Exploring the materiality of ESG data, part two

Channels: Equity

Companies: Henderson Global Investors, Old Mutual, Actis, DNV GL, Terra Firma Capital Partners, Schroders, FTSE Russell, NC Advisory

People: Peter Cripps, Hamish Chamberlayne, Helen Wilson, Shami Nissan, Douglas Farquhar, Ryan Macaskill, Andrew Howard, David Harris, Hamza Ali, Emma Englén

In the second and final part of this roundtable discussion, participants from across the private and listed equities arena discuss themes such as the importance of the FSB Taskforce on Climate-related Financial Disclosure, and whether environmental, social and governance (ESG) fund ratings are a positive influence on the industry.

Clockwise from top-left: Shami Nissan, Douglas Farquhar, Ryan MacAskill, David Harris, Andrew Howard, Hamza Ali, Emma Englén, Peter Cripps, Hamish Chamberlayne, Helen Wilson


Peter Cripps Environmental Finance
Hamish Chamberlayne – co-manager of the Henderson Global SRI funds at Henderson Global Investors
Helen Wilson – head of responsible business, Old Mutual
Shami Nissan – head of responsible investment, Actis
Douglas Farquhar – Principal consultant, UK sustainability business assurance, DNV GL
Ryan Macaskill – financial controller, portfolio businesses, Terra Firma Capital Partners
Andrew Howard – head of Sustainable Research, Schroders
David Harris – head of Sustainable Business, London Stock Exchange Group and ESG Director, FTSE Russell
Hamza AliEnvironmental Finance
Emma Englén - sustainability manager, NC Advisory - advisor to the Nordic Capital Funds

Read part one of this roundtable here.

Peter Cripps: Do we need to start scaling down the number of ESG data points collected?

Ryan Macaskill: I think the universe can be large. So we have a small portfolio, but because we use slightly different metrics for each one of them, we probably have a long list of metrics, which might look odd given the size of our portfolio.

Ryan Macaskill, Terra Firma Capital Partners And so I can understand why the world of listed equities might have 450 indicators, and I might say, 'Well is that really enough?', because I might want different ones for my banks, my miners, and my supermarkets.

David Harris: We do not want our analysts to take any subjective views in interpreting the data. Instead we want very clearly defined data points, which we then build up using specific rules into aggregated data, theme scores, pillar scores, overall ESG rating.

But because each client has very different views about what they see as most material and most relevant, we have to be able to provide the underlying data too, because there is not a single right answer here.

Emma Englén: Around 90% of the portfolio companies in the Nordic Capital Funds will be obligated to report according to the new EU directive regarding disclosure of non financial-information which means that it will definitely help to collect data. So that means the Global Reporting Initiative (GRI) or similar is very likely as standardised disclosure.

Nordic Capital can support the portfolio companies, in developing their sustainability strategies and for them to make sure they in the best way capture baselines for their reporting so that they can actually prove, and show progress.

David Harris: I think it is really important that private companies, as well as publicly listed companies, provide this ESG data.

Because you do not want to see a different set of requirements for publicly listed companies that is not there for private companies – that just means a potential movement from companies saying, 'Actually, the reporting burdens from being public are just too heavy.'

Andrew Howard: Data can create false confidence. The challenge is "how do I make sure that I am not being led into whatever analysis the company wants to give me, but I actually make my own decision about what I want to understand."

And also recognising that data, as a rule, is a proxy for something that we are actually trying to understand.

I think with a lot of this ESG topic, all we are trying to capture is how do we get some way of quantifying the way that companies are run and the way that good companies are run versus bad companies are run, in terms of workforce management, community relations, in terms of supply chain management and use of resources, etc.

And that requires quite a bit more thought and requires a phase that our industry probably has not gone through, certainly on the public equity side, in actually engaging brains enough to filter out what do we individually think as different fund managers with different approaches and different investment styles and different sets of beliefs.

