The PwC Global Investor Survey 2022 observed that “Four out of five respondents (81%) say they would accept only a one percentage point or less reduction in overall returns for companies in their portfolios that take sustainability actions. Those include both activities that have a beneficial impact on society or the environment and sustainability activities that are relevant to the business’s performance and prospects.” Is this a fair expectation when returns on sustainability strategy come only in the medium to long-term? Will this kill the spirit of ESG (environment, social and governance) funds, whose task is not easy, as they operate in a complex and unforgiving environment?
Long-term Investors Will Demand Strong ESG Performance: Dr. Mukund Rajan
I have maintained, including in my book OUTLAST, that companies will need to integrate ESG into their mainstream strategy should they wish to remain competitive and attract investor interest. ESG performance will become a hygiene factor for investors seeking relatively secure, risk-adjusted returns. Beyond investors, all stakeholders seeking long-term value creation, will require strong ESG performance from businesses they back.
That said, no investor is going to make significant allowances for below-par performance, just because a company or business says it is pursuing better ESG performance. And most investors, except for entities such as philanthropies and grant-making organizations, will demand returns comparable to what the market offers. Indeed, some, who are very short-term focused, will demand constant alignment with the market (which is why some ESG funds saw some investors pulling out when they saw better returns with funds backing ESG-unfriendly fossil fuel companies after the outbreak of hostilities between Russia and Ukraine thanks to the dramatic rise in oil prices), and others who are more long-term focused will benchmark with the markets over time. But nobody will accept significant under-performance just because companies or businesses claim they are taking ESG-friendly measures.
Indeed, as I have been regularly pointing out, many ESG-friendly measures, like improving diversity within an organization, or paying more attention to corporate governance, or implementing energy efficiency measures, either require no capital outlay (and hence there is no question of reduced returns) or return their cost of capital within a short period (think energy efficient LED deployments in lighting, for instance).
Even where ESG-linked investments require to be made, there is no requirement that these necessarily must be made overnight. Net Zero is an example. A Unilever promises to achieve Net Zero by 2039, 16 years from now, NOT tomorrow. Meanwhile, they are taking the steps necessary to prepare for a Net Zero world, such as pursuing greater energy efficiency in their processes, persuading their supply chain partners to do likewise.
So, coming back to the study below, I think it is entirely logical that investors will make few compromises on their returns expectations vis-à-vis the markets. This is not surprising. That, however, does not mean either that they will happily back very risky enterprises, and it is my belief that most prudent investors will soon be making a minimum threshold of ESG performance an essential element of their stock picks.
The ESG Bonanza – How India Can Build Outstanding Sustainable Businesses
Average Holding Period is Getting Shorter
There are broader macro issues. There are not many studies to quote data, but we know that the time people hold on to their investment is reducing and the sustainable value creation is mostly long term. So, until the investment is based on morality, returns will be top priority.
In terms of how long stocks stick around in a portfolio, the average investor holds shares for 5.5 months. This is according to an analysis of New York Stock Exchange (NYSE) data conducted by Reuters. The analysis also revealed that the average stock holding period has been trending shorter and shorter. In the 1950s, for instance, a typical investor held onto shares for eight years on average.
Only 2% Investors Think Greenwashing Does Not Happen
The PwC Global Investor Survey 2022 has made a few interesting findings that should get both sustainability professionals and organizations worried.
It found that 87% investors think corporate reporting contains at least some greenwashing. In the balance 13%, 11% don’t know, so it is only 2% who says everything is OK. 46% says greenwashing to a large and very large extend. So, that is trust by investors. External assurance, many say, would boost their confidence in sustainability reports.
The survey probed investors closely on how companies are responding to current global economic, political, and social challenges and how they could influence their sustainability strategy. Investors want companies to keep a sharp focus on innovation and financial performance. They ranked those as their two highest priorities for business, with reduction in greenhouse gas emissions coming lower. Over the next five years, however, investors expect the threats stemming from climate change and cyber (including hacking and disinformation) to rise considerably.
They also see room for companies to become more effective both at managing climate change and innovation and at reporting on these efforts. Seven in ten investors said companies should report on sustainability’s relevance to strategy, the cost of meeting sustainability commitments (including climate goals), and the effects that sustainability risks and opportunities have on assumptions behind the financial statements.
The report quotes an American investor saying: ‘I think it is really telling if you look through some sustainability reports. I’m going to start counting the number of times that a company says “sustainability” versus using actual descriptors. The more a company talks about sustainability in a vague way and the less information I walk away with, the bigger the red flag gets from my perspective.’
For reporting to be effective, it must be relevant and reliable. Yet, we found a gaping trust deficit.
As part of the push for financial discipline, investors seek greater transparency on the economic impact of companies’ sustainability agendas. Two-thirds of investors say they would want companies to disclose the monetary value of the effects their actions have on the environment and society, although no agreed-upon methodology exists for doing so. Although valuable to investors, such disclosures could also give leaders a better basis for the direction, funding, and execution of sustainability strategies over the long term.