Branching Out: Investors Grow Fond of ESG Companies

A survey conducted by FTI Consulting shows investors are putting their money where their values are.

Environmental, social and governance (ESG) policies continue to be a topic of interest for investors and organizations alike. ETFGI — a leading research and consultancy firm covering trends in the global exchange-traded funds (ETFs) and exchange-traded products (ETPs) ecosystem — reported that assets invested in ESG ETFs and ETPs listed globally reached a record US$226.75 billion at the end of February.

IN BRIEF

Now more than ever, businesses are recognizing the need for a more sustainable operating model — what some have dubbed “Stakeholder Capitalism.” Institutional investors are in tow and are now taking a closer look at companies’ environmental, social and governance (ESG) policies to see how they stack up against the competition. Our recent survey shows the ESG trends that continue to take shape and how businesses can stand out in a sea of sustainability.

From shifting government and international policy to evolving investor values, a number of factors are driving the ESG focus. Within this context, multiple organizations, including the World Economic Forum (WEF), have called for a “great reset” where companies are expected to develop new practices and business models that prioritize ESG policies. This momentum is being driven not only by policy makers and regulators, but by stakeholders, including employees and customers.

By far the most significant environmental factor that drove increased regulatory focus on ESG in 2020 was climate. Decades of science-based evidence that greenhouse gas (GHG) emissions are accelerating global warming are being compounded by dramatic climate-related environmental changes. These range from Arctic permafrost thawing at scale in Siberia to the extensive wildfires in Australia and California.

Against this backdrop, the European Union finalized its Sustainable Finance Action Plan. The goal is to increase the flow of investments into initiatives aligned with the European Green Deal, which aims to achieve a climate-neutral Europe with net-zero GHG emissions by 2050. Just across the pond, President Biden’s administration indicated its commitment to combating climate change by rejoining the Paris Agreement. These are just some of the latest moves directing businesses toward a more sustainable operating model — what the WEF’s International Business Council calls “stakeholder capitalism.”

82% of surveyed business leaders in G20 countries agree that companies should be run in the interest of all stakeholders, not just shareholders. Source: FTI Consulting Resilience Barometer

The race to net zero has also driven investors to look more closely at the other two tenets of ESG: social and governance. Social equality movements, most notably Black Lives Matter, entered the public discourse in 2020 in an unprecedented way, bringing new urgency to the topic of workplace diversity and inclusion. Governance also gained new saliency on multiple fronts as organizations find themselves needing to demonstrate strong oversight across areas like executive compensation, supply chains, corporate strategy, etc.

For a closer look at the factors influencing today’s institutional investor with regard to ESG, consider these six trends identified from FTI Consulting’s survey that will continue to take shape in 2021.

Climate has risen up institutional investors’ agendas
During 2020, institutional investors increased their understanding of the complex issues around climate change. FTI Consulting conducted a survey of 267 global institutional investors and found that a total of 95% of those surveyed said they regarded themselves as well informed on the topic.

Investors are placing greater value on companies that are tackling the global climate emergency. More than half of respondents (51%) say they would encourage companies they invest in to use energy from renewable power generation sources and that these sources should be valued more highly than nonrenewable ones (54%).

Companies with a strong overall ESG performance command a higher valuation
Institutional investors are nearly unanimous in seeing a positive correlation between strong ESG performance and high company valuation. A total of 99% of respondents said that a high ESG rating would increase corporate value. This not only validates companies showing sustainability leadership, but puts pressure on the laggards to move quickly if they want to catch up.

Investors expect CEOs to balance profits with purpose
While institutional investors’ top priority for companies they invest in is increased profitability (52%), they’re also looking to companies whose sense of responsibility extends beyond the balance sheet. Nearly four-fifths of respondents (79%) said they actively consider whether a company has a social purpose when making investment decisions. Strong ESG and sustainability strategies demonstrate a company’s awareness of its overall impact across society and the planet.

Investors want companies to be more transparent about sustainability
Institutional investors are increasingly probing companies on their ESG approaches. Almost three-quarters (74%) are actively requesting more information about corporations’ sustainability strategies. This trend for greater disclosure is set to increase as ESG becomes a bigger overall area of investment, and companies should have the processes and resources in place to respond to these requests in a timely way.

Investors want governments to play a leading role in tackling climate change
As momentum builds ahead of the COP26 climate conference in November, institutional investors are showing increased support for greater national and regional regulations to target GHGs: Backing for these measures grew by 7% between February and August, from 53% to 60%.

COVID-19 has increased the focus on workplace health and safety
In the midst of a global pandemic, institutional investors have naturally paid close attention to the health and welfare of workers. As a result, we saw a 4% increase in the importance of safety and health in the workplace. This was largely driven by the human cost, and potentially negative impacts, on corporate valuation and reputation of adverse health and welfare conditions.

Steps to Achieving ESG Leadership

Institutional investors are becoming more knowledgeable about climate change and other ESG drivers. They want companies to be transparent in their sustainability reporting and are making investment decisions based on a range of ESG criteria.

This presents new opportunities, from cost savings to talent attraction and retention, for corporate leaders who are willing to make the shift to a more ESG-oriented operating model. Here’s where they can start:

Know your company’s ESG strengths and weaknesses: The first step toward a resilient sustainability strategy for the future is to understand current performance. Organizations should determine where they stand, as well as the expectations of their stakeholders, to better inform future decision-making.

Understand which sustainability topics matter most to your business and its stakeholders: Best-practice ESG reporting includes a materiality assessment that maps a company’s priorities against those of its stakeholders (for instance, employees, customers, suppliers and investors). Finding areas of greatest crossover ensures that business strategy and ESG focus areas are aligned.

Stay up-to-date: Nonfinancial reporting requirements and policy-making around climate are highly dynamic. Companies can build knowledge and plan for their future by drawing on insights from industry coalitions as well as public affairs, investor relations and sustainability experts. Information gained will enable timely decision-making.

Be transparent: Companies at an early stage of their ESG journey should be open about the actions they are taking and set targets to show how they will make progress over time.

Embrace change. Now: Global scientific consensus is that urgent action is needed between now and 2030 to reduce GHG emissions if the Paris Agreement’s goal to limit climate change to 1.5 degrees Celsius is to be met. This requires corporate innovation, which in turn can drive long-term shareholder value.

© Copyright 2021. The views expressed herein are those of the author(s) and not necessarily the views of FTI Consulting, Inc., its management, its subsidiaries, its affiliates, or its other professionals.

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Published

May 21, 2021