Standardising assessments gives boost to SRI
The financial crisis gave impetus to SRI, and now it is being given a further boost by new ways to analyse both inputs and investment outcomes.
Social, responsible, ethical, green, impact, sustainable, governance, environmental – all terms with interpretations that apply to processes and products founded on one central tenet – that current investment structures are severely flawed, and investors want something different from, or as well as, a financial return.
The ethos of the broad SRI sector has moved well beyond its initial moral high tone plus negative screening to a sophisticated business which knows the tide of public and private opinion is now running its way. But supporters remain wary that progress could falter if the sector under-delivers on its grand promises.
Tris Lumley (pictured), head of development and fundraising at London-based New Philanthropy Capital (NPC), said the sector faces a “huge challenge” if it is to make social impact measures standardised and well understood.
“The measurement of social impact remains fragmented, poorly understood, rarely implemented robustly – and standardisation is an elusive goal,” Lumley says. “There is a danger… that social impact becomes a tokenistic part of the equation. We must seek to avoid this at all costs.”
To that end, there have been energetic moves in many centres to produce standardised ways to measure returns, comparable to financial yardsticks, to retain investor confidence.
Two reports just released by the UN-backed Principles for Responsible Investment on environmental, social and governance are widely cited as transforming attitudes already. One report, Integrated Analysis, shows how investors are addressing ESG factors in fundamental equity valuation, while the second, Aligning Expectations, guides asset owners on incorporating ESG factors into manager selection, appointment and monitoring, with a notable example from RobecoSAM and the PGGM pension fund in the Netherlands.
The guide includes resources to enable asset owners to include ESG expectations in requests for proposals, questionnaires, monitoring and discussions with managers, as well as sample clauses for manager agreements.
Analysts are increasingly adjusting earnings forecasts, growth estimates and discount rates to reflect ESG data and case studies show how ESG factors impact sales, costs and long-term return on capital.
Société Générale looked at the costs of pharmaceutical litigation on investment returns from the industry, while work from brokers Kepler Capital Markets suggested that companies which increase road safety would give a compound annual growth rate of 11%.
Research by the Carbon Tracker Initiative analysed carbon budgets, reserves and future production of oil, gas and coal mining companies, and found assumptions underlying valuation models based on historical performance may not be valid in the future.
Another study from the UNPRI regarding attitudes of trade buyers of private equity companies to ESG risks found over 80% had reduced the valuation of an acquisition target or stalled a deal because of poor ESG scores. Some 75% said poor performance in this area had killed the deal altogether.