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GreenMoney Journal - publishing since 1992
Fall 2010 issue
Socially Responsible Investing – Better Companies, Better Communities
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SOCIAL INVESTING: Challenging Institutional Investors to meet their fiduciary responsibilities
Timothy Smith
Since 1971 when the Episcopal Church filed the first shareholder resolution on a social issue (with
General Motors on the issue of apartheid) there has been a steady growth of proactive advocacy by
investors with companies in which they are shareowners.
In 2004, according to the Investor
Responsibility Research Center (IRRC), there were over 1,100 resolutions on social, environmental
and corporate governance issues, a remarkable year by any standard. In this article I have tried to
provide a new perspective for GreenMoney readers on what motivates major large institutional
investors who are involved in shareholder advocacy for corporate responsibility and good
governance. [Online at- greenmoney.com you'll find additional articles on the positive results of
the recent proxy season.]
What are the basic premises that motivate these investors,
individual and institutional, to petition companies through the shareholder resolution
process?- That long-term shareowner value is preserved long-term when companies adopt good
governance practices and act as good corporate citizens or socially responsible business entities
- A firm belief that as shareowners they have a right to communicate with the management and
board of the company
- A belief that they can and should attempt to influence company
policies and practices
Obviously shareowners that think long-term see the value of the company
reflected not solely in quarterly returns. Conventional Wall Street, pushing for increased
quarterly numbers, has put management under intense pressure. Managers and Boards facing such
pressure may see an environmental program to create energy savings as a short-term expense when
over a period of years that expense may save energy and save money. Likewise, expenses related to
adopting and monitoring a Code of Conduct can be seen as a short-term drain on capital or it can be
seen as a long-term investment, limiting risk and enhancing reputation, as well as "doing the right
thing." As long-term owners, we are looking at the broader long-term health of the company and
support the Board and management in providing long-term leadership.
This shareowner
perspective empowers the prudent (far-seeing) investor to press companies to look at the long-term
perspective on issues like ethical codes, climate change and vendor standards and consider the
impacts five or ten years out.
Let us turn for a moment to the debate on whether socially
screened portfolios perform comparably to conventionally managed portfolios.
In fact,
there is an emergence of investors who make a cogent case for the urgent need to take specific
social or environmental issues into account while making investment decisions to moderate RISK.
They see it as a necessary investment strategy.
On climate change for example, they look
at the analysis of Swiss Re, Munich Re and numerous other insurance companies who argue that there
is significant economic risk from climate change that will have a profound effect on certain
industries. They believe they must make this a part of their investment analysis. And the United
Kingdom Environmental Agency in a 2004 report stated, "51 out of 60 studies demonstrated a positive
correlation between company's financial performance and their environmental management quality."
I'm sure such studies can be criticized but the point is that an increasing number of
investors see environmental issues as impacting shareholder value. Is this "screening"? Not in the
traditional academic form.
And when State Street Global Advisors (SSGA) releases
quantitative research that argues that a portfolio weighted favorably toward companies with
superior environmental records (while not screening out the poor actors) adds value to their client
portfolios should they be dismissed out of hand?
In fact, SSGA's studies, which optimized
better environmental performance, found their "ecoportfolio" outperformed the S & P 500 annually
over five years. As a result, SSGA will be backing a fund that incorporates environmental risk
analysis into their stock selection.
At this point we should not make facile arguments or
claim "Eureka", but if a pension fund decides they are going to dedicate a portion of their
portfolios to such an approach as a form of diversification, should critics automatically decry
such a move as violating the trustees' responsibility to the beneficiary simply because a "social
issue" has become a risk factor?
Of course not!
There is no one "true road" to being an
active "social investor" for pension funds.
In fact many pension funds do not characterize
their work as "social investing." This may be the language of the Episcopal Church or the Sisters
of Charity, of Calvert or Domini Social Investments, TIAA-CREF's Social Choice Fund, Walden or
Dreyfus Third Century Fund, but it is neither the language nor the motivation of the Treasurer of
the State of Connecticut, Denise Nappier; nor William Thompson, the Comptroller of the New York
City; nor Alan Hevesi, the sole trustee of New York State Pension Funds; nor Sean Harrigan, Chair
of CALPERS.
Bound by legal and ethical responsibilities to be responsible fiduciaries,
these pension leaders define their obligations carefully and attentively.
