What gets measured gets managed

  • 2019-07-02
  • Karlis Purgailis/TBT Staff

In the past few years, among investors choosing which businesses to invest in, so-called ESG (Environmental, Social and Governance) criteria have become increasingly popular. According to this set of standards, investors such as investment funds determine how a business’ activities affect the surrounding environment, how it cooperates with suppliers and local communities, and how the company’s management is organised.

If, in the past, deciding to invest in businesses which take into account and internally monitor these criteria seemed to be only a question of ethics, then now professional investors are becoming increasingly convinced that the evaluation of ESG risks has a direct impact on business results and thus long-term returns on investments. However, the facts are currently not so plain - academic research shows that these kinds of investments have great positive potential, whereas analyses of historic market figures do not show significantly different results in general. Namely, by making long-term responsible investments, investors aren’t at risk of worse profit results, with the added benefit of the possibility for additional positive effects.

Thus investors who think long-term are more often and more widely evaluating potential investments not just according to their business model, financial indicators and prognoses, but also bearing in mind ESG criteria. Businesses who wish to attract financing should bear this in mind or risk becoming isolated from wider financial sources.

The explanation is simple: even if there are no significant differences in investment results, there are enough examples to show that not evaluating the risks of a specific business can end with significant investor losses. A high-profile example is the fall in BP share prices after its 2010 Gulf of Mexico oil spill, or the problems Brazilian mining company Vale faced after its dam enclosing toxic waste collapsed at the start of this year, causing the death of hundreds. This was a repeat incident for Vale, destroying trust in a company which repeatedly ignores local environmental safety risks.

Meanwhile, in Latvia, we have an example of what happens if a business ignores the principles of good governance. After the death of the largest owner of Olainfarm, as a result of arguments between the heirs and frequent change in leadership, there has been a drop in share prices from 11 EUR to 6 EUR for one share. If the business cannot solve its governance problems, the price could dip even lower.

Corporate governance problems in general are significantly hindering the development of the Latvian stock market. Much has been said regarding the idea of listing various state businesses on the stock market to help activate the market. However, the primary condition would be to sort out the governance of these state companies. If board and supervisory board member appointments made on the basis of political affiliation aren’t stopped, if transparency of governance and company operations isn’t ensured, interest from serious investors in these companies will be limited.

Among investors, there is a popular opinion: what gets measured, gets managed. The logic is simple and easy to understand - if a business researches and acknowledges its potential problems, if they report and speak on them publicly, then they are probably also acting to minimise and avoid them. It is safer to invest in that kind of company, rather than in a business which tries to hide information about itself. At least in the long term, these businesses are more trustworthy.

Following this trend, we, the pension management company CBL Asset Management, include ESG factors when considering an investment. Confirming this strategy, we have joined the UN-supported declaration on Principles for Responsible Investment, becoming the first Latvia-based pension management company to operate according to these principles. We have also created a new CBL Asset Management Sustainable Opportunity Investment Plan, which invests only in businesses which are leaders in sustainability.

Are ESG principles important to the Latvian public? Results of a May survey conducted in collaboration with Norstat Latvia show that a convincing majority of respondents (81%) view financial results as the most important factor when deciding which businesses to invest in. However, we can’t fail to notice that, for younger people, environmental impact, care for a company’s employees and charitable policies are increasingly important. For example, among 18-29 year olds, a company’s environmental policy is a significant factor, important to 24% of those surveyed (compared to an average of just 14%).

The influence of this and subsequent generations will grow each year, with an increasing role in the economy and politics, so businesses wishing to implement a long-term operational strategy will have to bear their values and mood in mind.