ESG debate participants Executive summary Environmental, social and governance issues have become more relevant to long-term returns for emerging market investors However, emerging market volatility needs to reduce before ESG will really start to get noticed Companies with good governance are more likely to catch the eye of international investors, but not in every case Mining companies are under the microscope, while in other sectors, family-run businesses still need persuading of the benefits of being more open to scrutiny Climate change can no longer be ignored, indeed it may even offer opportunities to investors
RK, IFC Emerging markets are increasingly important to investors looking for superior long-term returns, and in the emerging market context ESG issues are more relevant to financial performance. But there are still barriers, perceived and real, for investors to make this type of investment. How do we increase the environmental and social sustainability of capital invested in the emerging markets and help realize the related commercial opportunities for the investment industry?
Environmental, social and governance issues have become more relevant to long-term returns for emerging market investors
However, emerging market volatility needs to reduce before ESG will really start to get noticed
Companies with good governance are more likely to catch the eye of international investors, but not in every case
Mining companies are under the microscope, while in other sectors, family-run businesses still need persuading of the benefits of being more open to scrutiny
Climate change can no longer be ignored, indeed it may even offer opportunities to investors
MB, Innovest Environmental and social factors have always affected investment. But the markets havent always had the skills, ability or desire to find out how those factors affect materiality. Its evolving. Our ability to track environmental and social issues and their impacts is relevant to how sophisticated the tools are for markets to analyse them. As they get more sophisticated, those factors will be considered more relevant in determining the best picks for long-term return.
MB, Asria At this stage of an ageing bull market investors are overvaluing growth and undervaluing risk. ESG has become more relevant to long-term returns. There are more tools available for looking at it. Its also defining the investment thesis. You cant have an informed view on the price of oil if you dont have a view on how China and India are going to organize around issues framed by climate change. For returns on energy efficiency investments, the long-term case in emerging markets is strong. However, its also influenced by the price of electricity and whether theres a country-level consensus. Near term there is a better consensus in Germany than in China. Most Asian governments do not discuss the price of electricity with the public. Most European governments do. So the financial opportunity around certain investments on a three-year view is higher in some developed markets than in Asia.
RT, Axa IM Well-run corporations understand that if they do not manage material ESG or, as we call them at Axa IM, extra-financial factors, well, the company will be unable to deliver sustainable value. That doesnt mean that every ESG factor is important to every company. The skill for directors and investors is to know which are the most material drivers of long-term value and risk, and focus on these.
JW, HSBC Well-run companies manage ESG issues as an integral part of the business. Sustainability and profitability over the long run go hand in hand. But what weighting does the market give? Ive yet to see evidence that ESG factors can be identified in asset valuations, particularly on equities.
WVDB, Aavishkaar Goodwell Thats because there isnt a track record yet. But risk is in the eye of the beholder. There are opportunities out there, and opportunities are the flip side of risk.
PM, ICMM At national level, governance is key in determining foreign direct investment. The flows of investment into the worlds 33 mineral-dependent economies have not been correlated with the availability of resources. Thats a common feature, but in some countries, such as Indonesia, the Philippines, Papua New Guinea, which are all resource-dependent, investments have been declining. At the same time investments in better-governed countries have gone up astronomically. Governance is of fundamental importance in determining where investment is occurring. Indonesia has a wealth of resources but multinationals that have invested there historically are concerned about governance, and theyve gone to other jurisdictions. Chile is an example of a jurisdiction where economic reform and governance improvements have stimulated significant foreign direct investment.
RT, Axa IM Our definitions and measures of risk may need to change! Is volatility a good measure of risk for a long-term investor whos trying to meet liabilities 20, 30, 50 years out? Clearly, no. Is it the most dominant risk metric? Yes. Management consultants have shown that corporate boards dont understand and manage well the material extra-financials that are important for their sector. For example, human capital management in the financial sector is critical, but how many firms actively manage and report on this factor? One sector where we see good progress is the mineral and mining sector, where we do now get reasonable data on health and safety performance. One of the encouraging projects linking better corporate reporting and better investment analysis is the Enhanced Analytics Initiative. Sell-side houses are incentivized by their buy-side clients to look at those issues. Goldman Sachs and Citigroup are starting to do comparative assessments, bring them into their valuation. Companies should report better, and buy-side analysts should pay sell-side colleagues to look at whats important.
