Investors relying less on top-line ESG scores, say panelists - IR Magazine

Posted: 03 Aug 2020 12:00 AM PDT

Investors are increasingly creating their own proprietary ESG research and scoring methodologies, although they continue to use ratings firms as a key source of information, according to speakers at IR Magazine's ESG Integration Forum – Summer 2020.

The forum, which took place last week in a virtual format, tackled issues such as the impact of Covid-19 on ESG reporting, the outcome of this year's AGM season and developing a sustainability program during a pandemic.

In one session, panelists discussed the evolving way in which investors are using information provided by ESG ratings firms, such as MSCI, ISS, Sustainalytics and S&P Global, which operates the Dow Jones Sustainability Indices. Companies continue to receive significant requests for ESG information but it is not always clear how that data is being used by ratings firms and buy-side end-users.

'Reporting companies often talk about being on a sustainability journey – and the same is really true for investors,' said Nicolai Lundy, director of partnerships and market outreach at the Sustainability Accounting Standards Board.

Investors are 'increasingly relying on raw data' and have 'less reliance on any sort of top-line rating or assessment that a third party provides,' he said. 'They're starting to treat ESG ratings like they treat sell-side research, where it may inform their view and they may see there are different views depending on a provider, but it's not often going to be the definitive view of how they think about ESG performance for an individual security.'

Not all investors are at the same point in the journey, noted Lundy. 'Some are less sophisticated [and] newer to thinking about ESG information, or they don't have as many resources to create a proprietary score,' he explained. 'So in those instances, you'll still see that third-party information maybe carry more weight. But very rarely do we hear that it's definitive.'

In one sign that top-line ESG scores are carrying less importance, most providers now make them publicly available. Two weeks ago, Sustainalytics said it would make its ESG Risk Ratings, which cover more than 4,000 companies, freely accessible on its website. MSCI took a similar move at the end of last year.

To understand how investors are incorporating ESG information from third parties, companies should ask in meetings as investors are often willing to provide the information, said Lundy.

He noted that investment firms may use a variety of approaches internally: 'If you talk to specific portfolio managers or analysts, they might have a slightly different answer from somebody working on a different strategy. If you talk to somebody on the investor stewardship team or who is an ESG analyst more broadly, he or she might be able to give a broader-lens look into how different teams might be thinking about the information.'

During the panel, it was noted that State Street Global Advisors (SSGA) is an example of a buy-side firm that is very transparent about its internal methodology. SSGA has developed its own ratings system, called R-Factor, and has released information about how it operates on its website.

Issuer view

Ben Kruse, director of global ESG reporting and insights at AT&T, explained that his company reviews all the data demands from third parties and uses that information to inform its ESG reporting.

'We try to begin with the end in mind,' said Kruse. 'The last couple of years, we've taken an inventory of all the major ratings and ranking organizations that we interact with as a company, and look at what those organizations are asking us for, either through their surveys or through their analysis of AT&T.

'That's a continually evolving effort… But the hope is that it makes us very proactive in our approach, that investors or analysts looking for information on AT&T can easily find it.'

Huub Savelkouls, chief sustainability officer at Philip Morris International (PMI), said it's important to take the ESG scores of ratings providers 'with a pinch of salt'. If you look at four major ratings agencies, they have PMI ranked first, second, third and fourth within the sector, he said. 'You probably need to go a little bit deeper and understand the materiality used by these ratings agencies to determine the ranking.'

Ratings agencies are not always open to corporate engagement but, where they are, companies should try to start a dialogue, said Savelkouls. 'At least talk to them and explain the business, and also correct simple errors,' he said.

Echoing Lundy's comments, Savelkouls said direct engagement with investors over their ESG approach offers valuable insights. 'Most sophisticated investors may subscribe to ratings agencies but, actually, they want to know the real story and want to dig into the data themselves,' he said. 'And that is why we increasingly rely on disclosing on our website all the typical data people ask [for], and more.'

Panelists also discussed the best ways for smaller companies – which lack the budgets and big teams of larger firms – to get their ESG story across to the market.

'I would suggest that companies start with the wisdom of what the investment community is asking of them, as a place to really begin to understand what the topics are that are relevant and material for you, your company, your sector,' said Janice Warren, managing director and head of ESG reporting solutions at Nasdaq.

'Once you've done that, you really can think about how that aligns with your own ESG objectives… Because so much is assessed these days based on public disclosure, if you as a small cap are not at the table, at least telling your story, thinking about your story… you aren't choosing a very prudent course to navigate the waters.'

Click here to find out more about the ESG Integration Forum – Summer 2020.

Forming active defence against activist investors - FM - FM | Financial Management

Posted: 16 Aug 2020 10:00 PM PDT

As activist investors build their presence on the global market, finance professionals need to bolster their preparation for potential activist campaigns.

Worldwide over the last five years, the number of companies targeted by activist campaigns has been increasing by 8% a year, while assets under management of activist investors has been growing at 9% annually, according to global consultancy firm McKinsey. Activists' interests involve mergers-and-acquisitions activity, divestments, and corporate break-ups.

