The Real Value of ESG Initiatives

The US SIF Foundation first began measuring the size of the US sustainable and responsible investing (SRI) market in 1995. From 1995 to 2014 the size of the market increased 929%, and funds recognizing the importance of environmental, social and governance (ESG) issues grew from $4 to $49 trillion from 2006 to 2015.

As noted in our recent post, there are various reasons why ESG concerns are gaining traction, and increasing their importance in the boardroom. In the CFA Institute’s 2015 Environmental, Social and Governance (ESG) Survey, 73% of global respondents consider ESG issues during investment analysis or decisions, with governance issues being the most common. The most important ESG issues for respondents were board accountability (78%), human capital (62%) and executive compensation (61%). Even though governance issues were considered the most pertinent among investors and analysts, shareholder proposals addressing environmental or social issues were in the lead through Q2 2016 (among the 890 submitted).

Results from the 2015 Conference Board CEO Challenge® survey echoes this trend, with CEOs, for the first time, citing sustainability as one of the top five challenges to achieving long-term business growth. Despite the obvious need to address consumer demands for increased transparency around ESG practices, many CEOs and boards recognize that some of these investments can cause initial cost increases, and profitability decreases. Furthermore, with conflicting evidence on how, or whether, ESG initiatives improve long-term shareholder value, many companies and investment firms are struggling with how to address—and perhaps more importantly, how to implement—ESG considerations.

Exacerbating this issue, 69% of The Conference Board’s sustainability council members report that their boards only spend two to four hours a year on sustainability issues. When considering that 65% of investors & analysts consider ESG issues in order to manage investment risks—and 43% do so because clients or investors demand it—the lack of board attention becomes more startling. Whether consumer demand, risk mitigation or brand perception is driving ESG interest and investment, it is certainly a topic that cannot be ignored.

Just as directors should be aware of technology (e.g., digital, cybersecurity) challenges and impacts, they should also have a working knowledge of ESG issues facing the company and its respective industry. In a recent analysis of 2,665 shareholder proposals, a Harvard team reiterated that the importance—and financial impact—of ESG initiatives varies broadly across industries. Using the SASB® Standards for various sectors, the authors first determined whether proposals were financially material or immaterial. What they found was interesting, but perhaps unsurprising. When an ESG-related proposal is filed, company performance on the issue improves. However, when examining market valuation, “proposals on immaterial issues were associated with subsequent declines,” while “in contrast, proposals on material issues were associated with subsequent increases in market valuation, even several years after the proposal.”

Hence, ESG proposals and investments can improve company performance and shareholder value, but they should be considered as a part of the company’s larger strategy, and within the context of their industry. Furthermore, while some companies are addressing ESG issues, investors are dissatisfied with the type of information companies are sharing about ESG practices and policies, and the SEC is taking steps to understand what type of information would be valuable. In the interim, however, boards and management have an obligation to shareholders—to not only engage with them to understand what information they consider material, but to share that information in a meaningful way.

  • How is your company and your board addressing ESG proposals?
  • Does your company or board have substantive knowledge of ESG issues, particularly those that may impact your company and industry?
  • Does your company’s long-term strategy address ESG considerations?
  • Are ESG-related measures tied to incentives or executive compensation?
  • How well is your company communicating ESG initiatives to shareholders?