ESG is a mainstream issue in mineral resources because the value creation process in resource companies is about who gets access to world-class resources and the ability to operate those securely and fully. That is all about good performance and what companies can offer the host community and government. They need a track record of securely, safely and responsibly operating. It is those things that differentiate companies, and get them access to world-class resources. This is fundamentally important in emerging markets because the most significant component of FDI is their resources sector.
JW, HSBC Weak governance is keeping capital flows from international companies away from certain countries. But that creates an opportunity for capital flows from resource-dependent fast-growth economies to fill that gap. Absence of governance is not stopping huge capital flows into Africa. How do you take the good work that leaders have done and move it to the laggards? Relevant and transparent reporting is key.
NP, Rexiter I see general improvements in corporate governance and corporate competence in emerging markets, and with that ESG awareness. But annual reports often include a sustainability report that doesnt tell us anything of real investment use. Theres little sell-side research attention paid.
PM, ICMM One reason theres been so much investment in the resource sector in certain countries in Africa is because it has been preceded by economic and legal reforms. There was previously no investment, even though resources were there. Botswana, Ghana and Tanzania have been through reform processes, whereas Zambia, for instance, is much less advanced with these processes.
NP, Rexiter ESG wont be a determinant of long-term equity performance until market volatility comes down. After five years of a strong bull market in emerging markets, investors care little for what they are paying for poor ESG in, say, Russia. Nickel is going up, mined in a part of Siberia where there are destructive ways of getting it out of the ground and questionable employment conditions. They dont care. The prices of commodities have tripled. Emerging markets need to enter a period where outperformance slows down before investors really differentiate between good and bad ESG performance within companies.
RT, Axa IM There are two roads to delivering value for shareholders, the high road and the low road. Pauls members are taking the high road, delivering sustainable value through sustainable licences to operate. But some smaller companies in the same sector have a faster, dirtier strategy and they too can deliver shareholder value. The ex-World Bank environmental economist Herman Daly said were treating the Earth as if it were a business in liquidation. Is it that analysts arent taking this into account? Or are they taking into account that governments and asset owners are quite happy to ignore how investment returns are generated?
MB, Innovest Theres a tension in the way markets look at value, particularly with respect to natural capital. Markets place an incredible discount rate on resources that should not have one at all, for example our climate system or the rainforest in Brazil. These are natural capital assets that we literally cannot exist without, yet we only look at them from the perspective of their short-term economic value. Markets cannot continue to operate under this current system, where we dont factor in the long-term costs of impacts regardless of how vital the systems are that are being damaged or used up. Eventually this becomes unsustainable and weve reached that point now. Some governments are beginning to recognize this, so for example, the Chinese government has acknowledged that their pollution problem is a barrier to development. ESG factors will become so important that either they will become a part of our evaluation system or the system wont work. Its a matter of timing, because this tension extends through the globalization of labour and of development capital. While that tension exists between the markets and a lack of valuation for essential natural capital, were not incorporating the proper pricing, which reflects how we look at companies performance. The system has to change, the question is when and how.
JW, HSBC At government level in emerging markets, there is a greater understanding of the economic costs of environmental damage than developed economies had at a similar stage in their evolution. Whats more, that is being monetized into an economic value and then managed. Climate change is an issue in emerging markets because of concerns not just about CO2 emissions but also about energy security, energy price and securing commodities to underpin the economic growth to get populations out of poverty. These are different drivers from those in the developed world.
MB, Asria I am confident that ESG issues will become a key driver. As companies become acquirers of global and Asian assets, they will have to wrestle with new issues. The smart investors are putting time into new ideas and trying to decide what they want to own when the dust clears.
RT, Axa IM We dont need to just wait for the dust to clear or to limit ourselves to niche investment opportunities. While this might be OK for a retail investor, it would be a problem for a large diversified asset owner with universal exposure to emerging markets. Investment opportunities, not least by better avoiding risk, can also come from understanding the pain of the current system. There are some clear specific initiatives, which we as investors should look to encourage. When carbon has a more stable price, it will be easier for everyone to take it into account in investment decisions. And when it becomes clear that waters got a price, there will be a shift in what happens with even the smallest of Chinese companies shoving sewage into the Yangtze.
