ESG Investing: Do the Companies you Invest in Have a Moral Compass?
As time marches on into the 2020s, investors have endured the Great Recession. They’ve lived through a significant rise in the cost of living. And they are now finding new ways to survive and thrive during the COVID-19 pandemic.
Time will tell how these epic events will impact investors in the long run.
What we do know is this:
- Younger investors today are becoming more and more values-driven in most areas of life.
- They are driven in their careers and their approach to investing.
- They want to leave a positive mark on the world.
In fact, a 2019 Morgan Stanley Institute for Sustainable Investing survey of high net worth investors found that 95% of millennials are interested in sustainable investing.
Investors today want to know if the companies they invest in operate using a moral compass.
So it’s no wonder interest in ESG investing, also known as socially responsible investing (SRI), is growing.
Older generations have also been socially aware and active. But investors have never had this kind of access to socially responsible investment options.
With increased access has come increased investment:
- In 2020, investors contributed $51.1 billion to sustainable funds.
- Compare that number against only $5 billion in 2015.
If you’re like many investors considering socially responsible investing, you have questions.
- What is ESG investing?
- What investments constitute socially responsible investing?
- Plus, you may be thinking, being socially responsible with my money is great and all, but will I still be able to grow my investment portfolio and retire comfortably?
These are good questions.
What Is ESG Investing
Once an extremely niche sector, the ESG investing definition can take several forms.
First, we’ve got to understand what is ESG?
These are a set of standards investors may use to screen and evaluate potential investments, using environmental, social, and governance factors.
ESG are three central factors in measuring a company’s sustainability, ethics, and social impact. ESG factors are not necessarily financial, but they play a significant role in its long-term risk and ROI.
Below is a brief summary of ESG Criteria:
- Environmental. Environmental factors in ESG refer to a company’s impact on waste, pollution, resource depletion, greenhouse gas emissions, climate change, and deforestation. Investors are looking for a comprehensive sustainability strategy, goals, and measurement.
- Social. A company is more than its products or services. It’s a collection of people. How well a company treats its employees and whether it complies with health, safety, and hiring practices can help investors evaluate its overall risks.
- Governance. At the heart of ESG is the idea that a company needs to take responsibility for its actions. Governance is essential in examining how well an organization can govern itself. Governance covers company structure, donations, political lobbying, tax strategy, board diversity, harmful corruption, and bribery. Governance helps a company align between stakeholders at all levels.
Now, let’s go a little deeper into each component.
Climate change has shifted from a future concern to an immediate crisis. As a result, today’s investors want to know that the companies they invest in care. They want to know about strategies, goals, and metrics companies are using to make a difference.
From air pollution to energy efficiency and climate change, investors want to know if a company contributes to these problems or works towards solutions.
Some investors go beyond just investing and are moving into impact investing. They only invest in companies after becoming satisfied that the company is helping the world transition to a low-carbon and circular economy.
Societal factors considered by today’s investors include:
- Gender equality
- Human rights
- Labor standards
Investors demand transparency about the company’s stance on any type of social injustice. They want to know what companies are doing to change the status quo. For example:
- What steps are being taken to promote economic inclusion initiatives?
- How is the company helping marginalized groups of people?
- Does the company have initiatives to revitalize distressed farming communities?
Socially responsible investors care about how companies treat all people. Investors can now better understand how a company treats employees, suppliers, and the community as a whole.
Corporate Governance Concerns
Socially responsible investors are also questioning and pushing back against the profit-only and stockholder-first attitudes of many corporations.
Investors are looking to weed out any company stuck in the past when the focus was only on stock prices. The focus was also on cutting costs – at any cost – to boost profitability.
Corporate greed is now on the chopping block.
Socially responsible investors avoid companies like Boeing, who sacrificed quality to pursue a better-looking bottom line and saw disastrous outcomes.
Investors want to know what kind of action companies are taking. For example:
- Have targets and performance indicators been established to measure ESG initiatives?
- What internal systems are in place to track ESG progress and performance?
- Are ESG strategies embedded into daily operating activities?
- How is the company ensuring enterprise-wide adoption and implementation?
Now that we’ve outlined what ESG investing is, it’s time to take a look at how to find these types of investments.
What Investments Constitute Socially Responsible Investing?
