This paper is part of the Fide Foundation’s GET-2 ESG Think-Tank final report from the 2024 Oxford Congress, titled “Driving Change: Exploring Opportunities and Challenges in Accelerating Sustainable Finance.”
ABSTRACT
This paper aims at providing some insights on the definition and types of engagement, the key challenges to undertaking a successful engagement and on how to match engagement practices with external expectations such as those from regulators or clients.
In the last years, a significant evolution in engagement practices has taken place, driven by the need to comply with regulations as well as investors’ voluntary commitments. It is also increasingly recognised that engagement adds value to the investment process by providing more detailed information and helping to identify and manage risks and opportunities, being a more effective way to promote transition that applying a simpler approach based on exclusions, which is particularly important in small investment universes.
KEY FINDINGS
- Engagement is a key tool to manage ESG risks and identify opportunities linked to sustainability challenges.
- Different types of engagement: moving from simple interactions to long-term partnerships that add value.
- Engagement is highly demanding in resources. In the search of efficiencies, quality of engagement should not be sacrificed. Collaboration and prioritization present as ways to gain efficiency.
- Additionality and measurement of impact generated through engagement are seen as big challenges.
CONTENT
Engagement efficiency
Whether we want efficient engagement or not, depends on the targeted outcome of the engagement, and how we consider group versus individual goals. The power of efficient engagement can be reflected in specific and co-ordinated collective approach to an investee entity on a particular area of financial or non-financial materiality. This can be achieved through collaborative engagement pushing for improved governance, disclosures, or strategic commitments on topics like water risks, human rights, or climate goals. The specificity of the risk-orientated approach protects investors from accusations of “imposing values” at the expense of fiduciary duty. However, achieving an impactful quorum of investors willing to focus on one specific element with mutually shared goals takes time and effort.
However, it should also be a goal of asset managers to be ahead of or distinguished from the competition. A bilateral engagement can allow for a discussion on multiple topics, involves less stakeholder alignment, the opportunity to identify or address specific risks and opportunities for a particular style of investing, or the ability to push for a stewardship outcome ahead of peers.
The fragmented expectations of engagements across asset owners, consultants, regulators, NGOs, and other entities result in a delicate balance of the two.
Differences between public and private markets
Engagement in public markets typically involves many stakeholders, more established and diversified larger operations of the engaged company, where public disclosures and screening are more mature, and you are engaging in a change of positioning. In private markets, there are fewer stakeholders, the pre-trade expectations are more formally defined and discussed with the engaged company, where the operations are less diversified and smaller, and disclosures are immature. Investors typically simplify the case that private markets can learn a lot from public markets on governance, and public markets can learn a lot from private markets on impact.
Even when same thematic and sector frameworks and methodologies are used across both public and private markets, the expected targeted outcomes may differ as to when, how, and where one chooses to target a specific engagement outcome.
Efficient engagement with governments
The power of efficient engagement in public equities lies in the ability to exercise one’s ownership rights through voting. But does a well-defined and well-executed climate, planetary, social or governance engagement stack up when governments, policymakers, or regulators are not aligned, especially when reaching across different countries or regions.
The power and challenge of efficient engagement in coming years will be defined by a better interplay of the “ownership rights” of equity and bondholders, where a broader alignment of access to capital can have a greater conviction in achieving targeted outcomes without the overbearing influence of external factors.
Carrying out an efficient engagement involves several challenges
- Resources: Engagement is a resource-intensive process, which requires effort and time. A combination of approaches is needed to deal with this demand in resources. Additionally, internal engagement teams are needed (with the appropriate technical and soft skills, training needed, strategic organisation of responsibilities, coordination between PM/stewardship team). In addition, investors may also need to leverage on collaborative engagement initiatives &/or on engagement service providers.
- Quantity vs. Quality: It is recognised that there is an external pressure to increase the number of engagement (e.g. due to regulation, commitments/initiatives, voluntary codes
…) pushing for a box-ticking approach rather than focusing on the quality of these engagements. This can lead to a superficial and less effective approach that is contrary to the value creation power of engagement. - Misalignment in Reporting Requirements: There is a lack of alignment between the reporting requirements for companies and asset managers, both in content and timelines. This increases the complexity of complying with regulatory expectations for investors.
- Client Expectations: The expectations of clients may not align with global trends or major themes. Adapting engagement practices to the different preferences of clients is a challenge.
- Accountability: Investors recognise the difficulties they find to demonstrate the impact of engagement in a way that is understandable and useful for clients. More effort and resources are needed to measure, and report results effectively. Addressing this topic as an industry requires a conceptual framework to distinguish company additionality and investor additionality, and isolate investor additionality.
- For investors with global presence, dealing with different geographical scopes is challenging and requires flexibility. A combination of global/local approach is needed to engage with different political landscapes, different regulations and different levels of development of ESG reporting and integration at companies.
- Long-term processes vs short-term requirements for investors. Changes need time and engagement generally requires establishing long relationships that require effort and implication from both sides. Investors find difficulties to match the short-termism of some requirements with long-term view required for impactful engagements. Creating added-value engagements requires in-depth preparation and sharing this added value with the company requires establishing partnership relationships.
These challenges highlight the need for effective collaboration and a well-thought-out strategy to conduct efficient engagement and fulfil fiduciary commitments.
CONCLUSIONS AND PROPOSALS
Engagement can take different forms, depending on the interlocutor, approach, and objectives. Not all engagements require the same level of intensity as some can be one-off interactions, while others require long-term processes. Nevertheless, it is recognised that promoting quality instead of quantity is a desired, so these dialogue with companies should try to become partnerships in the long-term to generate value.
Several challenges are identified when trying to match engagement practices with external expectations. It is noted that regulators often focus on the quantity of engagements increases the demand of resources not necessarily linked to value creation. Additionally, the misalignment in reporting requirements for companies and asset managers makes it more difficult to have useful conversations with companies and comply with regulatory expectations.
A combination of approaches is needed to be effective and efficient, and timelines must be adjusted to align short-term external expectations with long-term engagement processes. Transparency is also highlighted to avoid misinterpretations or greenwashing.
Links to recommended readings or specific bibliography on the content of the panel:
- Possible framework to demonstrate and isolate investor’s additionality: https://www.generali-am.com/content/573c24ac-6e3f-0ac4-538c-0281d8b073fe/Generali-AM—2023-Engagement-and-Voting-Highlights.pdf#page=14
AUTHORS
Lara Altable
Head of SRI Stewardship and Policies, Santander AM
Duncan Downes
Senior Client Portfolio Manager, Pictet Asset Management
Francois Humbert
Engagement Lead Manager, Generali Investments
Daniela Mohr
Senior Responsible Investment Analyst, AFP Cuprum
Mark Wade
Head of Research and Stewardship, Allianz Global Investors
Christopher Andrews
Head of Engagement for Sustain & Impact Strategies, M&G Investments
Oxford/24 Final Report:
This paper is part of the Fide Foundation’s GET-2 ESG Think-Tank final report from the 2024 Oxford Congress, titled “Driving Change: Exploring Opportunities and Challenges in Accelerating Sustainable Finance.” Held at Jesus College, Oxford on September 18th, 19th, and 20th, 2024, the Congress brought together world leaders in finance, regulation, and sustainability. This comprehensive report consolidates key insights from the event, offering strategic recommendations to financial institutions and regulators on transitioning to a low-carbon economy and reaching net-zero greenhouse gas emissions by 2050.
The full report can be found at: https://bit.ly/oxf24-report
