How a business manages financial and nonfinancial risks has become an increasingly important factor in the decisions made by institutional investors, and an organization’s environmental, social and governance (ESG) practices provide a vital metric for investment dollars.
Over the 12 months through January 2020, ESG equity funds took in $70 billion in assets, while traditional equity funds experienced nearly $200 billion in outflows, industry analysis has found. Meanwhile, as the first three months of 2020 handed Wall Street its worst quarter since 2008, ESG funds bucked this trend: 44 percent of “sustainable” mutual funds posted top-quartile returns while only 11 percent landed in the bottom quartile of their peers. This may indicate that investing in companies with a strong ESG framework isn’t just a feel-good measure: they may perform better.
“There are more than 2,000 studies that show that companies with strong ESG practices – meaning that companies identify, address and mitigate these risks successfully – produce better corporate financial performance,” says Meredith Jones, partner and global ESG practice lead at Aon. “Looking at historic bankruptcy and stock volatility data, there is also strong evidence that those firms may also be more resilient.”
As a result, the global outbreak of the novel coronavirus (COVID-19) isn’t likely to decrease investors’ focus on ESG practices and outcomes. If anything, Jones adds, ESG issues that leapt to the fore during the pandemic may heighten investor scrutiny.
“A resilient business understands that ESG issues and the operating environment are dynamic and changing: it watches and adapts accordingly,” observes Greg Lowe, global head of sustainability and resilience at Aon. “COVID-19 is teaching us that no matter how foreseeable a risk may be, the impact an event has on society and business hinges on our ability to plan for significant disruption and changes in the operating environment.”
ESG investing involves looking at nonfinancial information associated with an investment to identify potential risks and rewards associated with how the company deals with environmental, social, and governance issues.
“ESG began as a way of accounting for risks that were not typically measured or disclosed, but has emerged more as ‘pre-financial’ risks in the operating environment,” says Lowe.
As interest in ESG grows, many misperceptions remain.
MYTH #1: THERE’S ONE TRIED AND TRUE “RECIPE” FOR ESG
Counter to this misperception; an ESG strategy isn’t something that can be replicated from peers.
“I think that’s a significant struggle for companies of all sizes,” notes Laura Wanlass, partner and global head of corporate governance at Aon.“They’re having a hard time figuring out what ESG means, and they want a simple checklist to follow. But it’s about determining what issues are material for your own company and industry, and that can look very different from company to company.”
Some companies – especially small to mid-level enterprises that may not have dedicated investor relations teams may take a piecemeal approach, relying on templates such as sample disclosures for proxy filings. “We’re at a tipping point where ESG is becoming more mainstream,” says Jones. “But there’s still a knowledge gap. Board members and executives are learning as they go along. The lack of standardization among investors and data providers in this still-growing area doesn’t help. Many firms are just now starting to embrace the value of setting a strategy.”
MYTH #2: IN TIMES OF CRISIS, ESG SHOULD TAKE A BACK SEAT TO PROFITABILITY
According to this school of thought, when the financial chips are down, companies and shareholders care only about profitability. “I think that’s an unlikely scenario,” says Jones. “Crises like COVID-19 highlight where these nonfinancial risks exist within companies and how damaging they can be to the bottom line.”
Public companies may find that their human-capital decisions in response to COVID-19 have an impact on the way shareholders vote and engage. “In the last economic downturn, shareholder activists used compensation, governance, and human-capital decisions as ways to win board seats or bring about corporate change,” notes Wanlass. “So, ESG becomes increasingly important in any type of downturn.”
MYTH #3: ESG IS REALLY ABOUT THE “E.”
Companies have gotten comfortable with governance – the “G” – says Wanlass. Increasingly, the environmental “E” in ESG is what gets a lot of press and shareholder attention – particularly in the face of growing concern about climate change. Larry Fink, CEO of investment giant BlackRock, this year indicated that the firm has put sustainability and climate change at the heart of its investment activities.
As companies deal with COVID-19, however, the social considerations of ESG – the “S” – come to the fore.
How companies deal with employees, engage with customers, and manage supply chains are all areas that fall under ESG, according to Jones. For example, the COVID-19 outbreak underscored the value of having a robust remote-working infrastructure, including strong networks and cybersecurity practices, in place when the crisis hit. For companies that had to develop those capabilities on the fly, this lack of ESG planning proved problematic.
In addition, companies with sound employee sick-leave policies were better positioned to deal with COVID-19 than companies that scrambled to develop policies to respond to the pandemic. And nonessential businesses that refused to close or stagger shifts to reduce employee exposure, or failed to provide additional cleaning or protective equipment, all fell short of the mark on social issues, Jones points out. “From a deliverable standpoint, not to mention negative PR, that can cause a lot of revenue pain.”
MYTH #4: ESG IS ABOUT BEING A “NICE COMPANY”
“It’s important to distinguish between the things that can have a real positive – or negative – impact on your business and the things that just make you look like a ‘nice’ corporation,” says Jones.
As important as charitable activity and volunteerism might be, that work isn’t necessarily focused on mitigating business risks, she says. For example, employees reading to disadvantaged students to increase literacy is a worthy cause. But for a company facing challenges with diversity in its workforce, ESG activities with a potentially greater impact might include building recruitment relationships with women and minority students in high schools and colleges, establishing a ”Rooney Rule” for hiring and promotions or building a more inclusive corporate culture.
MYTH #5: ESG BRINGS VALUE ONLY TO SHAREHOLDERS
ESG practices can yield stronger company performance. But shareholders aren’t the only benefactors.
“There are many reasons to focus on ESG that go beyond shareholders,” posits Jones. “It’s about creating a sustainable and resilient business over time that takes into consideration risks not easily identified in a spreadsheet, so employees have jobs and customers get products and services. Done well, ESG creates a virtuous cycle for all stakeholders of a firm.”
