Growth and Development in International Financial Markets
5. Other Supporting Factors for the Growth of SRI
communities and stakeholders, volunteerism or donations, energy usage, carbon emissions, and responsible procurement policies with suppliers.
British corporations are also required to include information about their social and environmental responsibility factors in their operations, along with a financial review in annual reports to their shareholders (Lydenberg, 2005). The London Stock Exchange requires listed companies to adhere to a standardized CSR reporting format that is integrated into their financial reporting requirements through the Corporate Responsibility Exchange which provides a single point of contact for listed companies to demonstrate compliance with domes- tic and global codes, and for investors to analyze, benchmark, and compare CSR data.
The increase in CSR reporting21 demonstrates that corporations and their stakeholders agree that non-financial reporting is essential to characterize fully all risks and wealth creating potential of a firm.
Knowledge of environmental and social issues that are being dealt with at the corporate level, along with financial data, encourages a more efficient market and subsequently more accurate pricings of equities and firm values.
5.2 Emergence of Standards and Guidance Frameworks The emergence of standards and guidance frameworks at both the domestic and international level purports the growing importance of SRI. Corporations that subscribe to the rigors of these standards will often voluntarily disclose them in their CSR reports. From a practicality point of view, firms find it advantageous to adhere to a specific code because the guidelines are explicit and often provide explanations of the criteria they can use to measure their performance in SEE arenas. The business case for adopting a standard includes recognition, enhanced rep- utation, and opportunities to collaborate with other adhering companies.
Two examples of the many forerunners of CSR reporting frame- works are the International Organization for Standardization (ISO) and the UN Global Compact.
21 The GRI reports nearly 1,000 organizations in over 60 countries using the Reporting Framework.
ISO launched the guidelines for social responsibility known as the ISO 26000. Although ISO 26000 is not a certification standard, it was developed to encourage voluntary commitment to social responsibility by providing guidance on concepts and methods of evaluation for social factors. The UN Global Compact is a non- regulatory, voluntary, and non-enforceable instrument based on ten principles categorized by human rights, labor standards, environ- ment, and anti-corruption.22 It aims to help companies and organi- zations find practical solutions for corporate responsibility issues involving multiple stakeholders. Although there is no certification, the UN Global Compact Office permits participants to use the Global Compact logo in communications that outline participation in the program. Companies that participate in the Global Compact develop a reputation for demonstrating leadership in its industry by advanc- ing corporate responsibility and by managing risks by taking a proac- tive stance on critical ESG issues.
Parallel to the CSR framework initiatives spearheaded by corpora- tions, institutional investors such as pension funds, have adopted the Principles for Responsible Investment (PRI), a guidance framework for institutional investors to consider ESG issues that have impacts on investment decisions.23 There are six Principles for Responsible Investment: 1) incorporate ESG issues into investment analysis and decision-making processes; 2) be active owners and incorporate ESG issues into their own policies and practices; 3) seek appropri- ate disclosures on ESG issues by the entities in which they invest;
4) promote acceptance and implementation of the Principles within the investment community; 5) work together to enhance our effec- tiveness in implementing the Principles; and 6) report their activities and progress towards implementing the Principles.24 As with frame- works for corporations, adoption of the PRI is not mandatory. The act of adoption simply demonstrates that the signatories recognize and sup- port environmental and social factors that can lead to positive financial
22For the details of the ten principles, please go to www.unglobalcompact.org.
23The PRI was developed in partnership with the UNEP FI and UN Global Compact and launched in 2006.
24Source: www.unpri.org.
returns in the long run. Institutional investors who commit to PRI principles believe that they are meeting their fiduciary duty of acting in the best interests of their beneficiaries by taking into account the ESG factors that affect companies, industry sectors, geographic regions, and time, which ultimately affects their portfolio performance. Although PRI is compatible with SRI instruments, it is applicable to all tradi- tional investment strategies that operate in a fiduciary framework.
