IFC Advisory Services in Environmental and Social Sustainability Who Cares Wins, 2004–08 ISSUE BRIEF In partnership with the UN Global Compact and Switzerland, with grant funding from Italy, Luxembourg, the Netherlands, and Norway Introduction To support the growth of sustainable capital flows, improve integration of ESG into the investment decision IFC advisory services seek to influence, support, and making. Each event considered a particular element enable capital market stakeholders to better integrate of ESG mainstreaming, from the interface between environmental, social, and governance (ESG) factors into investors and companies to the particular role of capital allocation and portfolio management processes, ESG issues in emerging markets investment. These using IFC’s own investment practices as a model. IFC is are discussed in more detail in the respective reports playing its part to support the growth of the market published after each event. In concluding four years of by funding the development of enhanced stock market consultations with the industry, the final report proposes indices, financial instruments, and through targeted actions for further ESG integration – scaling up current market research. know-how in order to attain widespread integration of ESG issues into financial markets. Who Cares Wins (WCW) was initiated by the UN Secretary General and UN Global Compact in 2004 in collaboration Publications of the Who Cares Wins Initiative: with the Swiss government. The initiative was endorsed by 23 financial institutions collectively representing more • 2004 – Connecting Financial Markets to a than US$6 trillion in assets. IFC and the World Bank Group Changing World were among the endorsing institutions. • 2005 – Investing for Long-Term Value • 2006 – Communicating ESG Value Drivers and the From 2004 to 2008, the UN Global Compact, IFC, and Company-Investor Interface the Swiss government sponsored a series of closed-door/ • 2007 – New Frontiers in Emerging Markets Investment invitation-only events for investment professionals, • 2008 – Future Proof? Embedding ESG issues in providing a platform for asset managers and investment Investment Markets researchers to engage with institutional asset owners, companies and other private and public actors on ESG These reports can be downloaded in full from IFC’s issues. The initiative aimed to increase the industry’s website. This summary version abridges the strategic understanding of ESG risks and opportunities, and to outcomes of the WCW initiative. EXECUTIVE SUMMARY The past years can be described as a period of intense experimentation The WCW consultations looked in-depth at the relationships of key and learning regarding the relevance of ESG issues for investments actors, honing in on the interaction between asset owners (pension and their integration into investment decisions. The industry funds and other institutional investors), asset managers, investment has progressed considerably since 2004; it is today a commonly researchers, and regulators. The final report Future Proof? Embedding accepted fact that ESG issues can have a financial impact on single Environmental, Social and Governance Issues in Investment Markets companies or entire sectors. The industry has also become more offers a set of key recommendations for each of the actors in order sophisticated in understanding when and where this impact is to improve and scale up ESG integration considerably. relevant. Leading analysts have developed the necessary techniques to integrate ESG issues into financial analysis – proving that ESG The dynamic nature of the financial industry means that each actor integration is absolutely within the reach of the analyst profession. is highly dependent on other actors. It also means that changes in the behavior of key actors, such as the asset owners at the top of the However this know-how is not yet widely applied in the industry. chain, can rapidly unblock stalled situations and move the system Given the role of investors in assessing future economic developments to a new equilibrium. and the potential for many ESG issues to change significantly the course of our economies,1 this lack of uptake is surprising. In the coming years, the financial industry has the opportunity to reap the gains of the good work done so far by applying it more widely To understand better the impediments to a wider uptake of ESG to mainstream investment processes. If the industry does not seize this information by the financial industry, a systemic view is needed. opportunity, it risks failing to account for important developments 1. Climate change and its policy response being one example. 2 Who Cares Wins, 2004–08 that are shaping the future of our economies. This in turn could create In the future, asset managers must provide a greater degree of systemic risks for the financial industry and the economy at large. transparency towards research providers and company management The positive message is that ESG integration currently represents an on the use of ESG data, and towards asset owners and consultants in important source of competitive differentiation and value creation for terms of the objectives of their ESG-inclusive investment products financial institutions that make it part of their strategy. and services. Further progress in asset management will also require clearer incentives for employees involved in ESG integration. However, the next phase of ESG integration will require the leadership of the CEOs and CIOs of financial institutions and implementation A big step forward has been made in the past years by academics at all levels of their organizations, or it will not happen. Employees and investment researchers in developing the analytical frameworks working on ESG integration must be given appropriate incentives, and demonstrating the rationale for ESG integration in investment different actors must agree on ways to share the costs and benefits