former may not be as diversified and may resemble sector funds, like those focusing on renewable energy.
Russia's invasion of Ukraine underscores the urgency of shifting to renewable energy. It's not only about climate change but also more clearly than ever also about ending our dependence on Russia for oil and gas, especially in Europe, because that dependence essentially is financing the invasion, not to mention other autocratic petrostates.
Company engagement
A third, increasingly important facet of sustainable investing is engagement with companies around ESG issues. Through active ownership, investors directly communicate with company management and, via proxy voting, register their views on many ESG-related issues. In the engagement process, investors often include broader stakeholder perspectives as well as insights into how other companies are addressing an issue.
Shareholder support for ESG-related proposals has skyrocketed in recent years. Not so long ago, just 10% support for a shareholder proposal was considered a "win" because it allowed the proposal to be resubmitted the next year, sometimes prompting management to take steps to address the issue. Today, it's not uncommon for these proposals to garner a majority of shares voted.
Already in this year's proxy season, two proposals have won majority support. At American fast-food restaurant chain Jack In the Box (JACK), a shareholder proposal asking the company to adopt a sustainable-packaging policy passed with an astounding 95% of the vote. Opposed by management, it is believed to be the highest level of support ever for a plastics/packaging-related proposal. Following the vote, the company informed Green Century Capital Management, the sustainability-focused asset manager that sponsored the resolution, that it intends to address the concerns expressed by shareholders.
Meanwhile, at Walt Disney (DIS), nearly 60% of shares were voted in favour of a shareholder proposal for the company to report on pay gaps across race and gender. The proposal, filed by another sustainability-focused asset manager, Arjuna Capital, comes in light of allegations of gender pay discrimination at the company. The SEC denied a management request to exclude the proposal from the ballot given ongoing class-action litigation on the subject.
Neither of these votes has to do with Russia, nor do any of the several hundred ESG-related shareholder resolutions being voted on this year. But in the coming months and years, you can bet that sustainability-focused investors will be engaging with companies doing business in Russia and other autocratic regimes about the human rights implications and regime support of their involvement.
To sum up, sustainability-focused investors have contributed to the corporate exodus from Russia, they are leading investment in renewables and other sustainability themes that will reduce dependence on Russian fossil fuels, and, given their recent and growing success as active owners, they have the means to directly engage with companies about why and how they do business with petrostates.