Richard Manley, Chief Sustainability Officer at CPP Investments, outlines how the pension plan is greening its portfolio by exerting influence in private and public markets.
In its latest synthesis report, the Intergovernmental Panel on Climate Change (IPCC) issued a “final warning”, calling for swift and decisive action to keep global average temperature rise to <1.5°C to prevent catastrophic climate change. Averting this cataclysm requires the reduction of global anthropogenic greenhouse (GHG) emissions to net zero by 2050. The transformation of the global economy will take US$9.2 trillion in annual average spending, US$3.5 trillion more than today, according to a report by McKinsey.
The Canada Pension Plan Investment Board (CPP Investments) has committed to making its entire portfolio net zero by 2050 by increasing investment in green and transition assets to at least C$130 billion (US$96 billion) by 2030 and building on its decarbonisation investment approach. To achieve this, it began by first determining existing green and transition assets within its portfolio with the aim to double the investment by the end of the decade.
“To reach this target, one approach will be through the underlying greening of parts of the portfolio, upgrading assets like buildings to become green. Additionally, there will be ongoing development of new green assets, including renewable energy,” Richard Manley, Chief Sustainability Officer at CPP Investments, tells ESG Investor.
Achieving this target in transition assets will be the result of active ownership and the influence that CPP Investments can exert in private and public portfolios by working with companies to develop credible transition plans, he says, which will involve securing external corroboration and independent verification.
Canada’s climate investment gap is high as C$115 billion annually, with the development of its green taxonomy aimed at helping to mobilise and accelerate the deployment of capital in achieving climate objectives.
Canada-based experts have welcomed a new proposal for a green taxonomy, but are concerned it leaves the door open for untested-at-scale and controversial technologies that will allow for continued investment in fossil fuel industries, thereby slowing the net zero transition.
The road to net zero is inextricably linked to the phasing out of fossil fuels. Some investors are prioritising engagement with oil and gas companies to transition to renewables, while others, such as the Dutch pension fund ABP, are opting for a strategy of divestment in the sector to accelerate the energy transition.
Last year, a report by Sustainable Fitch noted that oil and gas companies are struggling to come up with credible transition plans, with the majority of those operating in the sector continuing to generate significant profits from fossil fuels and invest in new projects despite the International Energy Agency (IEA) advising against new developments in order to reach net zero by 2050.
“There is a real tension in the market between what science says needs to be done and what the fiduciaries in the boardroom need to navigate,” says Manley. “While [oil and gas companies] know that comprehensive decarbonisation of the economy is required, they still don’t have a regulatory framework that provides the incentives for customers and their supply chain to do what needs to be done.”
Manley notes the uncertainties and variables on the road to net zero, both in the fossil fuel sector and beyond. There is a lack of clear economic incentives across markets to invest in GHG reduction, for example, due to the inconsistent introduction of carbon pricing. Further, there is uncertainty over which technologies will play the leading role in decarbonising particular industries.
Companies, therefore, need to demonstrate that they are doing the right thing for the long-term interests of their business by seeking greater clarity on these variables before they move to bet the future of their business on a specific decarbonisation approach, Manley says.
Companies need to start the process today to understand the potential business costs of decarbonisation and assess their abatement capacity, he says.
For oil and gas companies, any developments or projects not technically feasible or economically viable should initiate a strategic conversation about what to do with these operations over the long term.
Climate-related shareholder proposals are set to dominate the 2023 proxy season across jurisdictions. In the US alone, oil and gas companies and electric utilities facing 59 resolutions related to the environment and carbon emissions, according to Securities and Exchange Commission filings.
“Shareholder proposals being filed can be challenging as they may be prescriptive or duplicative of initiatives that companies already have in place,” says Manley.
“Rather than telling the business or executives how to run the business, it is more effective to outline our expectations of directors with respect to management of climate risks and withhold support for director reappointment where they fall short of this – in our experience this is more effective and respects the discrete roles of owners, boards and executives.”