Hamish Chamberlayne: Hamish Chamberlayne, Henderson Global InvestorsI think there are two camps here. There are fund managers who will receive a risk report based on ESG data and they will be thinking about it after they have made their investment decision. And there are others who will think about it beforehand, and say: 'Okay, what are the other angles I can approach this investment case from?'

I find a huge amount of value going through the discipline of considering ESG issues before I invest.

And the data that you can get, the qualitative information around those factors, can actually give you a very interesting perspective on whether this is a well run company that is thinking about long term strategic risks and opportunities.

And that might give you the confidence to make that investment in the company, if you have been put off, perhaps by something else.

I am still wrestling with the idea of whether it is appropriate to make it more quantitative. Because, obviously, we get asked by our asset owners, 'Prove it to us, or show us', and there is still a big challenge in that and providing that.

But I think it adds value to the investment decision and hopefully will be borne out in generating longer term value.

But taking the Morningstar Sustainability business approach and obviously stamping funds based on – and they have one version of data from the Sustainalytics database and they have their own approach to doing ESG scores and then stamping a fund and saying, 'This fund is more sustainable than the other.' I think that gives asset owners a false sense of comfort.

Andrew Howard: You end up with this problem because the sort of fund assessment at the end of the process, which is where Sustainalytics, or Morningstar will come along and say, 'You are three bubbles out of five, or two bubbles out of five'.

The only way you can be sure you are going to get good bubbles on Morningstar is to not think about the process, not try actually understand anything much about the company, and just use Sustainalytics as a screen so you do not buy the worst ones.

And I find it very worrying that we have ended up actually having these conversations, where you have had asset owners that have come to us and asked, 'We want you to get to a certain number of bubbles for this mandate.'

Helen Wilson: Helen Wilson, Old MutualWe had a discussion just before we launched our Positive Futures plan and we looked at it from the perspective of a retail investor. It was a massive driver for us, looking at all the data points we are being asked to deliver, looking at actually what we want to be reporting, what it is important for us to tell our investors?

Do we spend 15 minutes talking about safety, or do we say, 'Actually, what we are trying to do is drive financial inclusion in the foundation market across Africa?' That is probably what they want to hear about, because that is where we are also going to create value for our business if we do it right. It also aligns more clearly to the SDGs.

We realised: 'The way that companies need to start shifting their engagement means moving away from the reliance on data points and going, 'Well, we have completed this, we have been listed on all of these brilliant indices but we have not actually told a story to anybody because we have not had time and we have been too busy chasing a data set.''

It brings challenges when we try to benchmark ourselves, which indices do we focus on and what is really a good use of our time, to really show how we add value across society through what we do as a business.

Andrew Howard: I think if you have one type of rating only, that does not really work. For example, if you have a fund which is focussing on environmental solution companies and the things which have very large levels of green revenues but maybe not doing very well on the ESG operational side. Potentially then the ESG rating will be very low but it is a very high conviction green investment fund. So it is not simple.

Hamish Chamberlayne: And this is why I get really worried about these external ratings providers. I think you could reduce trust in finance for the person on the street, thinking they are buying a sustainable fund and it is full of tobacco and coal companies, potentially.

What is easiest, in terms of presenting a fund to people on the street, is going to be based on the product side of things. But the industry is very, very far away from that at the moment.

Peter Cripps: What do you think could change, to move that in that direction?

Hamish Chamberlayne: I think the big thing is the whole carbon issue, with Mark Carney and the Financial Stability Board and talking about providing data sets.

This is a really hot topic, frankly. The whole idea of low carbon investing has to be such a huge growth area over the next 10–15 years.

David Harris: We could break it down, really, into three different climate elements. One is about the operational emissions, one is about the carbon reserves and the third is about green revenues. You just do not get a full picture if you zoom in on just one of them. But then, equally, how do you weigh up the relative importance across each of those and how do you implement them? Hamza Ali, Environmental FinanceThere is a need for these to be treated in a balanced manner. These are the three climate parameters we are using alongside four Smart Beta factors to create the FTSE Climate Balanced Factor index.