PM, ICMM There are reasons why certain companies get assets and are able to run them effectively and securely. The iron ore resources that BHP Billiton and Rio Tinto have in Western Australia are an example. Following dramatic increases in short-term demand for iron ore, principally from China, these companies have been able to respond to those unforeseen surges in demand by having access to the resources, but also by having the capacity and the goodwill with regulators and communities to be able to get approval, and workforce, community and political support for a doubling of output. We see these goodwill factors and capacities as being intangible, but without them they would miss out on opportunities for substantial value creation.
RT, Axa IM Human capital is another factor in value creation. Theres a talent shortage in China and India and there are big movements of individuals, which is threatening the value provided by companies that have been selected for outsourcing contracts. There are already questions about whether outsourcing is a phantom part of the GDP. As those things coalesce, human capital is going to move quite quickly from being an "intangible" into being very important. The fact that all major consultancies are gearing up to offer human capital management services is a good indicator.
PM, ICMM Weve suggested companies can get away with things in emerging markets. They cant. Its all over the internet so quickly.
JW, HSBC But if you are an international company with shareholders and customers elsewhere demanding good practice, youre under those constraints. You watch what the medias saying. But if you are a large domestic, tightly held company without those constraints, you are less concerned, because you dont have to worry about your licence to operate and your brand. That second tier of players has an ability to undermine the progress of the top tier. So its in all of our interests to expand membership of bodies like the ICMM.
RK, IFC Theres particular attention paid to the mining industry because of its huge footprint, rising prices and the increase in resources. Consolidation means most exploration is done by the smaller players. In the Democratic Republic of the Congo some very small privately held mining companies are doing the dirty work. Then once the asset is there the big guy buys it up.
MB, Asria The traditional socially responsible investment community does a lot of the heavy lifting on defining issues, talking about standards and putting money behind it. However, they dont have the resources to evaluate mid-cap emerging market exposures where the cost of research is high. Many of the tools they use are not a great fit for the disclosure capacity of emerging markets. This isnt good research to do long-distance. Those companies dont respond well to a questionnaire. One leapfrogging opportunity would be to say: "Is there someone on the board of directors who is responsible for the following issues? If not, why not? What do you pay for electricity? What do you pay for water?" Shorten the list of questions and get focused. Lets ask asset managers and large pension funds: "Do you watch these issues?"
NP, Rexiter A majority of emerging market companies are still family-owned. The companies that are the biggest or best in their countries and then going international are anecdotally better at doing this. But if you talk to mid-cap-sized companies that are private, many dont get this yet. In Brazil, Bovespa introduced the Novo Mercado, which is for pure corporate, 100% voting shares listing. I have talked with company owners about the trade-off involved in surrendering dual-class shares in order to turn them all into voting shares the theory being that thereby the overall wealth and value creation of the company will be higher, because the market will likely give you a higher multiple. Theyre not convinced, and thats analogous to their thinking about ESG. Theres a perception that "this is expensive and time-consuming. None of my shareholders is asking me to do this" because theyre not subject to that international discipline. But Companhia Vale do Rio Doce is now one of the worlds biggest mining companies. Everyone watches every single project it does.
MB, Asria Korea is another interesting market. For family-held companies, the ability to pass on your ownership stake to the next generation raises issues of governance. Korean regulators take a different view than 20 years ago, as do lenders. In emerging markets we have a higher mix of government-controlled companies that are listed entities, with the government often controlling 80% to 90% of the outstanding shares. This turns the shareholder engagement model on its head. A second factor is the dominance of family-controlled companies, many of which have had tight historical relationships with lenders. But when you see the issue of reputation emerge, they need to be seen as legitimate enterprises. Often when wealth is created in a prominent family-controlled company, the sensitive point comes when that company tries to transfer ownership to the next generation.
NP, Rexiter Im optimistic about Brazil. Its easier when youre listing a new company or you have a natural transition point. Changing the dyed-in-the-wool attitude is more difficult. Korea and Brazil are improving. The first thing I look at with new Brazilian listings is whether they are on Novo Mercado. If not, why not? I have these arguments with company heads, and they rightly say: "Its my familys company, and has been for 70 years. Why should I surrender control?"
