At Tasplan we seek to build sustainable long-term retirement incomes for our members. As custodians of your wealth, there are many risks we need to consider including environmental, social and governance (ESG) risk.
The last decade has seen the rise of ESG as a responsible investment movement. While ESG investment was initially viewed as a means of managing risk and preserving investment returns, evidence suggests including ESG analysis within investment decisions can enhance returns.
When considering ESG, it’s typical to initially consider how a company is positioned in respect of climate change and the environment, but ESG is far broader in scope. ESG captures factors across the corporate spectrum including how a business manages its social licence and implements a robust governance framework to oversee its affairs. Progressive companies adopt ESG practices not for marketing purposes, but rather to enhance the firm’s opportunity to become responsible corporate citizens and market leaders over the long term.
ESG is a dynamic investment force with the number of ESG factors continuing to evolve in line with market developments and changing community expectations of corporate behaviour. Environmental factors consider how a company approaches environmental risk and impact within its operations. Climate change is both a prominent ESG risk and the dominant sustainability challenge requiring careful consideration by investors.
All companies need to manage their operations in light of the physical risks (financial costs from weather events) and transition risks triggered by climate change. Transition risks, for example, compel traditional utilities and fossil fuel companies to adjust to a lower carbon economy by reducing their emissions intensity towards cleaner and more sustainable energy sources in order to remain viable.
Examining social criteria focuses on the company’s relationships with employees, suppliers, customers and the communities where it operates. Companies must cultivate a robust supply chain to ensure consumers aren’t exposed to corrupt, unjust or unsafe labour practices. The recent incidence of Australian companies failing to pay staff their wage entitlements signifies weak ESG management.
Governance factors centre on company structure and management strategy such as executive remuneration policies, diversity objectives, shareholder engagement and treatment. A growing number of studies support increased female representation on boards to improve company performance. Australian companies have a poor record of board diversity, but growing concern and initiatives like the 30% Club suggest the ratio should improve from here. Many of Tasplan’s Australian equity investment managers are prominent in engaging with boards to encourage greater female participation. Over 50% of Tasplan’s board members are female signifying our belief in the value of ensuring board representation is reflective of the wider membership.
Taken simplistically, a company which fosters a strategic and proactive approach to ESG within its operations is likely to outperform those competitors dismissing ESG analysis. In this way ESG investment is often viewed as a method for identifying ‘quality’ companies, i.e. high return on equity businesses likely to increase market share and compound their investment performance over the long term. Studies indicate the link between positive ESG credentials and improved financial performance can take time to pay off – as much as six or seven years for the business to benefit from higher growth and lower capital costs.
Tasplan adopts a long-term view in investment horizon and, accordingly, considers ESG an attractive investment approach aligned with our investment philosophy. The majority of the investment managers selected by Tasplan to manage listed equities rank highly on ESG grounds, incorporating fundamental ESG analysis into their investments, engaging frequently with company management to improve performance and seeking to hold their investments for the long term.
Not without its challenges
ESG investment is not without its challenges. There’s no standard template for ESG analysis requiring a tailored approach. Data quality is imperfect and often requires assumptions with companies not required to disclose ESG risk. Specialist ESG research providers attempt to address this gap with independent ESG ratings on companies and securities. But, depending on the methodology applied, they may arrive at opposing views on the same company.
While ESG analysis is well advanced in listed equities, and growing across fixed interest, it remains challenging to confidently consider ESG across the full spectrum of portfolio securities. Nevertheless, these impediments continue to improve with growing investor attention and activity.
At Tasplan we’ll continue to embrace ESG as a means of addressing the sustainability challenges facing investors and delivering positive long-term performance outcomes for our members.
About the author
Steve Sweeney is Tasplan’s Manager, Responsible Investment and he is responsible for developing and implementing Tasplan’s Responsible Investment framework to ensure ESG considerations continue to reside at the forefront of investment decision making for the benefit of long-term member investment performance. Steve has 15+ years’ experience across investment research, insurance and banking both in Australia and overseas. His key attributes are investment research and analysis across the responsible investment spectrum including ESG and impact strategies.
Past performance isn’t a reliable indicator of future performance.