Advocates argue that engagement by activist groups and institutional investors can help to persuade companies to reduce their greenhouse gas emissions and embrace the climate transition. But sceptics complain that it’s just as likely to give fossil fuel groups and other high emitters license to keep kicking the can down the road. Jamie Broderick, a board member at the London-based Impact Investing Institute, believes that indeed the case can be made for corporate engagement, even as the existing research on the issue – and results – can be confusing, nuanced and at times contradictory.
Is corporate behaviour such as high greenhouse gas emissions or overlooking human rights abuse in companies’ supply chains best addressed by the punishment of divestment to deprive offenders of capital – or at least cheap funding? Or should concerned shareholders instead work with companies, encouraging them to demonstrate their readiness to change their behaviour, even if that requires more patience than some campaigners possess?
This is a years-long debate that has divided advocates of corporate responsibility, with sceptics complaining that too often companies are willing to hold discussions with institutional investors or activists on issues such as climate policy but are slow to embrace any real change that might affect their profitability and shareholder returns.
What evidence is there that engagement actually works?
Broderick acknowledges that the success of engagement policies can be hard to measure. But he says shareholder advocacy groups are keeping score. In its 2021 impact report, US group As You Sow says it undertook corporate engagement with 142 companies on 188 occasions, and withdrew 48 shareholder resolutions after companies made concessions.
The organisation’s 21 proposals that went to a vote – in most cases dealing with climate change, diversity, equity and inclusion, plastics and recyclability – received average support of 43%, although only five were approved.
High-profile campaigns
In the UK, activist group ShareAction says it was successful that same year in high-profile campaigns such as votes mandating oil and gas groups BP and Shell to disclose their businesses’ risks from climate change, persuading supermarket group Tesco to boost the proportion of healthy food and drink it sells, and obtaining commitments from HSBC to scale back its financing of fossil fuel producers. Broderick also points to growing involvement in shareholder engagement on the part of asset managers such as Legal & General Investment Management.
However, he admits that academic research on the effectiveness of shareholder engagement, as with the risk/return characteristics of sustainable companies, offers varying and sometimes contradictory results. However, he says work has been done on the contrast between private direct engagement with companies and public engagement such as voting on AGM motions that suggests public engagement is more likely to focus on financial areas such as profitability, sales and cost ratios, and that environmental engagement deals more with reduced carbon dioxide intensity rather than total emissions.
Another study based on data from a large activist fund reports that engagement works best with companies that are already sensitive to ESG issues, and that financial returns improved considerably after successful engagement. Earlier research found that shareholder proposals were linked to subsequent improvement in the company’s performance, even if they rarely received majority support.
Broderick says: “One study published in 2020 found that shareholder engagement is more effective than capital allocation, except in cases where company growth is limited by external financing conditions, especially with small businesses and in less mature financial markets.”
Institutional investor limits
A 2015 report drawing on corporate social responsibility engagement by an activist investor with US companies between 1999 and 2009 found that successful engagements lead to positive abnormal returns, and that success is more likely if the company is concerned about its reputation and has higher capacity to implement change; collaboration among activists increases the success rate; and after engagement, especially on governance and environment issues, companies see better financial results.
“The studies tend to highlight that not all engagement is equally effective, either in financial or in ESG terms,” Broderick says. “Factors that may impact effectiveness include frequency of contact, breadth of advocacy among multiple shareholders, companies’ sensitivity to ESG issues generally, as well as financial materiality and the cost of implementation of proposed measures. They also suggest that targeting low-sustainability companies offers more scope for improvement, and that the highest success rate is on governance issues, followed by social impact and the environment.”
He notes that there can be limits to the willingness of institutional investors to push companies on sustainability issues. “In a high-profile case last year, Schroders failed to support a shareholder resolution calling on supermarket group Sainsbury to commit to paying the realistic Living Wage to its employees,” he says.
“Schroders has a strong reputation for sustainability, but did not believe the resolution adequately considered the business implications and wider impact on stakeholders. It argued that blind adherence to ESG-motivated resolutions risked undermining the credibility of sustainable investing.”
