Who is the Fairest of Them All?

Despite limited scope for standardisation, investors continue to push companies to be transparent about their social-related processes and policies. 

In a world shaken by the ramifications of a global pandemic, extreme weather catastrophes, geopolitical tensions and a cost-of-living crisis, the importance of looking out for each other is self-evident.  

For investors, there is a financial as well as moral imperative for supporting fair outcomes across society. As such, social-focused issues are increasingly featured in investors’ engagement strategies, with corporates challenged to pay their workers fairly, be more transparent about their in-house equity progress, and disclose their gender and ethnicity pay gaps. 

But the development of standardised, comparable and comprehensive social data and metrics isn’t easy. With such a variety of themes under the social umbrella, it’s unlikely that a single metric – such as annual greenhouse gas emissions for climate – will ever be able to fully capture a company’s overall exposure to and mitigation of social-related risks.  

Indeed, it’s hard enough to achieve consensus on benchmarks and targets for individual measures, such as executive-to-median-worker pay ratios.  

“To add to the complexity for companies, investors are not a homogenous group – they all have different objectives and investment styles, and therefore want to know slightly different things,” says Nikolaj Halkjaer Pedersen, Senior Lead on Human Rights at the UN-convened Principles for Responsible Investment (PRI).  

“Portfolios can vary significantly. If an investor has a concentrated portfolio, it’s easier for them to go deeper into qualitative analysis. Pension funds, which can hold hundreds of companies from around the world, need information to be presented to them in a more digestible, quantifiable format.” 

Further, depending on the jurisdiction, emerging guide rails being established by policymakers and investor-focused organisations have slightly differing perspectives on what it means to be socially sustainable. 

Investors are therefore having to pick through a patchwork of highly variable social data and metrics, assembling a somewhat hazy picture of their portfolio’s overall exposure to social-related risks. This takes up a lot of time and resources.   

Standardisation may be elusive, but investors are pushing companies for increased transparency. In particular, there is growing interest in understanding the impacts of social-focused policies and processes, as well as the methodologies behind the most widely adopted social metrics.  

“Investors don’t want to punish companies with a stick; they are instead holding up a mirror,” Monique Mathys-Graaff, Head of Sustainability Solutions at investment consultancy WTW, tells ESG Investor. “All investors want to understand is where investee companies are on their journey to becoming socially sustainable. Then they can work together and figure out what needs to change and how.” 

Getting to grips with impact 

Investors are keen to understand the social impact of investee companies, both on their workforce and wider society. 

“They now need to know that firms’ policies and procedures are actually making a positive difference,” says Signe Andreasen Lysgaard, Strategic Advisor on Business and Human Rights at the Danish Institute for Human Rights.  

In particular, asset owners want to measure the extent to which their investments are contributing to the United Nations Sustainable Development Goals (SDGs), which include social themes like reduced inequalities, decent work, and quality education. 

Eighty-five percent of 440 impact investors assessed by the Global Impact Investing Network (GIIN) in 2021 said their impact investment strategies focus on SDG-alignment. 

But the SDGs were not designed with investors in mind, points out Czarina Reinante, Data Analyst at Substantive Research. “It’s still a developing market with an array of methodologies being used by data providers to generate scores.” 

Frameworks and platforms are emerging to help investors understand how their social-focused investments are contributing to SDGs. 

The asset owner-led Sustainable Development Investments (SDI) platform analyses thousands of companies on their contributions to the SDGs and then maps a portfolio’s overall exposure to each target. Asset owners involved in the development of the platform include BCI, PGGM, AustralianSuper and APG.  

Earlier this year, GIIN launched the first in a planned series of impact benchmarks. The Financial Inclusion Impact Performance Benchmark aims to provide data across a set of both environmental and social KPIs which will measure the degree of alignment between financial services firms’ performance with global standards like the SDGs. Other sector-specific benchmarks – including agriculture and energy – will be launched on a rolling basis. 

However, the majority of corporates are yet to independently measure and disclose the social-related impacts of their policies and processes, meaning that calculations made using external frameworks still depend heavily on estimations, according to Charlotte Lush, Workforce Disclosure Initiative (WDI) Research Manager at UK-based NGO ShareAction. 

For example, a 2021 WDI survey noted that, while 98% of assessed companies were disclosing the kinds of grievance mechanisms available to employees, only 47% reported how many grievances were actually reported, and just 36% provided data on how many grievances were then resolved.  

To support their efforts, investors are turning to aggregators, but even solution providers acknowledge their limits. “Social datasets from third-party vendors can offer investors an outside-in perspective,” says Gordon Tveito-Duncan, Co-Founder and Head of ESG Technology at fintech GaiaLens. 

“But, if company reporting on social factors can improve to the same extent as we’re beginning to see with climate reporting, then the overall quality of social data will increase hugely.” 