PRI signatories can be divided into three categories: asset owners (e.g., pension funds), investment managers (e.g., firms retailing finan- cial instruments), and professional service partners (e.g., investment researchers and consultants). Only one year after PRI’s launch, more than 150 signatories with assets under management of greater than US$6 trillion (as of August 2007)25have embraced the six Principles as a method of aligning their investment decisions with the concerns of their beneficiaries and simultaneously contributing to the UN’s goal of a stable global economy with social progress and sustainable development. Financial institutions that provide funding for projects, especially in emerging markets, have adopted the Equator Principles as a guidance framework to evaluate a corporation’s social and environ- mental management practices, as well as provide a benchmark for use in the analysis and decision process of funding global projects with capital costs greater than US$10 million.26Equator Principles Financial
25Source: www.unpri.org.
26Source: www.equator-principles.com. The ten principles with which projects are evaluated by the EPFIs are: 1) review and categorize the impacts and risks in accordance with environmen- tal and social screening criteria developed by the International Finance Corporation; 2) assess the social and environmental impacts and risks; 3) assess the project with applicable social and environmental standards based on whether or not the project is located in an OECD country;
4) review the project’s Action Plan and Management System that addresses the impacts, risks, and corrective actions required to comply with host country’s social and environmental laws and regulations; 5) determine whether the borrower has consulted and disclosed the project to the local community, government and other stakeholders and adequately addressed their concerns;
6) determine whether the borrower has a mechanism in place to engage with stakeholder griev- ances; 7) check that an independent review was performed to assess compliance to the Equator Principles; 8) incorporate covenants linked to Equator Principle in the financing documenta- tion; 9) ensure that an independent environmental and social reviewer monitors and reports activities throughout the life of the loan; and 10) each EPFI commits to annual disclosures of its Equator Principles implantation processes and experiences.
Institutions (EPFIs) adopt ten principles to ensure that the projects they finance are developed in a socially and environmentally responsi- ble manner. Projects that do not meet the Equator Principles are not funded by EPFIs. More than 50 major international financial institu- tions have signed on to the Equator Principles.27
5.3 Involvement of International Non-Governmental Organizations and Research Groups
The emergence and involvement of large international agencies such as the United Nations Environment Program Finance Initiative (UNEP FI), CERES, and the World Business Council for Sustainable Development (WBCSD) is indicative of the growing significance of SRI at the supranational level.28A special UNEP FI Asset Management Working Group (AMWG) that comprised fund managers was estab- lished to study the materiality of ESG issues in institutional portfolio management because beneficiaries had requested approaches in asset management that would include any non-financial information that becomes relevant to investment decisions. In 2003, AMWG carried out a research project to identify SEE factors (such as climate change, occu- pational and public health issues, human labor and political rights, and corporate trust and governance) that would significantly affect a com- pany’s competitiveness and reputation in seven industry sectors, and to quantify the impacts on the stock price. Their research findings show:
1) ESG issues affect long-term shareholder value and may be signifi- cant in some cases; 2) due to non-standardized ESG reporting, com- parative analysis between companies is difficult; and 3) it is easier to do an analysis if there is clear government policy on ESG issues. The AMWG concluded that because ESG issues can contribute to shareholder value, non-financial information should be integrated as an important part of fundamental financial analysis (UNEP FI AMWG, 2004).
27For example, JPMorgan Chase, Bank of America, HSBC, Rabobank, and Citigroup, to name a few.
28The WBCSD is made up of CEOs from 200-plus companies working towards sustainability.
CERES is a network of investors and public interest groups.
Other NGOs, like CERES and the WBCSD and private firms such as Innovest, Investor Responsibility and Research Center, Insti- tutional Shareholder Services, and Sustainable Investment Research International (SiRi), provide independent research, analysis, and consulting to investors in the area of SRI, ESG issues, and sustain- ability. The sheer number of reports produced by NGOs and private researchers in the last few years indicates that SEE factors warrant thorough research and serious consideration by investors.