New York City
Pension Funds and their comptroller William Thompson put it this way. "The New York Pension Funds
take the responsibility of stock ownership seriously. They believe that advocacy and activism for
shareholder rights, corporate governance reforms, and corporate responsibility is consistent with
their fiduciary obligations. They understand the interconnectedness and interdependencies of
markets and societies within the global economy. Accordingly, they expect companies in which they
invest to strive continually to be good citizens in the communities where they do business."
Mr. Thompson describes the concurrence of governance and social issues for New York Pension
Funds at the CERES Conference in 2003: "In fact, I believe the time has come to take a broader view
of what we now call corporate governance. We must recognize that a company's conduct with regard to
areas such as the environment and human rights is just as significant in evaluating overall
corporate governance as the independence of board audit committees and executive compensation.
Corporate irresponsibility of any kind poses risks for the health and the stability of public
companies and their shareholders.
There is a simple but persuasive logic to this broader
approach. Attempting to encourage the companies in which we invest to build long-term shareholder
value by including in their business plans responsible economic, environmental and social behavior-
the sustainability business model - is a wise and prudent course of action."
Their
personal social objective aside, they are obliged to protect the beneficiaries of their pension
funds. This is not their money to "play with," they are "trustees" bound to protect the interests
of the investors and participants in these pension funds.
There are literally endless
expressions of what fiduciary duty is in law books and pension plan policy statements. The concept
is widely understood.
It is well expressed in an April 2004 speech at the CERES conference
by Sean Harrigan, Chair of CALPERS, which holds assets worth $166 billion. He calls it "Money held
in trust for the benefit of our members and beneficiaries."
He further states "as such, our
Board is charged with overseeing these assets, investing them in the sole financial best interest
of our members."
I want to emphasize those words "sole financial best interest." Legally
and morally Mr. Harrigan and his colleagues know the definition of their job description.
And these pension fund leaders have set a course whereby they are proactive investors engaging
companies in the key governance and corporate responsibility issues of our day consistent with
their fiduciary interest.
This is a distinct trend among pension funds, whether the fund
is a state, municipal, labor or religious pension fund. In general these funds do not rush to
identify new screens or list companies to avoid. Instead they move to interact, engage, and press
for changes that they believe are in the best interests of investors. In fact these are the same
standards that motivate proxy voting advisory firms like Institutional Shareholder Services (ISS)
who vote proxies based on what is in shareholder best interests.
In short, it is incorrect
to define a modern social investor by the old definition, as an investor who screens portfolios
based on social criteria. The movement is much broader than that.
Certainly a critic could
fairly ask for a further explanation from pension funds active in the pursuit of good governance
and corporate social responsibility regarding how this activism is consistent with or advances
their fiduciary duty.
What inspires their activism? Certainly those active funds firmly
believe that companies with strong corporate governance and corporate responsibility records
protect long-term shareowner value by doing so. In fact, many argue that as large "universal
owners" this is one of the few tools they can use to add value.
But, increasingly, pension
funds also recognize that their fiduciary responsibility requires that they be proactive on
specific social or environmental issues that affect shareholder value.
Let me be clear.
Not all "social issues" fall in this category. Some issues, though they may be appropriate as
corporate social reforms, do not carry with them a convincing business case to stimulate a prudent
fiduciary to act.
However, the fact that a strong business case can be made on many of these
issues has prompted pension funds to encourage companies to:
- Avoid costly litigation
and future liabilities
- Utilize cost reductions (e.g. energy conservation)
- Foster
strong corporate climates that attract and retain diverse and high quality employees, and enhance
productivity
- Protect brand identities and minimize risks to reputation
- Seek new
market opportunities
Examples of such issues where a strong business case can be made include:
1. No discrimination based on sexual orientation - This is an issue that
ten years ago would have been considered a "fringe issue." But in the last five years a wave of
companies have decided to change their policies and explicitly add sexual orientation to the
section of their human resource policies banning discrimination. In fact now 98 of the Fortune 100
companies and 75 percent of the Fortune 500 have made this change, including Wal-Mart.
Exxon
Mobil still opposes this reform and as a result ISS has stated they are an "outlier" and supported
the resolution urging this change (which in 2003 received a 27 percent FOR vote). Clearly, many
companies and investors both see the business case for this change.
2. The Code
and Vendor Standards - This is another issue where a cogent business case has been made
about the need for global companies to develop strong Codes of Conduct, support Independent
Monitoring and be transparent about the process and the results of the findings. Again companies
like Disney, McDonalds, The Gap, Sears and scores of others strive for leadership in this area.
