Investors to focus on post-pandemic equality and resilience, while supporting ‘just transition’, but further progress needed on disclosure, stewardship.
If the S of ESG was overshadowed by the E in 2020, as investors focused on climate risk and net-zero commitments, what are the chances of tangible progress on social investing themes in 2021, with November’s COP26 looming ever larger?
True, consciences were pricked by social inequalities highlighted during the Covid-19 pandemic, but evidence is mixed on whether the needle really moved. There are, however, reasons to expect social themes to garner greater investor attention in 2021, including the many linkages between environmental and social factors.
As fossil fuels are gradually eliminated from carbon-intensive industries, questions arise about the employment rights and future prospects of staff, upstream and downstream. Alongside stranded assets, concern for stranded communities have led to louder calls for a ‘just transition’ to a low-carbon economy.
Labour conditions, wage levels, job security and income inequality are issues of concern for investors across many industries. Apparel, agriculture, hospitality and food retail are among the sectors frequently failing to pay the minimum wage or protect workers, increasingly prompting asset owners and managers to work together to expose shortcomings and support solutions.
Progress toward more diverse representation at all levels of corporate life is patchy. Diversity and inclusion metrics are drawing attention to this issue, but there is still a lack of data and, in some cases, an unwillingness by asset owners to demand more information, for example on ethnicity-based pay gaps.
While large firms slowly become more inclusive, investment can also be channelled to new types of enterprise which embody equality principles from the outset. But the social investing agenda risks appearing too diverse by trying to achieve so many objectives. Investors can struggle to identify how best to contribute to public and private sector efforts to tackle social and economic inequality.
These challenges notwithstanding, social investing opportunities and risks may become easier to identify and address in 2021.
“The wake of this pandemic is providing an opportunity to explore new financial approaches and business models that create more inclusiveness and fairer societies. Going forward, companies will need to manage more effectively and report on how they are addressing the ‘S’ of ESG criteria,” says Elena Philipova, Global Head of ESG Proposition at Refinitiv.
Toward a just transition
The social implications of the transition to a low-carbon economy will occupy the thoughts of investors, c-suite executives and policy-makers this year and beyond. “We can’t achieve environmental sustainability if we sacrifice our economy and people’s livelihoods,” said Mark Carney, the UK Prime Minister’s Finance Advisor for the COP26 climate summit, in his recent BBC Reith Lecture series.
Ashley Hamilton Claxton, Head of Responsible Investment at Royal London Asset Management (RLAM), says its essential to “bring customers and employees along with us and ensure that the transition is respectful and just”.
In December, RLAM and the Friends Provident Foundation asked UK energy utility companies to draft formal strategies which address the human and economic impacts of transition by November 2021. Companies should share burdens and benefits fairly, they said, recognising the short-term impacts on fuel bills and the need to reskill and recruit to support shifts in technology.
As a major fixed-income investor, RLAM has engaged with large utility firms, which are strongly represented in the sterling credit market, thus accounting for a sizeable proportion of its climate-risk exposure. The strategy bore its first fruit in November with SSE plc’s just transition strategy, which outlined a range of measures, including how the firm would work with the communities hosting its decommissioned fossil-fuelled facilities as well as its new green energy sites.
Hamilton Claxton says investors must work with multiple parties on transition planning, particularly in highly-regulated sectors. UK energy regulator Ofgem, for example, oversees investment as well as revenues.
“The biggest challenge is keeping energy prices low while preparing for a transition and having to invest in infrastructure. That’s a regulatory and policy issue as much as a corporate issue,” she says.
Adam Gillett, Head of Sustainability at Willis Towers Watson, agrees that engagement can be a key factor in supporting a just transition, but says the investment industry does not have the collective resources needed to help shape regulation on this and other social investing themes.
“There is a vast chasm between where stewardship resources are and where they need to be,” he says, noting the increasing tendency of larger asset owners both to pool their resources through collaborative initiatives and to centralise related functions in-house, for greater impact.
“There is an opportunity to bring your stewardship activities, engagement priorities, voting policies, and actions closely in line with your investment priorities as an organisation,” he says.
The Covid-19 factor
This lack of bandwidth partly explains lags between investor concern and action, alongside the scarcity of decision-useful data.
In a blog posted last month, non-profit ShareAction’s Head of Good Work, Martin Buttle, said the spotlight turned on social issues by Covid-19 has not yet improved employee welfare. Across many economies, those in low-paid but essential jobs have been at greater risk of exposure, resulting in higher infection rates and ultimately fatalities in particular socio-economic groups. Buttle pointed to the high rates of Covid-19 infection at US meat-packing facilities (almost 43,000 by September) and outbreaks at similar UK factories to suggest poor working conditions left food-processing workers vulnerable.
