Industry at turning point as asset owner appetite strengthens, but measurement and audit challenges must be overcome.
Institutional investment in real assets is at a turning point, with opportunities in forestry, timberland and farmland increasingly considered by asset owners, many for the first time. Measuring, auditing and certifying the sustainability credentials of such assets is a difficult, but important aspect of a sustainable farmland investment strategy, according to Richard Jacobs Co-head, Private Markets, Kempen Asset Management.
Jacobs was speaking at a recent Kempen Asset Management/ESG Investor roundtable, titled ‘Sustainable Investing in Real Assets’. Representatives from asset owners, asset managers and investment consultancies discussed how institutional investors can invest in real assets to achieve strong, uncorrelated long-term returns while supporting UN Sustainable Development Goals (SDGs) relating to biodiversity, health, climate, land use and consumption.
In March 2021 Kempen, a fiduciary and asset manager with €85 billion AUM, launched the Kempen SDG Farmland Fund, designed to enable professional investors to focus on global investments in agricultural land, while contributing to SDGs 2, 6, 12, 13, and 15.
Created in collaboration with Stichting Pensioenfonds PostNL, a Dutch pension fund with AUM of €10.27 billion (Q1 2021), the fund aims for attractive return on investment while promoting a shift towards sustainable food production. To measure impact, the developers identified measurable key performance indicators (KPIs).
Measuring the impact
As sustainable techniques and technologies change the practice of farming, investors need to know what has been achieved and the impact made. “The goal is to build a global portfolio at scale that uses our natural capital resources more sustainably so that we can tell the next generation that we have a system that has zero impact,” said Jacobs.
The “zeros”, he said, are not just related to the impact on climate, but also cover biodiversity, land degradation and water use, each requiring measurement via KPIs. “Investors understand these issues and want to know how we address them, how we monitor and control them,” Jacobs said. “All these should get equal attention because farming is an interconnected system.”
The roundtable participants wanted to know how asset managers can prove they are achieving zeros in sustainable farming. Do asset owners have to take their word on impacts and SDG contributions? Can claims be independently verified?
Some elements are easier to measure than others, Jacobs responded, pointing to the abundance of measurement frameworks that can be applied for the impact on climate. Biodiversity impact, however, is currently “tough to measure” against the fund’s KPIs, he said.
To mitigate concerns about an investment in a Portuguese high-density olive orchard, Kempen recruited agronomists and researchers from local universities to observe the site “for as long as they want” to measure the impact on biodiversity. “We don’t yet know what the outcome will be, but the whole process will be independently verified by an auditor,” he said. The ultimate goal is that the farm will be certified as sustainable.
Further guidance on the impact on biodiversity of farming and other economic activities will result from the recent launch of the Task Force on Nature-related Financial Disclosures. But some frameworks already exist to measure the impact of sustainable farming, including the Leading Harvest Farmland Management Standard, related to areas such as water usage, pesticide use and other activities but biodiversity measures are in general lagging those in other areas.
Measurement is a key challenge, said Maria Lettini, Executive Director of FAIRR, an investor network focused on ESG in food production. “FAIRR is trying to establish a framework of risk for institutional investors; we have many in our network that invest in real assets and farmland,” she said.
In addition to the challenges in measuring outcomes, investors can also struggle with the trade-offs for engaging in some of these risks, she added. “Trying to move the farming sector away from using longstanding techniques such as pesticides, herbicides and monoculture while avoiding unintended consequences is being explored more by investors. They are approaching it from a risk mitigation standpoint, trying to point to best practice and solutions that are out there.”
Engaging with investors
In looking at measurement, Charlotte O’Leary, CEO of pension fund ESG advisory group Pensions for Purpose, said investors should also question the impact of “not doing anything”. Pensions for Purpose works with pension funds to set SDG targets and does not look at climate in isolation, she said, echoing Jacobs’ point about the interconnectedness of the farming systems.