MB, Asria Some Korean companies are reaching that point and moving on to form a holding company structure and clarifying cross-holdings. In Korea the important dynamic is almost entirely domestic. Its not being driven by foreigners.
RK, IFC There is a possibility for emerging markets to leap to value creation without going through this process of reputational risk, business risk. There may be opportunities for creative destruction or for leapfrogging in emerging markets that havent been part of the story in the developed world. Providing financial and other services to the next billion or the bottom of the pyramid seems to be one of them. But what opportunities are there for asset managers, banks and other financial institutions to create value in the emerging markets, to create new products with an ESG slant?
MB, Innovest Emerging markets have problems because there is so much inherent risk. Solving those problems is where the opportunity lies. In analysing emerging market companies, we need to ask: "What do they do for a living? And is that sustainable? Will that fit in with what that countrys trajectory will have to be if its going to be a stable, sustainable, investment opportunity?" Solving these problems involves improving the resource base, improving the ability to value national capital, reducing pollution, solving climate change and increasing energy efficiency. There are plenty of opportunities there.MB, Asria The opportunity side in Asia is very strong, and there will be innovation. We dont have the regulatory or legal performance around environmental, social and governance issues that establishes a price against which markets work. There is also a structural under-insurance. Insurance helps set a price, but thats not a big driver in Asia as yet. However, a number of large Asian companies and some prominent mid-size companies are investing in the renewable sector and other solutions businesses, and that will create a constituency for economics. Were not yet seeing predictable economics for renewables, but people are saying: "This is going to happen. I want to be there. I can influence the regulatory and market structures that will make this a profitable activity."
That will catalyse the process. Asian companies are moving outside their home country or home region, and as they do they borrow best practice from other sectors. Some large companies are looking around for models of how to manage regulatory risk and how to get other constituencies on board so that they can leapfrog market structures.
PM, ICMM Relevant ESG factors vary substantially. Some 13% of the worlds energy is provided by renewables. Some of that is cost-effective, and has been for a long time. Some emerging renewables are not cost-effective. The future cost of carbon depends on our knowledge of the climate system and on forecasting changes, but there are uncertainties in predicting both of these. We need regulatory frameworks that respond flexibly as knowledge emerges, because regulatory responses get to determine the price of carbon.
MB, Asria I am cautious about saying that we need or must have regulatory responses. The investment community is debating how these issues are going to emerge. Are we going to have a series of price-mediated changes? Will the regulatory response have greater clarity? Will we see more costs internalized? Will markets adjust and all economic players continue smoothly?
PM, ICMM Even though markets are not perfect, we need clear price signals to achieve change and sensible adaptation. We are going to make errors, but this is not surprising when information is uncertain and markets are imperfect.
JW, HSBC Climate change is going to be a global mega trend. Add to that water, waste and contamination, ecosystem resources and poverty alleviation. Focusing on climate change, in Europe weve got an emissions trading scheme. Regulation is increasing to force down carbon emissions over a 50-year view. The science is as close to certain as youll get. A political consensus is growing around the need for regulation on climate change. Eventually the regulatory drivers will force a replacement of energy infrastructure that is much lower-carbon. That is a huge opportunity if you can pick the winners.
RT, Axa IM In 2006, socially responsible investment money was estimated to be 0.1% of all money invested in emerging markets. Most of this is in Asia, some in South Africa, and little elsewhere. But when you look at global hedge funds, its very different. Even if you take Asia alone, it makes up 9% of global hedge fund assets. Linking these investment vehicles or approaches ie, socially responsible investment and hedge funds might be a big step forward. Some hedge funds are very interested in the extra financials, particularly in corporate governance and eco-efficiency data.
In a fast-growth emerging economy the shift is different. Its about energy security and energy price, particularly in those economies dependent on imported energy. If China meets a target of 15% by 2020 from renewables, thats 170,000 wind turbines. So I want to be in the wind turbine manufacturing business if I can. Another trend is poverty alleviation. Apart from the moral issue of dealing with 50% of the worlds population that are poor, if youre going to maintain globalization and integration, youve got to share the economic benefits and give people access to capital and to asset ownership. Microfinance can play a key role, as can banks that are prepared to be involved in this sector. The potential market is huge over 3 billion people underserved and relatively low risk. So there are huge opportunities for those who can spot the trends and work out which countries are going to move quickly with which technologies.