research. Although the actual coverage of ESG by mainstream of developing new ESG-inclusive services, and institutions’ strategies investment research has improved (from a low base), coverage need to be communicated better to the market at large. remains patchy and is generally driven by specialist teams rather than by mainstream analysts. The key challenges ahead for researchers are insufficient incentive systems, the high cost of building teams and tools, and the lack of comparable company data on ESG issues. PROGRESS IN ESG INTEGRATION The level of awareness of ESG issues among mainstream professionals Leading companies have advanced greatly in making ESG issues has greatly improved since the launch of WCW, with new collaborative part of their strategy (arguably more rapidly than investors), and have initiatives such as the Principles for Responsible Investment (PRI) shown that they are willing to engage in a sophisticated dialogue with facilitating the adoption of best practices. The development phase, investors on financially-material ESG issues. Figure 1 illustrates the characterized by experimentation and innovation in many areas, is ESG issues that investors raised most frequently to emerging market now drawing to a close, leaving those institutions that have made a companies. Nonetheless, the production of ESG data that are robust firm institutional commitment to the space with a springboard for and comparable, and the integration of the most material issues into scaling up ESG integration. investor relations communications remain areas of concern. However, progress has not been uniform – ESG issues have not Figure 1. Emerging Market Companies Describe been taken up by investors to equal extents. Nor have the various the Issues that Investors Raise Most Frequently actors in the investment system moved forward in unison. Environmental: Asset owners (e.g., pension funds, insurance companies) at the head Environmental performance of the chain have certainly improved their awareness of ESG issues, Governance: Disclosure/transparency but their implementation efforts – investing in an ESG-inclusive Social: Labour manner – have been disappointing. In contrast, active ownership standards activities, including the exercise of voting rights and engagement Social: Safety and health benefits of products with companies, have made good progress since 2004. Governance: Independence among directors Likewise, the leading consultants have invested in researching Social: Lack what ESG issues are built in to standard services such as investment of corruption strategy, asset allocation, and manager selection. But the majority of Governance: Minority shareholder rights the consultancy world is well behind the space set by a few leaders. Environmental: Climate change The clearest progress made by asset managers has been in terms of Social: Workplace standards sourcing ESG-inclusive investment research from service providers. Social: Commitment On the other hand, it is much less clear how the research is actually to human rights being used by asset managers. Indeed, asset managers are candid Governance: Other about the challenge of integrating ESG information into their traditional frameworks. Environmental: Other Social: Other 0% 10% 20% 30% 40% 50% 60% 70% Source: IFC/Economist Intelligence Unit survey, 2007 Who Cares Wins, 2004–08 3 WCW also looked at the role of regulators and governments. The role of professional bodies and qualifications in increasing the The message from WCW participants is that, given the complex industry’s awareness and knowledge, and in better training young and technical nature of ESG integration, governments should not professionals in the field of ESG was repeatedly stressed throughout play an active role at the micro level but should focus on defining the WCW consultations. The more active role undertaken by the the right boundary conditions for the system as a whole. This Chartered Financial Analyst (CFA) Institute in this area provides includes requiring greater transparency on ESG integration from an encouraging signal for the whole investment industry. companies and investors, supporting efforts to give a price to public environmental and social goods, and relying on markets to apply The annual full reports give a detailed analysis of the yearly the most appropriate ESG integration strategies. Regulators can gatherings, and a set of recommendations to kick-start the next also support ESG integration by stating explicitly that they see no phase in ESG integration in financial markets can be found in contradiction between a thoughtful consideration of material ESG the 2008 Who Cares Wins report: “Future Proof? Embedding issues and fiduciary responsibilities. environmental, social and governance issues in investment markets.” Who Cares Wins full reports: www.ifc.org/sustainableinvesting Further reading: “Sustainable Investing in emerging markets: unscathed by the financial crisis” Reports prepared by Gordon Hagart and Ivo Knoepfel, onValues Ltd. Editorial team: Berit Lindholdt Lauridsen and Maria Delores Hermosillo The findings, interpretations, and conclusions expressed in this publication should not be attributed in any manner to IFC, to its affiliated organizations, or to members of its board of Executive Directors or the countries they represent. IFC does not guarantee the data included in this publication and neither party accepts responsibility for any consequence of their use. The material in this publication is copyright. IFC encourages dissemination of the content for educational purposes. Content from this publication may be used freely without prior permission, proved that clear attribution is given to IFC and that content is not used for commercial purposes. International Finance Corporation • 2121 Pennsyvlania Avenue NW • Washington, DC 20433 USA Tel. 1-202-473-3800 • Email: asksustainability@ifc.org • www.ifc.org/sustainableinvesting 4 Who Cares Wins, 2004–08