The framework for Responsible Investing uses the acronym ‘ESG’ (Environment, Social, Governance) in helping to explain the process by which a portfolio is constructed and how investments are measured to a set of criteria and values. In today's blog entry, after defining the terms involved, the consequences of not integrating the social factor into investing is highlighted in the conclusion.

ESG - A primer

The ‘E’ (environmental) factors that are considered generally revolve around sustainability, climate change mitigation, pollution and water utilization. There are of course, far-ranging implications for not investing in companies that take into account their environmental impact for all of us. Whether it be their carbon footprint, or use of precious freshwater resources, the effect can be far-ranging in the local and global community in which they operate.

The ‘S’ (social) factors have only recently come to the forefront as powerful levers of change. I have had conversations with people who are not yet clients that express surprise to me in learning that their current advisor discounts the social factor in building out their investment strategy. While skeptics may say that the ‘S’ factor is “hard to grasp” and “difficult to quantify”, the risks of not at least attempting to dig below the surface on a particular investment are not.

The ‘G’ (governance) factors I have often describes as the “glue” that holds the ‘E’ and ‘S’ factors together. It is also the lever that shareholders can pull when looking to affect change at the boardroom level through proxy voting. Changes to board composition, accountability, and executive compensation all are at the governance level. Holding a company to account on their anti-corruption stance and ensuring the right checks and controls are in place serve to manage the risk of investing in a company that could one day make front-page news for all the wrong reasons.

Investing through the 'S' lens

Look no further than the events of the recent past to find examples of how the ‘S’ factor can affect change in an organization or publicly-listed company – and the risks associated with companies that fail to respond to shareholders addressing these issues.

Whether it is in certifying that a company’s supply chain is free of child labour or that a company is a good corporate citizen within the communities they operate in are some of the criteria up for consideration. However, against the background of the current pandemic, the health and safety of workers, be it due to the lack of personal protective equipment (PPE) in the workplace, inadequate training, or not accounting for the increased risk workers face in carrying out their duties, is front and centre. Indeed, in the course of the past several months, we have seen how essential businesses (and their essential workers) are the foundation for keeping our food chain functional, financial institutions operational, and hospitals safe enough to care for the sick and heal the wounded.

We will not soon forget how our communities have responded to the crisis, but will we remember how companies behaved? Did they implement measures in their business continuity plan to help workers adapt to the work from home reality many of us currently know? Were companies able to prevent price gouging on their product or services? Did they invest in the PPE and training necessary to keep workers and customers safe? These are all questions we did not fathom at the beginning of the year, but they all point to the importance of integrating the ‘S’ in your investment portfolio.