WVDB, Aavishkaar Goodwell Although only about 10% of the potential market in microfinance is being served, theres massive competition on the funding side. Most financiers of microfinance are chasing the same deals. A huge supply of money goes into a pyramid-shaped market that has a huge base but only the top receives funding. That is one of the big challenges in capturing those opportunities. There is also a value chain issue for the finance sector. The people that provide the money with the mission are risk-averse. That used to be the case in renewable energy too, but we have resolved that bottleneck.
JW, HSBC The least profitable relationships for a bank are those where you lead on debt and thats all you do. Treating microfinance institutions like any other client, its all about understanding their wider needs and trying to meet them. Foreign exchange, hedging, access to capital markets, basic banking technology and remittances. The risk profile of a microfinance borrower is typically good, so thinking about a risk-adjusted return, why shouldnt that be a single-A investment-grade basket of receivables? You need the metrics to get there and the rating agencies to rate it. If the development banks would move their money downstream to the risks that the private sector today wont take, the private sector will come in and expand.
WVDB, Aavishkaar Goodwell That combination of public and private money is so important in capturing opportunities. A lot of private money wouldnt be there if public money wasnt. Its essential to look at it as a public/private partnership that finds solutions. Weve created a system that looks at mega trends, climate change and poverty, but in India its daily reality. The cost of energy to people there is significant, as is the cost of funding; while a subject like poverty alleviation is a concept that weve constructed ourselves. The challenge and opportunity is in finding those mechanisms that address multiple problems and have the largest impact on those single counts, and connect that to wherever the funding comes from.
JW, HSBC Theres a tendency to think about mega trends in silos, whereas you cant deal with one without dealing with the other. Why shouldnt microfinance be a rational response to those who are vulnerable to climate change? If a climate event destroys assets where theres no insurance, access to capital helps people rebuild. The power of individuals rebuilding, because theyve got an economic interest in doing so and some support, is far better than handing out aid and walking away. I dont decry aid. It has a valuable role, but you need to build on it.
RK, IFC An increasingly large amount of asset owners, public and private pension funds, have some sustainability value attached to them. In some cases, the statements of what constitutes fiduciary responsibility by these asset owners include sustainability of the world in which their beneficiaries will live and work. This is a global trend. More such capital captive in the developed world needs to be released in the emerging markets, but isnt finding where it needs to go. What other tools do we need to make the connection?
PM, ICMM Companies need to demonstrate diagnostic understanding and communicate to investors what that means and how its being managed and monitored. Although there is no doubt about human-induced climate change, there is uncertainty about the specific climatic changes that will occur and the resulting environmental impacts. Weve got to model the worlds climate and then model the impact of changes, which humanity has never done before. Companies need to explain how theyre responding to climate change and how theyre monitoring key variables. What does it mean for energy security? Thats the other side of the equation: what are the effects of climate change policies on energy security? We need to remember the 2 billion people who dont have energy. So the issue is energy efficiency in the short term, perhaps more than new energy sources, because this uses available technologies and saving energy is in everyones interest.
JW, HSBC You could put climate change to one side. Why wouldnt you want the same economic growth for less energy. Why wouldnt a company, a country, a government, want the same GDP for fewer kilowatt hours, ie, spend less money generating that economic growth? Why wouldnt a country want a lower dependency on any one energy source? Thats good risk management. But climate change is forcing companies to do what we should have done 30, 50 years ago.
MB, Innovest The Economist recently showed that it makes perfect economic sense to eliminate over five gigatonnes of carbon emissions, nearly two-thirds of what is needed to stabilize greenhouse gas emissions, through lighting efficiency and energy efficiency and insulation. Were making bad economic choices, and if climate change was not a problem we should do that anyway, because were losing money through inefficiency. Ive observed the science of climate change for 10 years and the picture gets worse every year. Climate change regulation is 10 years behind what it should be. As a result, we are seeing an accelerated pace in new climate-related regulations that are beginning to change the way markets view company prospects across the economic spectrum.
WVDB, Aavishkaar Goodwell The opportunity with climate change is that you can leapfrog a lot of developments in energy efficiency or in renewable energy. Lighting efficiency in India is an issue and theyre ready to look at alternatives to their incandescent light bulbs. Compact fluorescent lights are commonplace in developed markets, but that will be a huge chemical problem in the future. India might leapfrog directly into LED lighting technology.