Further, there is little evidence of greater support for human rights-related resolutions at AGMs since the World Health Organisation announced the pandemic last March. Drawing on ShareAction’s Voting Matters 2020 study, Buttle cites seven resolutions calling on firms to strengthen business and human rights due diligence processes to better address Covid-19 risks. Most received less than 40% support.
Even so, 2020 may prove a catalyst for a greater long-term focus on the risks – to employees but also to stakeholders, including investors – arising from low pay, poor working conditions, insecure contracts and inadequate health and safety protection.
Gillett sees it as a watershed year in which the systemic risks of social inequality became as clear as those from climate change and biodiversity loss. From the killing of George Floyd to the uneven impact of Covid-19 on health, education and income levels, 2020 headlines reminded investors of their responsibility to direct investment to firms that value and fairly reward their employees, harnessing the wide pool of talent available to them.
“There is genuine commitment by institutional investors to do ‘S’ justice,” says Gillett, asserting that asset owners are increasingly willing to probe more deeply and become more vocal, through both advocacy efforts and making their positions public.
“Investors realise systemic risks are out there and that they should address them as a group by collaborating across the industry. People are recognising the depth of the inequality problem, and that it’s getting to a combustible point.”
Nevertheless, Indices, ratings and analytics provider MSCI recently noted the limits of investor engagement to address systemic issues such as inequality. Firms risk both short-term hits, such as lawsuits and strikes, and longer-term underperformance, e.g. on productivity and innovation, for falling short on social issues. But picking off bad employment practices at companies one-by-one can be costly and slow.
MSCI noted that increasing numbers of institutional investors are assessing their portfolios’ overall alignment with socially-orientated UN Sustainable Development Goals (SDGs) to monitor the impact of their investment decisions on inequalities, including SDG 10, which addresses inequality directly.
The firm also identified opportunities through capital allocation, specifically investing in social bonds with well-defined use of proceeds. Social bond issuance exploded in 2020, with innovations including a Pfizer social bond to fund vaccine production in low- and middle-income countries, and is expected to keep growing in 2021.
Filling in the data gaps
Investor action on inequality first requires information. Willis Towers Watson’s Gillett admits there are barriers, including regulatory ones, to sourcing granular data from investee firms on gender and ethnicity pay gaps, especially those with workforces and facilities across multiple jurisdictions. RLAM’s Hamilton Claxton says firms often don’t have the policies or systems in place to provide data needed to identify ethnicity pay gaps.
Even where data is available, progress is not guaranteed. Published in November, MSCI’s 11th annual Women on Boards study reported a 0.6 percentage point increase in female board-level representation in constituents of the MSCI ACWI index.
“Finding data that is material and valid is a real challenge in this area,” says Gillett, who is hopeful of change in 2021 as due diligence on social issues and broader ESG metrics becomes a source of competitive advantage among asset managers. Data gaps will close and due diligence will deepen, as asset managers recognise their importance to picking stocks that can provide long-term sustainable returns.
“To identify the companies that will be sustainable, well run and consistently give a good outcome to investors, asset managers will have to get a sense of the culture of the business, the leadership, and issues like diversity and inclusion. Going beyond the headline information is where they should find their more valuable and differentiated insights. It will also encourage changes in behaviour and disclosure at the corporate level.”
For now, Colin Baines, Investment Engagement Manager at Friends Provident Foundation, says the “lack of consistent comparable data on many social issues” is a key reason why investors struggle to maintain their focus on the social implications of their investment decisions.
Global reporting initiatives such as the Task Force on Climate-related Financial Disclosures (TCFD) are rare in the social realm, but disclosure is improving, at least on a national level, as Baines noted in a recent blog. The Equality Trust’s FTSE 100 Data Dashboard, for example, lists wage-related statistics, including the CEO, gender and gender bonus pay gaps at every FTSE 100 firm.
Similar to efforts to collectively wield investor influence to decarbonise portfolios, ShareAction’s Workforce Disclosure Initiative (WDI) – focused on increasing transparency on workforce issues – is now backed by more than 50 institutions, with US$6.5 trillion AUM. ShareAction recently announced a 20% increase in firms submitting data to WDI, including first time responders Nike, Vodafone and Legal % General. By securing disclosures from large multinational corporates, the WDI’s annual survey and engagement programme aims to create a comparable data set to inform investor decisions.