Analysis by the Big Four consultancy firm EY found that 95% of FTSE 100 businesses had so far failed to disclose “sufficiently detailed” transition plans under the UK’s Transition Plan Taskforce’s (TPT) disclosure framework, despite four-in-five UK listed companies stating they are committed to delivering on 2050 net zero commitments.
Later this year, the TPT aims to finalise its disclosure framework and implementation guidance and will develop sectoral guidance. It also plans to increase its engagement with other jurisdictions and standard setters, including the International Sustainability Standards Board (ISSB) to support global convergence on transition plans.
Last year, CPP Investments, which controls C$523 billion in AuM, became a member of the delivery group for the TPT, eager to engage in the dialogue on the development of transition plans. From its perspective, the biggest challenge was a misalignment between a company’s long-term ambition, commitment, targets, and its actual plan.
“Our view is that the TPT has successfully articulated the necessary steps that companies need to take to move from ambition to a credible plan that is grounded in technical and economic feasibility,” says Manley.
“One issue we see is a disconnect represented by companies setting a plan that is grounded in decarbonisation first, with offsetting as the end state, without considering the specific decarbonisation levers that are technically and economically feasible.”
CPP Investments’ involvement the TPT Delivery Group was aimed to help bridge this gap and provide guidance on the credibility and feasibility of companies’ plans.
“In our portfolio companies, we have developed an approach called an abatement capacity assessment that allows companies to calculate their projected abatement capacity,” he says.
“We have rolled this out with 12 of our portfolio companies, allowing management teams to understand the necessary steps they need to take to develop a transition plan.”
When asked how investee firms are responding to this deeper level of engagement, Manley underlines that it has been positive, with the insights provided by the TPT and its abatement capacity assessment methodology helping companies to make informed decisions on their transition to carbon neutrality.
“Most of these engagements have been in private portfolios,” he says. “As a result, there is significant influence and investment from partners who are keen to try out these approaches and see if they can be effective.
“There has been a noticeable uptake in the real estate sector, with green buildings providing considerable valuation premiums compared to traditional buildings.”
This month, the Principles for Responsible Investment (PRI) has updated its guidance on integrating ESG factors into equity investing to better incorporate stewardship considerations, reflecting growing sophistication among practitioners over the past seven years.
CPP Investments is a founder signatory of the UN-supported investor network, with the organisation expanding the size, and enhancing the strategies, of its sustainable investment team over the past 17 years. Today, the pension fund has evolved its approach to sustainability, integrating consideration of ESG factors through the lifecycle of the investment.
“This involves actively supporting the due diligence of new deals by understanding the risks and opportunities tied to sustainability factors at the point of making a new investment,” says Manley. “The focus is to understand the nature of the business risks and opportunities being invested in at the pre-investment stage and reflect these in our investment thesis.”
The investment team then engages with the companies in the public markets, monitoring how they perform and engaging with the management team around ESG issues.
In private companies where the fund typically has more influence, CPP Investments supports the investment and management teams in thinking about their broader sustainability strategy. This includes integrating sustainability into the board composition, staffing of directors, and company policies, as well as determining the key metrics that will be reported.
Later in the life of private investments, the focus is on preparing these companies for IPO. This involves helping the private portfolio companies to understand the expectations of prospective public market investors, as ESG reporting becomes increasingly important.
“The goal is to ensure that when the companies go public, they are the best prepared to meet the expectations of their new investor base and ensure a successful IPO process,” he says.
“It’s good to see that there are situations where investors are pushing for stronger sustainability and governance practices, and that companies are starting to respond to those demands.”
Manley says that it’s important for investors to identify and raise concerns about sustainability risks that may not be outlined in the prospectus, and for companies to be transparent about how they are managing those risks.
“It’s encouraging to hear that these conversations are being had in a constructive manner and that there is a willingness to engage on all sides; management, sponsors, underwriters and new investors.”