The original concept of “socially responsible investing” started decades ago, with an initial strategy of avoiding investment in “sin stocks”—namely alcohol, gun and tobacco companies. Practiced by a small but dedicated group of institutional investors, it was primarily an “exclusionary” approach and it did not significantly impact most publicly-traded companies. Over time, the approach evolved, by continuing to exclude certain issuers while highlighting others as “best-in-class” companies, encouraging engagement with boards and the C-suite, as well as engaging in collective action with like-minded investors.
Today, this is more widely known as “sustainable and responsible investing.” The approach considers a company’s strategies, actions and achievements regarding environmental management, a widening range of societal issues and corporate governance, as well as the governance of environmental and social issues themselves.
In 2017, climate change disclosure proposals at three major energy firms received majority approval, driven by new support from major indexed investors. Previously, many shareholder proposals asked companies to report on their impact on the environment. The 2017 proposals flipped this concept, and based on growing concern about climate change, asked these companies to report on the changing environment’s potential impact on their companies, their sustainability and shareholder value. This drew a straighter line between environmental issues and shareholder value, which accounted for these major investors’ renewed support.
In the U.S., the increased focus on environmental, social and governance (ESG) and sustainability issues is primarily investor-driven, and companies are responding. Management teams and boards understand that the adoption and implementation of sustainability strategies can fundamentally change operational practices and methodologies for the better. That being said, the concept of corporate sustainability being a long-term journey has taken hold among corporate managements, boards and institutional investors (asset owners and managers).
The practice of regularly disclosing and publishing reports on ESG performance has been more evident in Europe rather than in North America. However, U.S. and Canadian companies are rapidly catching up to their EU counterparts by disclosing information through multiple channels, including CSR reports on their websites and within investor presentations, annual reports and proxy statements.
To keep companies and investors accountable in their sustainability journeys, dozens of third-party firms analyze public companies and develop scores, rankings, ratings and “best of” lists that investors and stakeholders then utilize for their own purposes. In North America, leaders include MSCI, Sustainalytics, ISS, Bloomberg, Thomson Reuters (now Refinitiv) and the two major credit raters (Moody’s and S&P).
These third-party service providers follow a wide range of approaches in producing ratings and scores, which a growing number of investors use today. Unfortunately, it is estimated that up to 30% of this data that investors are relying upon is inaccurate or incomplete. For this reason, company managements are increasingly getting involved in correcting, completing and shaping their ESG stories, ideally conveying company-specific material, quantitative, decision-useful information that investors are seeking.
Investors want to know whether the company, its leadership and board have a handle on ESG-related risks and opportunities that could affect the value and long-term sustainability of the company. They expect this process to be owned by the board and managed by the C-suite.
As a result, ESG disclosure is increasingly appearing in company proxies, in connection with board elections and board activities. Companies that publish separate CSR reports and/or disclose their ESG stories online are often also disclosing highlights in proxies, annual reports and investor presentations. Companies that have not yet published CSR reports are using their proxies as initial opportunities to present their company’s profile or position on key issues. For useful recent examples of ESG proxy disclosures, see Figure 1 and Figure 2.
Ron Schneider is the Director of Corporate Governance Services for DFIN. He can be reached at ronald.m.schneider @dfinsolutions.com.