Life will soon become much more difficult for companies that fail ESG tests: primary owner of shares

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The CEO of the world’s largest stock owner says life is about to get much harder for companies that fail environmental, social and governance tests set by institutional investors.

Nicolai Tangen, who heads Norges Bank Investment Management in Oslo, said the degree to which ESG dictates a company’s outlook “is starting to be felt now.” Companies that fail to adapt face a world in which funding will dry up, insurance companies will back down, employees will default, social media shame will intensify and customers will disappear, he said. he stated in an interview.

As CEO of the Norwegian wealth fund, Tangen oversees around $ 1 trillion in equities, which represents around 72% of the total portfolio. The rest is made up of bonds, real estate and renewable energy infrastructure. The 55-year-old former hedge fund boss has been dealing with Norwegian collective savings since late 2020. And he has promised the Norwegian government to turn the fund, which was built from the wealth into fossil fuels. of the country, into a world leader. in responsible investment.

It’s a strategy that ultimately aims to make money, based on the idea that ESG failures will become uninvestable. The next step for the fund is to accelerate the pace of disposals based on ESG risks, according to its director of corporate governance, Carine Smith Ihenacho. Companies are dumped if the fund decides the engagement is not worth it, a tactic that is mostly applied to smaller stocks.

Pressure campaign

For large companies with low ESG scores, the investor says he’s about to apply a lot more pressure. Companies receive so-called waiting documents that cover everything from water use to biodiversity to children’s rights. Companies that do not perform well on these requirements can expect to be burned out by the fund for a change in strategy. If that doesn’t work, an aggressive cycle of shareholder voting awaits.

“It is based on the belief that we have that in the longer term, if companies do not manage their ESG challenges well, they will not be profitable,” said Ihenacho. If they don’t improve, then the fund can “start voting against, for example, a chief climate officer, or a committee chairman of the board, or the chairman of the board,” he said. she declared.

This year, the Norwegian investment fund failed to back Exxon Corp. CEO Darren Woods, continuing as chairman, and demanded that the oil giant be transparent about political contributions, with the aim of putting end the type of corporate lobbying that leads to questionable climate policies.

The investor also backed a successful proposition that Chevron Corp. include Scope 3, which is the broadest definition and covers the carbon footprint of its customers. And Ihenacho says the fund is now stepping up pressure on companies that can’t explain their tax models.

It’s a strategy that the fund says is more powerful than outright divestment. “If we sold right away, that wouldn’t solve the problem of reaching 1.5 degrees,” Ihenacho said, referring to the critical global warming limit identified by scientists.

The fund’s governance structure means that it is also guided by recommendations from an Ethics Board regarding companies to be blacklisted, regardless of financial considerations. Within this framework, the investor excluded dozens of companies such as Canadian Natural Resources Ltd., due to its “unacceptable greenhouse gas emissions”, BAE Systems Plc, due to its involvement in “production nuclear weapons ”, and Vale SA, on the basis of“ serious damage to the environment ”caused by the company.

But beyond this framework, Tangen characterizes divestment as a loophole. “You have two camps,” he said. “We see a problem and we run away. We don’t think this approach makes a lot of sense because you aren’t fixing any issues. Someone has to own these businesses. We believe that it is better to try to move them constructively in the right direction.

Divestment vs commitment

The debate around ESG divestment versus engagement is increasingly attracting academic research. A study done earlier this year found that the financing costs of polluting companies hardly change when they are divested, indicating that portfolio allocation ultimately does little to correct behavior contrary to it. ethics in the business world.

Authors Jonathan Berk (Stanford Graduate School of Business) and Jules Van Binsbergen (Wharton School) wrote that “given current levels of socially conscious capital, a more effective strategy for using that capital is to follow a policy of engagement.” .

Other studies suggest that the two strategies can go hand in hand. Divestment as well as thematic and integrated strategies “have the potential to help in their own way,” according to research by Jonathan Harris, director of the Total Portfolio Project and associate researcher at EDHEC-Risk.

Tangen says engagement works most of the time. “There are very few businesses that are not responding,” he said. And those who resist change face a bleak future, he said.

“You won’t get any funding because the banks are more and more in a hurry to be very careful; you won’t get any insurance because insurance companies are also under pressure, ”Tangen said. “No one will work for you because for young people it is really very important that their values ​​are aligned with yours. “

And then there’s the impact of social media, which has the power to influence customer behavior, he said. “You’re not going to get customers… if you’re not sustainable. “

Photography: Carine Smith Ihenacho and Nicolai Tangen in Oslo. Photo credit: Odin Jaeger / Bloomberg.

Copyright 2021 Bloomberg.

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