Global institutional investors are unanimous in seeing the growing influence of ESG issues in their business, according to a new survey that also underlines the preference for engagement over proxy activity in tackling these issues.
All (100 percent) of the respondents to the Morrow Sodali study say ESG risks and opportunities have played a greater role in their investment decisions during the last 12 months. The result ‘undeniably reinforces that ESG integration has become an integral part of mainstream investment decision-making,’ the authors of the report write.
The firm polled 41 global institutional investors managing a combined $26 trillion in assets under management, based largely in the US and UK but also around the rest of the world.
The ESG topic to have the most important impact is climate change, which 86 percent of respondents cite as the top issue. Perhaps more surprisingly, reputational risk ranks second, at 45 percent. This is followed by human capital management (36 percent) before a drop-off to water scarcity and supply chain management (14 percent each).
‘The fact that reputational risk is among the top three issues identified by respondents indicates the significant impact a company’s management of ESG issues is having on investment decision-making,’ the report states. David Shammai, corporate governance director for cross-border issues at Morrow Sodali, tells Corporate Secretary that reputation-related problems such as human rights violations in the supply chain may not in themselves have a material impact on a company but that the reputational damage they cause can be very far-reaching.
Disclosure continues to be a key concern for investors in the ESG space. Asked how companies could improve their climate-related disclosures, 91 percent of respondents say that would entail making clear connections between climate-related data and financial risks and opportunities. Sixty-eight percent say companies could help by offering greater clarity around the process by which companies identify risks and opportunities, while 59 percent point to disclosing timelines regarding the impact of climate issues on strategy.
Shammai says the desire to see clear connections reflects the desire for an understanding of the materiality of climate-related issues. The Sustainability Accounting Standards Board’s standards are based on materiality considerations, which Shammai says underlines their importance.
There has been growing attention paid in recent years to ESG-related shareholder proposals and voting at AGMs, as well as to improving shareholder engagement efforts by companies. The Morrow Sodali study finds a clear favorite among investors in terms of impact: 91 percent of investors say engagement at the board level is the most effective way for them to influence board policies and decisions, with 59 percent saying engagement with management is the most effective option.
In comparison, just 18 percent point to votes against a director or directors and only 9 percent say putting forward shareholder proposals is the best way to affect the board.
The focus on board-level engagement ‘is reflective of boards being held increasingly accountable for the performance of their company and whether they can demonstrate achievement of sustainable wealth creation,’ note the report’s authors. Shammai suggests the increasing level of engagement has led to boards and companies more frequently responding to investors’ concerns without the need to pursue proposals and voting against directors.
Similarly, 95 percent of investors in the survey say proactive and regular engagement with management is the best source of information for evaluating corporate purpose or culture, while 86 percent point to proactive and regular engagement with the board. By contrast, just 9 percent point to disclosure of quantitative human capital indicators, and there is less focus on explicit statements of purpose and culture or ethical policies.
Shammai comments that the area of corporate purpose and culture is yet to be fully fleshed out and that therefore face-to-face meetings to discuss the issue are most effective. The challenge is for companies’ stated purpose to link to strategy and not just a marketing tagline, he says.