"Some activist investors are looking to take positions with a view to litigation, and where they can exploit situations to their advantage," said Paulius Kuncinas, a Brussels-based economist and adviser at Covalis Capital. "They identify gaps or issues and go after them. It can be a very hostile strategy."

The economic crisis brought about by the global COVID-19 pandemic has cooled activist activity temporarily, but it seems likely that the crisis will catalyse more activist investment rather than less in the medium term, as companies become hungrier for new capital, and lower valuations make businesses more attractive for investors.

Activist investors are clearly here to stay, so how can CFOs and other financial professionals deal with them? FM magazine spoke to several experts to find out.

Attract high-quality investors

The most obvious way for financial professionals to avoid problems with activist investors is to try to ensure that their companies are not targeted in the first place.

"Ideally, you want to avoid them building a significant position," Kuncinas said. "There's often not a lot you can do once a hostile investor gets in."

According to Kuncinas, companies should look to attract long-only investors that are looking to buy and hold stocks — for example, pension funds and insurance companies, particularly from rising markets in Asia. CFOs can do this both by building relationships with such investors and by ensuring that their businesses are run in a manner that would attract them.

"You need to find more favourable investment funds that are nonspeculative and build relationships, and get rid of short-term investors," he said. "Paying good dividends is important, as it's what these quality investors are seeking." Such investors have become increasingly stringent in ensuring that their potential investments meet ESG requirements.

Many activist investors are looking for atypical circumstances that have the potential to shift a company's value, beyond its underlying fundamentals. "Normal companies are usually of no interest," Kuncinas said.

Be your own activist

Running a tight corporate ship is an essential defence strategy, according to Philip Walters, managing director and leader of the industrials team at global strategic communications company Finsbury. He argues that "companies must be their own activist", to close the gaps that activist investors target.

"This means proactively addressing vulnerabilities by looking in the mirror [and] asking, 'Are we effectively communicating our strategy and value-creation story? Is the right strategy in place for long-term growth? Is this transaction defendable on rationale and valuation? Are there gaps in the ESG [environmental, social, and governance] story?' No company, no matter what size or what continent, can afford to be complacent," he said.

This requires investment — for example, in staff and in ensuring ESG compliance — but it can protect a company from a hostile takeover.

Engage stakeholders

It is essential to engage all stakeholders, including those likely to be opposed to activist campaigns and those who might ally with an activist in certain cases.

"One truism of an attack is that activists can't win on their own; they need to build a consensus to effect change and unlock value," Walters said. "Shareholders — be they traditional asset managers, index funds, retail investors, or employees — can have varying and evolving motivations, and an activist's platform needs to appeal to all of them."

This process involves extensive preparation, to ensure that companies can defend against activist campaigns. This is particularly important in public and investor relations, and in keeping a keen eye on how key stakeholders view the company. Ensuring that long-term investors are kept engaged is essential.

"This means developing defence narratives and materials, rehearsing responses in simulations, and dialling-up stakeholder outreach," Walters said. "It also means being transparent about the board's decision-making — explaining why the company is not taking certain actions can help rebut activist attack points. Companies must maintain constant control of their narrative and have storytelling channels ready — from shareholder letters to paid social media campaigns — with supporters identified in advance. [Public relations and investor relations] must work hand-in-hand and help the company stay attuned to sentiment."

Riley Adams, CPA, a California-based senior financial analyst at Google, agrees that engagement and preparation should be the watchwords. "Preparing in advance can have senior management knowledgeable about processes and place more emphasis on making decisions, as opposed to wondering and worrying about roles and responsibilities," he said.

Bring in expert advice and monitor developments

Adams previously worked in the investor relations department of a Fortune 500 company, where he organised an action plan to ensure that it was prepared to defend against an activist investor should one take a significant ownership stake. This involved ensuring that company employees were aware of their roles and responsibilities, and drawing up internal processes for coordinating information between various work teams and senior management.

However, it also entailed identifying external communications companies and law firms to hire — a cost centre for the finance department to control. To head off the risk of being caught off-guard by an activist campaign, Adams also hired a qualified financial services provider that had worked for a range of other companies, to track capital markets developments for potential activist activities.

"Such examples include significant equity trading activity over an extended timeline, tracking volume from known brokers who handle trading activity for activist investors, examining options activities, noting differences in trading activity for our preferred stock and bond issuances, and other capital markets involvement," Adams said.

Embrace positive activists

Not all activist investors should be seen as adversarial. Some, rather than seeking to exploit atypical situations, are investing to promote more ethical and — in particular — more environmentally friendly business practices at the company. In this case, accepting, embracing, and engaging may be the sensible approach.

"Embrace the existence of activist shareholders because they will put pressure on CFOs to justify the investment and financing decisions they make," said Jordi Fabregat, director of ESADE Business School's executive master in finance programme in Spain. "Accept that these shareholders will prevent directors who only own a few shares from comfortably dominating publicly traded companies."

— Andrew MacDowall is a freelance writer and risk consultant based in France. To comment on this article or to suggest an idea for another article, contact Drew Adamek, an FM magazine senior editor, at Andrew.Adamek@aicpa-cima.com.

Search This Blog

World News