The examples of ugly publicity, colleges cutting ties to companies using sweatshops, and
consistent shareholder pressure are blended with the examples of positive leadership paying off for
companies. Astute shareholders see forward-looking policies and practices on the code and vendor
standards issue as good for long-term shareholder value.
3. Climate Change -
pension fund advocacy as part of fiduciary duty - the issue of climate change is a current
and extremely relevant example of the new waves of activism by pension funds acting in the context
of fiduciary duty.
In November of 2003, CERES, the environmental organization whose membership
includes many investors, as well as environmental organizations, convened a meeting in New York
dealing with climate change and investor responsibility. Investors with over $1 trillion attended
to discuss the environmental impact of climate change and the impact on businesses and the pension
fund that invested in them.
While a comprehensive briefing was given on climate change and
the environment, the focus of the event, chaired by Treasurer Denise Nappier of Connecticut, was
the responsibility they had as fiduciaries to address this issue.
At the meeting
California State Treasurer Phil Angelides said: "In global warming, we are facing an enormous risk
to the U.S. economy and to retirement funds that Wall Street has so far chosen to ignore.
The corporate scandals over the last couple of years have made it clear that investors need to
pay more attention to corporate practices that affect long-term value. As a fiduciary, we must take
it upon ourselves to identify the emerging environmental challenges facing the companies in which
we are shareholders, to demand more information, which we need to spur actions to respond to those
challenges."
Connecticut Treasurer Denise Nappier said: "companies that fail to adequately
disclose potential liabilities related to climate risk and financial analysts who ignore the
potential finance risks of investments in these companies run the risk of fueling the next
governance crisis. As investors, we can not afford any more causalities of corporate
irresponsibility or regulatory loopholes."
The climate change issue is one of the most
active social or environmental issues being addressed by pension funds. All these actions done by
pension funds are stimulated by a sense of fiduciary responsibility.
Business
Leadership Statements on Good Corporate Citizenship Supports Premises of Active Fiduciary
Involvement
In a sense the proactive engagement for improvement in governance and
social/environmental behavior reflects trends in the business world. These pension funds are
building their perspective firmly based in business reality.
But just as we asked if
there was a case being made by the corporate community itself for good governance, let us ask if
there is a corresponding case on corporate responsibility that buttresses pension fund activism.
I believe there is growing and overwhelming evidence that global business leaders consider
good corporate citizenship or strong corporate responsibility to also be good business. Conversely
these leaders believe that a poor record will hurt the company and shareholder value.
What
are some of the indicators of this trend?- Companies increasingly endorse codes such as the
United Nations Global Compact or agreeing to use the Global Reporting Initiative
- Hundreds
of corporate citizenship reports are being published
- CEO statements endorse the importance
of corporate responsibility
- Awards are given to corporate, social and environmental leaders
in the business community
- Business for Socially Responsibility (BSR) exists as an
association of companies seeking advice on best practices
- Academic studies blossom in this
area. One recent example is the Harvard University Program on CSR
- Case studies of companies
with poor records and the damage caused to investors increasingly appear in academic literature and
popular media
- The Conference Board regularly holds conferences on this topic for the
business community reflecting the growing market
As Niall Fitzgerald, the Chairman of Unilever
stated in a speech on CSR and Rebuilding Trust in October 2003 at the London Business School
"Business is part of society, not outside it. Business has a responsibility not just to make
profits for its shareholders, but also to create long-term sustainable business for its
stakeholders. So when we talk about corporate social responsibility, we don't see it as something
business "does" to society, but as something that is fundamental to everything we do. Not just
philanthropy or community investment, but the impact of our operations and products as well as the
interaction we have with the societies we serve…"
"Corporate social responsibility is not
a soft issue or a nice-to-do activity on the fringe of business. It is central to doing business.
It is challenging to manage and it is a hard edged business issue." Mr. Fitzgerald concluded.
This philosophy is being mirrored multiple times by business leaders from BP to IBM, from
Pfizer to Shell, from Proctor and Gamble to Bank of America, from Novartis to Intel. Whether they
live up to their statements is not the issue! The driving point is that these are not fluffy
statements regarding "giving something back to society;" they are made with strong and convincing
business cases that social responsibility is in the best interests of that corporation and its
investors.
Imagine then that you are an executive of a pension fund or a trustee listening
to the case made by business itself. Does the prudent fiduciary not have a fiduciary duty to
support good corporate responsibility? In short, the forward-looking business community helps make
the case for them to be concerned and proactive investors.
Article written by Timothy
Smith, Senior Vice President Walden Asset Management and President, Social Investment Forum.
Contact him at- tsmith@bostontrust.com.
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