“I am concerned that some pension funds do set SDG goals in isolation, without understanding how things interrelate,” she said. “By doing so, they may miss opportunities like regenerative agriculture. Pension funds need to understand the complete landscape of impact investing and all of the SDGs, rather than looking at it as a risk/return paradigm.”
The existence of multiple SDGs that sometimes compete or conflict with each other is also a challenge for the investment community. A “big step”, said Jacobs, would be the involvement of the large audit companies. “For people to believe in what we are doing, we need to be audited. I know the auditors are grappling with the issue and trying to make progress. At the end of the day, there need to be many well-trained auditors out there that can help us to certify best practices in sustainable farming. That will be a game changer.”
Conversations with investors about sustainable farming can be a “real challenge,” said Jacobs. “We ask investors what is more important to them: buying highly degraded land, for example, and improving it, or investing in pristine, newly designed, technologically advanced farmland on perfect soil.” The greater impact will come from the former. In the state of New South Wales in Australia, Kempen has invested in degraded land – a major issue in the state. Some of the land will be suitable for cropping based on regenerative agriculture, some will be preserved for forests or wetlands, but some land “won’t be touched” because it is so degraded. “We have to explain to investors why we are buying ‘bad land’ and ask them how they feel about that,” he said.
In engaging with investors on sustainable farming, Alessia Lenders, Vice President for Responsible Investments at investment consultancy Redington, said it is necessary to acknowledge and raise awareness around how much current mainstream farming and food production industry is “in the red” when it comes to sustainability. “Converting land to regenerative practices will be really key to addressing global sustainability challenges. Helping investors and pension funds to get comfortable with a potential J curve is a pre-requisite,” she said.
Farmland regeneration takes time and this can impact on revenues initially, as conversion takes place, she added. “Regeneration involves less input in the form of chemicals and is therefore overall less costly to run. On the other hand, it tends to be more labour intensive.”
Investing in innovative food production
The roundtable participants discussed innovation in food production, highlighting a growing interest in vertical farming – the practice of growing crops in vertically stacked layers, often in a controlled environment. It is seen as a solution to food security in large urban areas.
Companies in the Netherlands and China are among the leaders in vertical farming practices. Dutch firm PlantLab recently attracted funding for its globally patented technology that enables urban production of vegetables without the use of chemical crop protection agents. China’s Sananbio holds 416 patents, and operates vertical farms in China, the US and Singapore.
“A lot of money is going into indoor, controlled farming,” said Jacobs. “Such approaches will have a place in farming in the future, but at the moment most of it is focused on certain crops, such as tomatoes, lettuce and mint. It works well for these, but not for all crops.”
While agriculture is among the oldest economic activities, there is a lot we don’t yet know about balancing yield with sustainability. In terms of the nutrients required for healthy food production, not enough is yet known about the role of microbes in the soil and the association with health. “For the vast majority of crops, we need to use finite nutrients – such as phosphorous and sulphur – which would also be required for indoor farming. Despite the great technology that is around, the answer can never be just technology,” said Jacobs. “We have to go back to nature and allow it to do what it does best. Regenerative farming will enable us to make food production more sustainable.”
Lenders agreed, pointing out that it is still early days in terms of the science of the soil ecosystem. “We are just beginning to scratch the surface when it comes to understanding the link between microbes in the soil and human health. We cannot replace all of our food intake with a vertical farming system that does not recognise this link.”
A need for greater focus?
The investors’ focus should be on supporting the creation of healthy, natural systems while looking at innovation, said Lettini. “It is fantastic there is a huge amount of innovation in farming across a lot of areas. But there is a point when it feels like it is too broad and difficult to focus on some key areas to get the farming industry to shift away from traditional practices. How do we focus asset owners on some of the areas they can invest in, what is the essence of transforming the industry?”
O’Leary agreed that fragmentation is a key challenge, which could dissipate impact. “We are trying to create a consensus for asset owners about what they are trying to achieve with their capital and this needs to happen at scale in order to create the transformation we want to see. But they are all setting individual goals and targets, none calibrate with each other and they are not doing the same as asset managers. We are all speaking a different language.”