Finding Best in Class ESG Companies
Companies embrace a focus on environmental, social, and governance for a variety of reasons. One reason is that operating with an eye on these issues can provide a very real competitive advantage. Others include:
- Employee retention
- Customer acquisition
- Access to capital
- Long term business continuity and value creation
- Enhanced mitigation of risk
Looking to Certified B Corporations
Certified B Corporations represent a new category for businesses. The concept is for every business. Some are small. Some are multinationals.
Some are focused on reducing poverty. Some focus on restoring the environment.
They are harnessing the power of business to benefit the global good – not just the bottom line.
Think of this certification like Fair Trade or USDA:
- To become certified, businesses must prove that they balance purpose and profit.
- They must also meet certain standards of transparency and accountability.
B Corporations are required to consider the impact of their decisions on their workers, customers, suppliers, community, and the environment.
This movement is creating a community of leaders. These leaders are focused on using business as a force for good.
But even among the B corporations, finding the best ESG companies for your particular portfolio is a difficult task. Breaking down each of the components is the best way to get started.
Measuring ESG Goals
Investors can now better understand how a company treats employees, suppliers, and the community as a whole.
To understand the issues that shareholders raise, the company Ceres tracks shareholder resolutions focused on the climate crisis, energy, water, and sustainability reporting in the Climate and Sustainability Shareholder Resolution Database.
United Nations Sustainable Development Goals (SDGs)
The United Nations Sustainable Development Goals are 17 goals outlined by the United Nations Member States.
- Provide objectives to help create peace and prosperity for the people of the planet.
- Set the stage for long-term financial success.
The UN SDGs are about encouraging companies to develop a value system. It’s about using a principles-based approach to conducting business. Size and industry are irrelevant.
Every company across the globe is aligning under the SDGs and communicating their progress to investors and stakeholders.
A savvy investor will want to know how corporations are actually using these goals.
The United Nations goals break down into 4 categories and several core principles:
Category #1: Human Rights
The principles in this category direct companies to:
- Support, respect, and protect human rights
- Be sure they are not complicit in human rights violations
Category #2: Labor
The principles here direct companies to proactively:
- Uphold the freedom of association and the right to collective bargaining
- Abolish forced, compulsory, and child labor
- Eliminate employment and occupational discrimination
Category #3: Environment
The environmental goals urge businesses to:
- Support a precautionary approach to environmental challenges
- Take action to promote environmental responsibility
- Pursue and promote environmentally friendly technologies
Category #4: Anti-Corruption
The anti-corruption goal aims to eliminate corruption in all forms, including extortion and bribery.
An Aspirational Title or An Investing Strategy?
Investors naturally want to feel good about the investment decisions they make:
- Nobody wants to get rich from a greenwashing scheme.
- It doesn’t feel great to profit from an investment with a disreputable company.
- And, of course, the growing awareness of climate change and existing societal injustice has made socially responsible investment options even more attractive.
But socially responsible investing is not just about taking the moral high ground.
Making the wrong decisions or taking no action about social injustice and climate change can crush a company’s brand and bottom line.
As a result, socially responsible investing is becoming synonymous with intelligent, forward-looking investing.
“Today is another step forward in the growing impact of stakeholder capitalism. It’s not just about words, but about companies setting clear metrics, measuring our progress, and holding ourselves accountable. Only then can we provide long-term growth for our shareholders, build trust with all stakeholders, and truly improve the state of the world.” -Salesforce CEO and Chair Marc Benioff
Major investment houses tend to agree.
The firm told corporate CEOs that “climate change has become a defining factor” in their companies’ long-term prospects.
When businesses act responsibly and pursue opportunities to solve societal problems, they also deliver solutions and innovations that drive profits.
Innovation from the private sector in a growing market is limitless. Plus, the benefits for customers and the planet are immeasurable.
Strong social responsibility can also be an indicator of a good management team. ESG and SRI are evidence that a company is using long-term thinking and strategizing for the future.
When management considers how the business impacts various stakeholders, they demonstrate holistic and creative thinking. This gives them a significant competitive advantage.
Of course, social responsibility considerations are not a substitute for performing due diligence research when considering investment options or trends. Instead, these considerations should complement your overall investment strategy.
Co-Founder & President, Gladbrook
Warren is a scientist, real estate broker, environmentalist, and co-founder of the Sklar Center for Restorative Medicine. After graduating from UC San Diego with a Master's degree in Biochemistry, Warren has had several successes in medical research, alternative medicine, real estate, and distressed asset fund ventures. Warren and co-founder Ryan Elmore's mission is to improve our world's health, well-being, and enjoyment by investing in the future of cannabis and plant medicines.
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