Why lack of data is the biggest hazard in "green investing"
Article published in the Financial Times on March 6, 2017
By Patrick Odier - Senior Managing Partner
Information on the impact companies exert is poor, incomplete and non-standardised
By now, most investors recognise that it pays to take into account the environmental, social and governance factors that affect companies. From the accounting scandals at Enron and Parmalat, through the global banking crisis of 2007-09, the Macondo oil-well disaster, and recent vehicle emissions testing controversies, “ESG” failures have had devastating financial consequences for businesses previously considered robust. It is intuitive that the more sustainably a company is run, the more likely it is to be earning revenues tomorrow.
This explains why ESG factors have become an important part of fundamental securities analysis over the past decade or so. But they have a critical weakness: they tend to describe companies’ ways of organising themselves and operating, but say little about the products and services that are bought by consumers, taxed by governments, and outlawed and fined by regulators. A company like Total scores well in most ESG models, despite the greenhouse gas emissions from its core product, whereas Tesla, without a formal code of ethics or state of the art governance, is rewarded for revolutionising clean transportation with a fairly poor ESG rating.
Why does this bias exist? Because data on business organisation and operation is plentiful. The Global Reporting Initiative and UN Global Compact Principles have transformed ESG reporting from European and North American listed companies, and the UNPRI’s Sustainable Stock Exchange (SSE) working group is creating momentum elsewhere in the world.
By contrast, data on the real-world impact that companies exert is poor, incomplete, non-standardised, or inaccessible. This is one important reason why so-called “impact investing”, which seeks out profitable “social enterprises” whose goods explicitly make life more socially and environmentally sustainable, has tended to take the form of microfinance, private equity or debt, or Green Bonds.
It is relatively easy to isolate and report on the beneficial impact of a few dozen private equity stakes in modest social enterprises, or specific Green Bond-financed projects. Doing so with thousands of 1 per cent shareholdings in everything from supermarkets to multinational conglomerates with wind-turbine divisions is much trickier without standardised data.
However, if you are prepared to put serious effort into defining, collecting and cleaning the necessary data it is becoming feasible to analyse a company’s many projects and revenue streams to determine its “green share”, for example. Our firm is among those trying to enhance its ESG analysis by scoring companies against impact criteria such as CO2 emissions or gender equality. When a company signs the UK’s Women in Finance Charter, say, it scores points under what we call “Consciousness”. This sort of thing is captured by some conventional ESG analysis, but we go further, scoring for “Action” when it sets up awareness and talent-development programmes for female staff, and “Results” if it can demonstrate a consequent increase in women in senior management.
This helps us identify opportunity in sustainable businesses and risks in unsustainable ones — particularly those engaged in “greenwashing” PR. But these processes live and die by the quality of data that go into them, and we struggle to get good data in areas outside of direct carbon emissions.
The data on direct carbon emissions have been improved by investors encouraging companies to up their game through initiatives such as the Carbon Disclosure Project (CDP). Even here, not everyone is onside. For example, we rate Cargill lower than Glencore on climate change mitigation: Glencore’s activities are deemed highly-polluting and it has seen several environmental controversies, but it has made the effort to disclose its CO2 emissions very precisely; whereas we had to proxy Cargill’s emissions because its data is unreliable. We need to press on with the CDP, but we also need to develop similar initiatives on carbon emissions throughout value chains; forest, land and water intensity; and social impact criteria such as job creation, workplace safety, employee satisfaction, and deaths attributable to a company’s products.
Until we achieve that, we and our peers will be reliant on patchy NGO research, and on specialist consultants whose data sets, while a great step forward, remain intellectual property that resists the standardisation and accessibility required to take impact investing mainstream. And only when it goes mainstream will we truly understand the risks and benefits that companies can deliver to our portfolios and to the world at large — and be able to invest accordingly.
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