MB, Innovest We could stabilize CO2 emissions from an economic standpoint without any cost. In fact it would be a benefit. We could put some of that savings into financing renewables and things that require still more investment.
NP, Rexiter If that is the case, why arent we seeing it? Is the pricing signal of energy wrong?
PM, ICMM China is building two coal-fired power stations a week, and the International Energy Agency says coal is going to be the worlds major energy source for the medium term at least. But the market is not responding well to the fact that there is likely to be a greater cost of carbon. The most important short-term response should be a focus on energy efficiency, particularly removing subsidies that encourage energy consumption. Effective price signals are the most effective means of bringing about these sorts of changes.
RT, Axa IM Perhaps we should be talking about carbon trading as the past and carbon taxes as the future? If we cant get the carbon trading mechanism to work, taxes will be needed. You see a significant growth, albeit from a very low level, of Chinese investment in environmental protection, and its affecting the price of utility companies. Perhaps we will make more money from shorting renewable companies that have bad business models and weak management than from shorting a dirty company. These are some of the ways these issues will enter the mainstream.
RK, IFC Over the next 10 years the decisions we make about power and infrastructure for the world and the built environment are going to lock us in for generations. Are we miraculously going to innovate ourselves out of this, and in time? We, the global development community, have been talking for 15 years about market-based solutions, ecosystems payment services and those still havent come to fruition on a commercial scale. Are there any impulses in sustainable investing that will drive this, or is sustainable investing captive to bad regulation and bad governance and the failure of the G8?
JW, HSBC In Europe, the regulatory framework around water has been driving investment in upgrading water infrastructure. That could be extended into things like forestry. The procurement of illegal timber within the EU continues. Theres no regulatory framework to stop it. When theres a regulatory framework that enables people to move with certainty on these issues, investment will flow into it.
MB, Asria In a number of these sectors, the traditional corporate players are themselves not long-term investors. Many companies in the Asian timber sector are privately held. The principals are in their 60s and 70s and are disinvesting. It can be difficult to differentiate between those companies making long-term investments with corporate assets and those that are not. Some best-practice leaders are moving into water and other newer sectors. Other significant Asian companies will move in because theyre willing to take on the burden of medium-term to long-term investment. Indeed, some of them have had better success in encouraging regulatory performance than the incumbents. Conventional investors are likely to struggle, because its paid well in Asia to just buy the traditional sector leaders. Some regulatory models may still be regulatory-light but the opportunity now is big for companies that have a different view of how the marketplace will work.
RK, IFC Every small-scale producer has the same problems. There are costs that come with verification, with auditors, and you dont get any of the upside. The opportunity for the financial sector is to understand that if the global supply chain puts a premium on a certain type of performance, thats a sustainable business and business model.
JW, HSBC But as well as a price premium, they look at more contractual certainty, so rather than looking at it as a commodity, thinking about it as a long-term contract. A long-term contract with a known price lends itself to capital market securitization. It has worked in a range of sectors. Why couldnt it be applied to the long-term sustainable supply of clothing, timber or coffee?
WVDB, Aavishkaar Goodwell We build sustainable supply chains in India connecting small-scale producers to retail chains. The difficulty is that, even with a reputable bank, its still difficult for those producers to get access to credit lines. So there is still a need to hedge risks. What we see as an opportunity and others see as a problem is that if youre coming with small-scale equity to hedge that risk for the banks, then you have a model that is scaleable.
JW, HSBC We have been doing vendor financing for over 10 years. Its one of the most secure types of trade finance you can do, if you recognize that at the top end theres an investment-grade buyer. Why wouldnt you let that capital flow down to the end of that value chain?
MB, Innovest Looking at the evolution of ESG analysis, the focus in the 1990s was eco-efficiency of production and those things led to life-cycle assessment, which now leads us to the supply chain. Everyones looking at this enormous supply chain problem, and nobody knows how to deal with it. Thats a huge opportunity for whoever can develop the business model without excessive operating costs. Emerging markets companies, if theyre domestic, tend to be insular. Theyre not in the habit of developing external stakeholder relationships that allow new thinking to come in, because along with that comes criticism and other problems. The opportunity lies in finding companies that see this as a chance to use what they have locally, which is small, resource-based, in a growing economy, and see that if they validate what they do from an ESG standpoint, they can get access to capital and developed markets more successfully.