Reliance on proxy advisers
Broderick also points to the example of BlackRock, the world’s largest asset manager, which scaled back its voting in favour of climate resolutions last year from 47% of proposals on environmental and social impact motions in 2021. The company said shareholder proposals in 2022 were more exacting than in previous years, and suggested it would henceforth be more sceptical about motions that sought to micro-manage decision-making by a board and management, called for changes in a company’s strategy or business model, or that addressed matters that were not material to how a company delivers long-term shareholder value.
He also notes that stewardship and proxy voting tend to be labour-intensive, and many institutional investors rely on proxy advisory firms or third-party asset managers to provide insight and manage the process, with greater or lesser degrees of involvement by the actual shareholder: “Their views and analysis on shareholder resolutions will be very influential on institutional shareholders”.
Meanwhile, the proxy advisor sector is highly concentrated, with Glass Lewis and Institutional Shareholder Services holding between 85% and 95% of the market in the US; in the UK, Institutional Voting Information Service and Pensions & Investment Research Consultants are also influential.
Adds Broderick: “Passive managers are an important part of the shareholder engagement story, because a small number of providers hold a large volume of assets, so their voting decisions are influential. BlackRock, Vanguard and State Street, the three biggest passive managers, hold $16trn in assets. ShareAction reported in its review of 2021 proxy voting that 30 of 146 ESG resolutions (21%) received majority support. If one or more of the Big Three had voted in favour, the number would have risen to 48 (33%).”
Are financial institutions hypocritical?
There is an argument that the value proposition of passive managers, which focuses on keeping costs low, prevents them from allocating adequate resources to researching proxy issues. In its ranking of 75 asset managers’ approach to responsible investment, ShareAction ranked State Street 39th, BlackRock 47th and Vanguard 69th.
But he says: “A large passive book of business did not keep Legal & General Investment Management from third place. And among other large active asset managers in the world’s top six, Fidelity Investments was ranked 43rd, Capital Group 58th and JPMorgan Asset Management 71st, so resources don’t seem to be the key driver.”
Financial institutions have been accused of hypocrisy when they espouse sustainability and net zero targets but continue to finance fossil fuel producers, users and development projects. But Broderick warns against over-simplification of a complex and multi-faceted issue.
“First, what do we mean by finance? Equity investment, except at IPOs or other equity fundraising, does not provide finance to companies, but is generally the process of transferring ownership from one shareholder to another, with no increase in the capital available to the company. So buying and selling shares of BP is not financing BP but the previous shareholder. A lot of breath is wasted on pillorying equity shareholders of fossil fuel companies. We should narrow the discussion to situations in which capital is being provided to fossil fuel companies, usually by bond issuance or bank loans.
Commitment to sustainability
“Secondly, what do we mean by being hypocritical? It should mean misrepresenting the level of one’s sustainability – greenwashing. It should not refer to banks in transition from a starting point of financing fossil fuels to an end point of not doing so. Otherwise, the group of non-hypocritical banks would be those who have never lent to the sector at all, which I would guess is a small group of sub-scale and largely irrelevant commercial lenders.”
By contrast, he says, asset managers and other purchasers of fossil fuel debt have greater flexibility to turn off funding, although they also have constraints in reaching zero exposure as a result of their clients’ mandates and a fiduciary duty to deliver investment returns.
Says Broderick: “Commitment to sustainability does not mean being whiter than the driven snow. It means committing to a transition away from a high-carbon to a zero-carbon economy, and doing so at a pace that reflects urgency, and at some sacrifice of resources and effort.
“The Net Zero Banking Alliance, representing some 40% of global banking assets, has produced a commitment statement that reflects seriousness of purpose in that transition, and the Net Zero Asset Managers Initiative, which represents a similar percentage of global managed assets, has something similar. Neither is focused exclusively on fossil fuel lending, but the concept of commitment to a transition is there.”
He concludes: “And note that an extreme interpretation of sustainability would also need to exclude anyone who uses, directly or indirectly, fossil fuel products, which captures just about every person and company on the planet.”
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