Helen Wilson: We did a review of our business and found that less than 1% of our footprint is operational; the rest is in Scope 3, which helped us focus our attention on our investment conversations.

Emma Englén: Even if you enable to produce data for all your scopes, still a problem is that you do not capture the full value chain. It is important to focus on the circular and full value chain to achieve true values. If you take a company that produces cars, the main negative climate impact is when the customer is using the car. While for a solar panel company, the actual positive climate impact is when the customer starts using it.

Hamish Chamberlayne: There is no one way to do low carbon investing because there is one way of saying, 'I am not going to invest in companies that produce fossil fuels,' and then there is another way of sort of saying, 'I am going to try and overweight the companies which are more carbon efficient in their operations,' and then you have the other way of actually investing in companies that have the solution. So there are three different buckets there in low carbon investing, so there is no one size fits all.

David Harris: Something that I am really hopeful of, and it will be interesting what they come out with, is the recommendation from the FSB Taskforce on Climate-Related Financial Disclosure. We need authoritative global standards and frameworks and this provides a basis for that. It won't give us all the answers and data points but should provide a basis to work from and I hope that institutions like ours will be able to take and build on what comes out from this process. We need a high level of global collaboration to achieve this.

Peter Cripps: Won't the taskforce put the onus back onto the reporting company and say, 'We are looking for you to tell us what you feel your risks are and your stress testing to a two degree scenario,' and then letting them decide what they think is relevant to disclose?

Andrew Howard: That always gets tricky. Most of the stress test plans are not plans, they are just, 'Do not worry, we will be alright,' statements, based on some unstated assumptions.

And I fear that it would be weird if, in every other area of reporting, companies are told what to report, if in this area, we decided that actually people report what they think is relevant to their business, because you lose all comparability.

Douglas Farquhar: Douglas Farquhar, DNV GLWe work a lot with companies around the reporting.

We see a huge spectrum between some very basic reporting to some hugely expensive reporting that probably is not really satisfying a need.

So if the FSB's answer is, 'You decide,' I am afraid that many of them will choose to actually reduce the level of reporting that they are doing to as little as they can get away with.

So we need some solution that says there are core metrics. And that is difficult to do, but we just need to get some standardisation. At some point it needs to coalesce into something that we can all use.

Peter Cripps: Will the FSB have to dictate how these scenarios look?

Douglas Farquhar: I think there needs to be some guidance from the FSB for those scenarios because otherwise the scenarios will be pointless.

Ryan Macaskill: But then there are some powerful shareholders who can say, 'Actually this is rubbish. Show me something that is useful.'

I think it would be impossible to write something which dictates to everybody in every industry what they need to report. It seems like it will be principles and guidance, although it might be fairly specific guidance.

Hamish Chamberlayne: I suspect that the market will move without all the reporting. And I think most fund managers will finally cotton on that there is a huge disruption story coming over the next 10–15 years, and you have already seen the first signs of it in the coal sector, or in the German utilities sector.

And as every year the costs of these alternative technologies comes down, I think it will cease to be an ethical issue and will be thought of, first and foremost, as an investment issue.

Shami Nissan: In our parts of the world it is not something that needs subsidising. So we have arrived at that point and I look forward to the acceleration of that.

Peter Cripps: Have any other ESG factors emerged as being particularly material?

Shami Nissan: The one I am really seeing going up the agenda is integrity in governance, bribery, corruption, that whole area of business conduct. Not surprising, given the markets we are in.

We do a huge amount of investigative due diligence before to know who we are potentially doing business with, in terms of the entities as well as the individuals.

Hamish Chamberlayne: What are the ESG factors that you can fit to every company? I think carbon is one. I think governance is one again, and I think diversity is another one that is linked to performance.