Financial Value Of ESG Needs More Recognition

Shanny Basar

Saker Nusseibeh, chief executive of Hermes Investment Management, said many investors are clinging to a persistent myth that something must be sacrificed to meet  environmental, social, and governance criteria.

Hermes, with £30.1bn ($40bn) of assets under management, said less than half of institutional investors believe companies that focus on ESG issues produce better long-term returns, a reverse from a year ago. The fund manager’s latest annual responsible capitalism survey, Responsible Investing & the Persistent Myth of Investor Sacrifice, found that just 48% of investors believe companies that focus on ESG issues produce better long-term returns, down from 56% in last year’s survey.

However the study, which covered 104 institutional investors, also found that 86% of investors believe fund managers should price in corporate governance risks as a core part of their investment analysis.

Saker Nusseibeh, CEO of Hermes

Nusseibeh said in a statement: “It’s clear from this year’s Responsible Capitalism survey many institutional investors still view ESG as a tick-box exercise to keep risk managers happy rather than part and parcel of building a better future for retirees. The link between ESG considerations and financial value creation needs to be more clearly recognised.”

He continued that  a company that harnesses big data to make industrial processes more efficient is in a better position than one relying on old and wasteful practices and companies that treat their staff well have a more productive workforce.

Nusseibeh added there remains some confusion over the nature of ESG.

“People believe it naturally excludes certain areas that have done well in recent years – tobacco stocks, for example,” he said. “However, this is to misunderstand ESG, which is about understanding the long-term sustainability of a company and having strong governance. It is about being aware of the risks.”

The Boston Consulting Group said this month in a paper, Total Societal Impact: A New Lens for Strategy,  that evidence is mounting that companies focussing on social and environmental practices have higher performance.

Ronald O’Hanley, president and chief executive of State Street Global Advisors, said in the foreword to the study  that many of the largest institutional investors are increasingly looking to measure and monitor a company’s total societal impact (TSI) and go beyond traditional financial metrics. So they need access to high-quality and consistent data to assess these new factors for their analysis.

Ronald O’Hanley, CEO of State Street Global Advisors

O’Hanley said: “Because we are near-permanent capital (if a company is included in an index, we must own it on behalf of our clients), we have, by definition, a long- term perspective on how ESG issues can impact a company’s ability to deliver attractive returns. For that reason, we have called upon companies to analyze and report in detail how sustainability issues might impact their long-term strategy and capital allocation decisions.”

BCG carried out research in five industries, including banking, on which areas provide the best opportunities to create both societal benefits and financial returns, or the highest Total Societal Impact. The study found that investors rewarded the top performers in specific ESG topics with valuation multiples that were 3% to 19% higher, all else being equal, than those of the median performers in those topics.

“Notably, we found just two negative correlations in our analysis of 65 topics – suggesting that a well-executed investment in material ESG issues does not hurt financial performance,” said BCG.

The research also found a positive relationship between ESG performance and margins. In retail and business banking, net income margins were 0.5% higher, all else being equal, for top performers in promoting financial inclusion and 3.4% higher for top performers in environmentally responsible sourcing.

“There were also margin premiums for top performers in three topics related to ethical business practices: ensuring fair selling practices, ensuring fair debt collection, and avoiding and combating corruption,” added BCG. “There were, however, two negative correlations: top performers in integrating environmental factors into credit risk analysis and protecting and promoting equal opportunity had lower net income margins, all else being equal, than the median performers in those topics.”

The consultancy identified eight success factors for companies aiming to deliver both total shareholder return and total societal impact.

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