By Amanda Maine, J.D.
At a recent program hosted by the Practising Law Institute, a panel of attorneys examined the rise in interest in environmental, social, and governance (ESG) factors at public companies. The panelists discussed whether ESG promotes values over financial value and how investors view ESG issues and ratings.
Value versus values? Panel moderator Karessa L. Cain of Wachtell Lipton asked to what extent does ESG mean “value” or “values” and which is preferred by investors. Yafit Cohn, general counsel at The Travelers Companies, said that part of the struggle is actually defining ESG because it can mean different things to different people. From Travelers’ perspective after engaging with shareholders, ESG is focused on risks, opportunities, and value rather than values. She advised that ESG is often conflated with corporate social responsibility and corporate citizenship, but believes that the terms are different, because at its core, ESG is about risks and opportunities.
Professor Sarah Dadush of Rutgers Law School said that there has been a profound societal shift in terms of what investors, customers, and employees are expecting from corporations. She added that ESG is not the change that people are calling for, but rather a mechanism for change.
Linda-Eling Lee, global head of research for MSCI’s ESG Research Group, which provides ESG ratings to institutional investors, said that terms such as ESG, responsible investing, and impact investing can be confusing for MSCI’s clients. The fundamental distinction, she advised, is between whether the rationale for an investment strategy is investment-driven or individual preference-driven. For the investment-driven side, investors will look at ESG factors alongside traditional financial factors because they will reduce risk and improve performance. In contrast, investors who are driven by individual preferences want their portfolios to be aligned with that preference and care about how the company’s portfolio impacts ESG.
Charles Nathan of Finsbury asked Lee about the relative sizes of the two types of investors. Lee said that while it is a very dynamic field that is also very regionalized, from the data she’s seen the breakdown is about fifty-fifty. She also noted that there has been a movement toward more impact investing as wealth is transferred to the millennial generation. Nathan seemed skeptical of the fifty-fifty figure and wondered if it was actually a “noisy” 20 percent from an AUM (assets under management) viewpoint.
Cohn advised that in the U.S., companies are stewards of their shareholders’ capital, but if ESG can impact bottom line, companies will focus on it. She also said that it is often a false choice between focusing on shareholders and focusing on other stakeholders. Cain added that some investors want value and values at the same time.
Ratings and research. When asked about empirical studies about cost-benefit analysis and the link between ESG and value creation, Lee said that academic research has found that there is not a tradeoff. At worst it is about equal, and at best it shows that companies that are better at managing ESG factors are better at managing risks and providing value to shareholders, she explained. Studies have shown that companies that have high ESG ratings have been more profitable, paid more dividends, and expressed less earnings volatility, according to Lee.
Nathan seemed unconvinced by these studies and inquired how they were able to attribute the results to a single factor across all industries, management, and geographical areas. He questioned whether it was even possible to measure. Lee said there is a distinction between “single factor” ESG studies across all industries, and studies that use ESG ratings that differentiate between different industries and only use ESG factors that are financially relevant to those industries. For example, Lee said that even though MSCI might collect water management data for all industries, there are only maybe 20 industries for which water is a relevant factor that contributes to the ESG rating.