Reporting guide rails 

Experts speaking to ESG Investor emphasise the need for mandatory impact-focused social reporting rules for corporates. 

The European sustainability reporting standards (ESRSs) will apply to companies falling under the scope of the EU’s incoming Corporate Sustainability Reporting Directive (CSRD). It will incorporate a double materiality lens, meaning that companies will be required to outline how sustainability issues are impacting their business operations, as well as their impact on sustainable development beyond their internal operations.  

The ESRSs’ 13 themes include social-focused disclosures on the workforce, workers across the value chain, affected communities, consumers and end-users. For affected communities, for example, the standards require companies to disclose what processes they have in place for engaging with those communities about impacts, specific targets relating to managing material negative impacts and advancing positive ones, and examples of taking action on material impacts on affected communities and the effectiveness of the actions taken. 

Also emerging are more specific rules and reporting requirements relating to human rights due diligence across corporate supply chains. 

The EU’s Corporate Sustainability Due Diligence directive (CSDDD) proposal, which has been adopted by the Commission, will require EU and non-EU companies in the single market with more than 500 employees and revenues of at least €150 million to integrate environmental and human rights due diligence into their internal policies and report on performance progress.  

Last month the Japanese government published its draft non-binding guidelines, calling for companies to prioritise human rights due diligence across their global supply chains. The draft includes a requirement that companies establish a human rights policy that obtains management approval. 

Norges Bank Investment Management (NBIM), which manages Norway’s sovereign wealth fund, responded to Japan’s draft guidance, welcoming its attempts to align with existing global international standards, such as the UN Guiding Principles on Business and Human Rights and the OECD Guidelines for Multinational Enterprises. 

NBIM recommended that additional guidance be provided “on how companies can best report on their human rights efforts, including suggested metrics on which to report”.  

However, investors do not expect supply chain transparency on social issues overnight.  

“Investors know the challenges companies are facing; they don’t expect companies to be able to map out their social-related impact across their entire supply chain at this point in time,” says ShareAction’s Lush. 

“But they do want to see that companies are trying and that progress is being made year on year. If companies can’t disclose right now, they need to explain to the investor why. Ultimately, supply chains involve some of the most severe human rights risks. Companies need to begin addressing these issues.” 

Treading uneven ground 

Once firms more consistently start to measure and disclose their social-related progress, how do investors decide what constitutes good or bad performance?  

To illustrate the underlying complexities, GaiaLens’ Tveito-Duncan cites the example of measuring employee satisfaction. If corporate management asks their employees to disclose how happy they are in the workplace on a scale of one to ten, they cannot be certain that one individual’s ‘seven’ means the same as someone else’s.  

It also isn’t clear whether seven out of ten is an acceptable score, or what the consequences might be of entering a very low score. Nor does it help the investor if another portfolio company implements an employee satisfaction scale between one to 15.  

Further, a mining company has different exposures to social-related factors than a global social media platform, meaning that broad social metrics are not widely applicable, or may need to be specifically tailored. An energy company could be asked to measure the impact of its activities on local communities, whereas a gambling or gaming provider could be asked to report on their efforts to protect underage or vulnerable consumers.   

The political and cultural context of social-related issues is also important to consider, Tveito-Duncan adds.  

“It’s pointless trying to compare a Chinese company’s diversity or human rights policies with a Western company’s – they will be very different,” he says. 

A level of standardisation across a jurisdiction is entirely possible, however. The EU’s proposed social taxonomy attempts to present investors with a clear classification system outlining which economic activities are socially sustainable. Such a framework could bring greater clarity to corporate reporting, but progress on this front has slow, due partly to the need for inherently political judgements.  

“Investors can create their own frameworks,” Mike Carrodus, Founder and CEO of Substantive Research, points out. “While there is an ongoing struggle to standardise social metrics internationally, investors should nonetheless be clear on what their tipping points are. This can be applied to their analysis of investee companies.” 

Differences in social metrics doesn’t need to be a barrier, provided there is transparency around the methodologies, experts say.  

WTW’s Mathys-Graaff points to the World Benchmarking Alliance’s (WBA) Social Transformation Baseline Assessment as an example of clear and usable framework for social metrics.  

The assessment, which was published in January, analysed 1,000 of the world’s most influential companies against a series of core social factors. While the results highlighted the level of progress still to be made by rated firms, the exercise established a “social baseline” across 18 core indicators for three key themes: human rights, ethical conduct and decent work.   

“We are at the point now where companies and investors need to be able to translate the qualitative into measurable metrics and clear disclosures,” says Mathys-Graaff.  

“That means we need to get a bit more deliberative about standardisation. There’s a lot of work to do.” 

The practical information hub for asset owners looking to invest successfully and sustainably for the long term. As best practice evolves, we will share the news, insights and data to guide asset owners on their individual journey to ESG integration.

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