At the same time, the coordinating efforts of the five sustainability reporting bodies have started in earnest with a proposal on climate risk. The ‘group of five’ has explicitly outlined their intention to broaden out to social issues in 2021 on the way to an integrated global reporting framework, under the aegis of the IFRS Foundation and the support of WEF and IOSCO.
Refinitiv’s Philipova expects 2021 to build on efforts to streamline and standardise core definitions and principles around ESG investing, arguing multiple existing approaches have made engaging with social topics “overwhelming” for investors, hampering efforts to consistently measure, manage and integrate social risks.
“I expect a lot more focus and clarity to emerge in 2021 on the social indicators empowering investors to assess and amplify their power and influence in creating more sustainable and inclusive societies,” she says.
Deeper due diligence
In comparison to some other ESG risks, progress on minimum wage and human rights issues seemed painfully torpid in 2020, but efforts at greater transparency offer hope for 2021. Released in November, the World Benchmarking Alliance’s (WBA) annual Corporate Human Rights Benchmark found nearly half of 230 global firms were not demonstrating human rights due diligence in line with the UN Guiding Principles on Business and Human Rights.
The WBA extended its 2020 analysis to include the automotive industry alongside the agricultural products, apparel, extractives and ICT manufacturing sectors. The new sector performed worst overall, despite a wide spread between manufacturers, with WBA citing a failure to manage “or even track” human rights risks in supply chains. Further, 70% of firms assessed for the first time failed to score any points on human rights due diligence, prompting the WBA to call for regulatory action and increased investor pressure.
The WBA is also developing a gender-focused benchmark to provide investors with more comparable and comprehensive data on policies, practices and outcomes relating to gender pay gaps. Launching later this year, the new benchmark will leverage existing international principles and standards to measure company contribution to SDG 5 on gender equality, both within their own processes and facilities, and beyond.
In September, the WBA released a ‘baseline assessment’ of the apparel sector which found “woefully insufficient” corporate disclosure on gender, despite two-thirds of employees in the sector being women.
Firms typically only meet legal disclosure requirements and thus “do not take a strategic approach to gender across their value chain, often missing key gender impacts in the workplace, supply chain, marketplace and community”.
Visibility of supply chains is improving, says Hamilton Claxton, with ICT innovation offering new ways to track activity and social media providing new ways to distribute it, both potentially offering new insight to investors. “The leading companies are the ones that got burned early, many of which have now set up good supply chain monitoring exercises. Sadly, even the best supply chain monitoring will not sort this out 100%,” she says.
“We want companies to do the due diligence, address issues where they find them, have as much transparency as they can. That’s about as much as we can ask.”
Institutional investors are already collaborating to exert influence in areas such as minimum wage. Platform Living Wage Financials was established in 2018 to monitor and encourage payment of living wage across supply chains in the apparel, agriculture and retail sectors. Formed in the Netherlands but increasingly Europe-wide, its 15 members have €2.6 trillion AUM and have engaged with 50 firms, as well as conducting regular assessments, drafting best practice guidelines and lobbying external stakeholders, including governments.
More countries now have minimum and living wage frameworks and some are becoming more proactive in highlighting non-compliance and poor practice. Last week, almost 140 firms were identified by the UK government as failing to pay a total of 95,000 staff the minimum wage, between September 2016 and July 2018.
Social issues to the fore in 2021
Investor focus is expected to increase on human rights in 2021 due to the lead provided by the Principles for Responsible Investment.
In October, the PRI issued a new report, titled ‘Why and How Investors Should Act on Human Rights’, to provide detailed guidance on building human rights priorities into policy frameworks and investment practices. In particular, the report calls for human rights-focused due diligence to be fully integrated across portfolio construction, security selection and asset allocation, and/or manager selection, as well as access to remedy for people adversely affected by investment decisions.
The PRI intends for human rights issues to be introduced into its reporting framework on a voluntary basis from 2022, becoming mandatory thereafter. “Our signatories have made it clear that they want the PRI to increase its focus on social issues, including human rights,” said CEO Fiona Reynolds.
On minimum wage, diversity and inclusion, and broader workplace issues, Gillett expects investors to play a growing role in 2021, noting the success of recent collaborative efforts by asset owners, such as those which helped to get minimum standards of practice codified and accepted for tailings in the mining sector.
“Regulatory and societal pressures can also play a part. All these forces can coalesce and institutional investors have an important role in that process, especially collaborating on initiatives that help on disclosure.”
Gillett insists investors can help to ensure our post-pandemic society is more equitable and resilient, promoting change by pushing for information on employment conditions and human rights issues.
As Philipova notes, “ESG information is the most powerful tool we have to change outdated and dangerous behaviours.”