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Active ownership involves investors using their formal rights (e.g. the ability to vote
shareholdings) and informal influence (e.g. their ability to engage) to encourage
companies to improve their management systems, their ESG performance or their
reporting. Engagement with public policy makers is increasingly seen as an integral
part of active ownership.
Engagement is the term generally used by asset managers to refer to all the
modes of action whereby a portfolio manager seeks to influence the behavior of a
corporation of which it owns shares, as regards some aspect of policy or practice on
an ESG matter. Engagement can range from dialogue with companies to voting in
opposition to management at the general assembly. It can be done by institutional
investors singly or acting in concert with other investors or with NGOs.
Exclusion
In the 1970s, SRI worked by means of categorical exclusions. Categorical exclusions
can be fashioned for many different categories, and investors can choose which
categories they wish to negatively screen out of their portfolios.
Negative screening involves excluding companies from the investment universe on
the basis of criteria relating to their products, activities, policies or performance.
This includes sector-based screening (where entire sectors are excluded) and normbased screening (where companies are excluded if they are considered to have
violated internationally accepted norms in areas such as human rights and labour
standards). Positive screening involves preferentially investing in companies or
sectors on the basis of criteria relating to their products, activities, policies or
performance. Tobacco has probably become the most widely implemented
exclusion category, yet this has had no effect on the survival of tobacco companies.
They are going strong and continue to grow in sales and profits by expanding in
emerging markets, as well as specifically targeting the young and women.
Thematic funds
Thematic funds invest according to specific themes, such as the aging of the
population (in which case they invest in health care providers, drug companies,
nursing homes, special equipment manufacturers, and so forth), or environmental
protection (in which case they invest in pollution control equipment, alternative
energy, recycling, waste management, energy efficiency systems, reforestation and
the like). In general, thematic investors are not concerned with broader ESG or
ethical issues.
Private equity: the next frontier in RI?
A private equity investor is an owner that has the authority and capacity to act as
an active owner on all matters, has a seat on the board, and the power to unseat
management if needed.
The next frontier in RI effectiveness will be if and when the large private equity
funds take charge of progress on the environmental agenda of the companies in
their portfolios. In 2008 the assets in PE funds reached e2 trillion.
CSR, as defined by global corporations working through the WBCSD, the Global
Compact, and the UNEP FI, addresses or sidesteps matters that are crucial to
corporate citizenship as seen from the public interest. Companies justify voluntary
CSR with the business case:
The eco-efficiency argument is that money is saved when fewer resources are
used per unit of production (WBCSD, 2005, 2002).
The reputation risk argument is that, by consulting with NGOSs and civil
society, a company can avoid mistakes like Shells Brent Spar decommissioning fiasco in 1995.
The brand building argument is that, by showing good corporate citizenship,
a company can increase market share, gain favor with regulators for license
to operate approvals, and perhaps even reduce the chances of
nationalization.
There are two structural ways in which CSR fails. One has to do with the legal
protections accorded to companies, particularly limited liability. Limited liability, the
wonderful invention that has allowed for modern capitalism, allows risk-taking with
ones own or other peoples money. Emissions reduction does not take place until a
limitation or the threat of a limitation with financial benefits and/or penalties exists,
as was also the case with chlorofluorocarbons (CFCs), sulfur dioxide (SO2), and
other kinds of toxic waste. Unless a regulation puts a cost or benefit to an event of
pollution (an externality), internalizing it and making the business case,
companies do not change course in their core business.
The second failure of CSR is its absence in the key decisions that reveal the ethical
DNA of a company, such as:
1. Budget decisions: how much profit to serve up vs. how much to pay in salaries,
performance bonuses and stock options and their allocation to different employee
categories; how much to invest in R&D or in upgrading plant and equipment, pay
into the employee pension scheme, pay out as dividends, and pay in taxes.
2. Corporate financing strategy: borrowing too much can risk the survival of the
enterprise and force massive job losses but may be favored over the dilutive effects
of a new equity issue on existing shareholders or on managements stock options.
3. Lobbying: how much is right for a company to pay into political campaigns to
influence legislation in managements favor.
The challenge of capitalism is to find a way of more effectively harnessing selfinterested pursuit of growth and profits, as well as resources, for greater alignment
with the public good.