RK, IFC We at IFC see amazing companies every day building business models based on those opportunities, in tune with the future dynamic of the market. But they are unknown to the resources in the developed world that would love to invest in them. Theres this dearth of research, presumably because nobodys shouting for it.
RT, Axa IM The SRI industry has been based on a business model that has tried to identify best-in-class companies, using as many criteria as possible, with indicators and processes that can be easily defended. That creates a structural bias towards European large-cap companies that do a lot of CSR reporting. You cant blame the research providers for producing what clients pay for. So we, the buy-side clients and the asset owners, need to shift what we look for and create new types of partnerships.
WVDB, Aavishkaar Goodwell Unlike investing in developed markets, the value chain is longer from the financial services perspective. The distance between your pension client and the small producer is not only geographically farther but also mentally longer, and that means you have to intermediate more. You can produce beautiful research about companies in India and Brazil but there are still obstacles to making an investment in those companies.
NP, Rexiter This wonderful little entrepreneurial company needs to get its bank finance to grow. Then it will need private equity injection, and then by the time it comes to the market in the form of an IPO were four or five stages on. And it still might be too illiquid for portfolio investors like myself to initially buy. It takes longer to get brand-new entrepreneurial opportunities out onto the public market. But that is coming as the capital markets develop.
WVDB, Aavishkaar Goodwell Its not only a capital market issue. You cant simply assume that if you make an investment that the ecosystem around that company is there. Its not just about providing a loan to a microfinance institution and feeling satisfied that that institution lends it to poor women and that you can produce beautiful pictures in your ESG report. Its also about making it possible for that microfinance institution to function properly, which is a concern when you make an investment.
JW, HSBC With globalization anything you buy has probably touched a dozen countries on its way to you, and the power of the supply chain is underleveraged. Im cynical. I dont believe that consumers go into their DIY stores demanding sustainable wood. Companies set trends, not necessarily individuals. The more that large companies are underwriting the supply chains of much smaller companies, that cant necessarily manage these issues, the better.
NP, Rexiter Everyones getting excited about biofuel and ethanol, and youd think this would be a fantastic opportunity for a country such as Brazil or Argentina, with large plantable land. Yet theres no global standard for ethanol, and the US has a 54-cent tariff on ethanol to protect its own market, even though you can manufacture it for half the cost at twice the productivity in Brazil. And Brazils sugar cane is dying for a market that could be global. There are so many obstacles, and theres no infrastructure there yet to export it. Yet the capital is itching to get in. It needs these barriers to be dismantled. Youd have a whole industry that areas of South America or other developing countries with advantageous planting could take economic advantage of.
PM, ICMM There is a risk here because the problem is not insufficient energy resources, including oil. For instance, we could encourage greater production of biofuels but this market could quite easily be undercut by Opec countries producing more oil and there would be an incentive for them to do this as it would protect their markets. The message is that all energy sources should be properly priced, including a cost for carbon, but not subsidized.MB, Asria The IFC acted as a private equity investor with an Asian listed company, Olam, which started providing a certified supply chain in primary foodstuffs to multinationals. I believe they are now Wal-Marts largest supplier of certified organic cotton. Were seeing more of these global supply chain companies in Asia. The business models are beginning to thrive.
Many of the biggest pension funds globally are moving their asset allocation away from conventionally managed, long-oriented equity and towards private equity and alternatives. That is pushing them to look at carbon funds, renewable funds, property and a range of new asset types. People who have expertise in these areas can help them make better decisions. Some of the funds dont yet have the fund governance they need and thats why the principles of responsible investment are important. Large asset owners must understand that, while private equity is a great thing, you dont just want the person who is in there investing at the final stage pre-IPO. Its the long-term investment thats needed.
JW, HSBC But you also need a structure to aggregate some of these asset classes. If you can package up a whole series of sustainable commodity supply chains into an eco-securitization-type product, it then needs the asset owner to commit capital to that in preference to something else, and for the rating agencies to assure the fact that these ESG factors are being met, for the life of that bond.