What’s more, sustainable companies are where people want to work.
“The market for top talent will always be competitive, perhaps even more so now as companies look to create their workforce of the future,” says Jim Hoff, senior partner, strategic communication advisory at Aon. “Effective and visible ESG practices are increasingly important to an employer’s brand. The best people seek out employers with demonstrated resilience and sustainability as key components of the employment value proposition.”
“Studies have shown that companies with strong ESG practices can minimize employee turnover and maximize productivity,” adds Wanlass.
COVID-19 WILL UNDERSCORE ESG’S VALUE
The COVID-19 pandemic has cast ESG practices into the spotlight. Companies will be able to examine how the crisis affected them, see where they responded well and where they fell short, and identify opportunities to enhance ESG practices going forward.
“People will pay attention to how businesses manage risks associated with human capital, communities, and the environment because ESG isn’t just a three-letter buzzword: it’s about resilience and sustainability,” says Jones. “So companies should be prepared for investors to encourage ESG best practice with their dollars and their feet, as well as with the proxy votes going forward.”
“Risks can be very abrupt, like the COVID-19 pandemic,” Jones continues, “or they can be longer-term, like the potential for climate change to disrupt business. Either way, the most resilient and sustainable businesses think about those risks and manage them before they cause revenue or reputational losses.”
The post Why ESG Is Even More Important In A Crisis Like COVID-19 appeared first on The One Brief.
 The ESG revolution is widening gaps between winners and losers, Financial Times, February 3, 2020
 Sustainable Funds Weather the First Quarter Better Than Conventional Funds, Morningstar, April 3, 2020
 Does ESG Investing Produce Better Stock Returns?, The Motley Fool, May 22, 2019
 BlackRock CEO says sustainability is the ‘top issue’ for investors—here’s what that means for your money, CNBC, January 14, 2020
 How Cyber Criminals Are Taking Advantage Of COVID-19, The One Brief, April 22, 2020
 What is the Rooney Rule? Explaining the NFL's Diversity Policy for Hiring Coaches, Sports Illustrated, December 31, 2018
Legal Disclosures and Disclaimers
PLEASE NOTE: The information being provided in links throughout this article are strictly as a courtesy. When you link to any of the websites provided here, you are leaving this website. We make no representation as to the completeness or accuracy of information provided at these websites. Nor are we liable for any direct or indirect technical or system issues or any consequences arising out of your access to or your use of third-party technologies, websites, information and programs made available through this website. When you access one of these websites, you are leaving our website and assume total responsibility and risk for your use of the websites you are linking to. When clicking this link, you are leaving Aon’s website and entering a third-party website. This third-party website is not affiliated with, sponsored by, or endorsed by Aon or its affiliates.
The opinions referenced are as of the date of publication and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Information contained herein is for informational purposes only and should not be considered investment advice.
This document has been produced by Aon’s Global Asset Allocation Team, a division of Aon plc and is appropriate solely for institutional investors. Nothing in this document should be treated as an authoritative statement of the law on any particular aspect or in any specific case. It should not be taken as financial advice and action should not be taken as a result of this document alone. Consultants will be pleased to answer questions on its contents but cannot give individual financial advice. Individuals are recommended to seek independent financial advice in respect of their own personal circumstances. The information and opinions contained herein is given as of the date hereof and does not purport to give information as of any other date and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Information contained herein is for informational purposes only and should not be considered investment advice. The delivery at any time shall not, under any circumstances, create any implication that there has been a change in the information set forth herein since the date hereof or any obligation to update or provide amendments hereto. The information contained herein is derived from proprietary and non-proprietary sources deemed by Aon to be reliable and are not necessarily all inclusive. Aon does not guarantee the accuracy or completeness of this information and cannot be held accountable for inaccurate data provided by third parties. Reliance upon information in this material is at the sole discretion of the reader.
This document does not constitute an offer of securities or solicitation of any kind and may not be treated as such, i) in any jurisdiction where such an offer or solicitation is against the law; ii) to anyone to whom it is unlawful to make such an offer or solicitation; or iii) if the person making the offer or solicitation is not qualified to do so. If you are unsure as to whether the investment products and services described within this document are suitable for you, we strongly recommend that you seek professional advice from a financial adviser registered in the jurisdiction in which you reside. We have not considered the suitability and/or appropriateness of any investment you may wish to make with us. It is your responsibility to be aware of and to observe all applicable laws and regulations of any relevant jurisdiction, including the one in which you reside.
Aon Hewitt Limited is authorized and regulated by the Financial Conduct Authority. Registered in England & Wales No. 4396810. When distributed in the US, Aon Investments USA Inc. (“Aon Investments”) is a registered investment adviser with the Securities and Exchange Commission (“SEC”). Aon Investments is a wholly owned, indirect subsidiary of Aon plc. In Canada, Aon Hewitt Inc. and Aon Investments Canada Inc. are indirect subsidiaries of Aon plc, a public company trading on the NYSE. Investment advice to Canadian investors is provided through Aon Investments Canada Inc., a portfolio manager, investment fund manager and exempt market dealer registered under applicable Canadian securities laws. Regional distribution and contact information is provided below. Contact your local Aon representative for contact information relevant to your local country if not included below.
Aon plc/Aon Hewitt Limited
The Aon Center
The Leadenhall Building
122 Leadenhall Street
Aon Investments USA Inc.
200 E. Randolph Street
Chicago, IL 60601
Aon Hewitt Inc./ Aon Investments Canada Inc.
20 Bay Street, Suite 2300
Copyright © 2020 Aon plc
A PDF of the article is available for download below.