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Industry Voices

Commentary: Fighting climate change with active engagement

With a stroke of his pen, President Donald Trump took a major step toward eliminating his predecessor's landmark climate policy — the Clean Power Plan.

Unveiled by President Obama in August 2015, the plan sought to fight global warming by reducing carbon dioxide emissions from power plants. Now, under President Trump, the plan and other environmental policies are in more danger than ever.

Some investors might be tempted to approach this new normal by reinvesting in oil and gas. But thus far, the reaction has been more muted.

As Francesco Starace, CEO of Enel Group, Europe's largest power company, noted in an April article published in the Financial Times about the potential removal of the Clean Power Plan: "The world is increasingly decarbonizing because it is a good business idea to do it. There is less risk, less liability, and it's faster to build renewables rather than other stuff.

"I don't think the U.S. changing its policy and trying to bring carbon back will have any impact whatsoever,'' he said.

However, what Mr. Trump's action on environmental policy does make obvious is that progress on the environment — and on many other social issues — will increasingly be driven by market forces, not public policy.

A recent example of the power of the market was how companies, investors and consumers all united in pressuring North Carolina to drop discriminatory laws against transgender individuals. On the environment, representatives from U.S. states, cities and universities joined together with more than 100 businesses, including global behemoths like Apple, Facebook and Microsoft, to pledge to maintain the United States' commitment to the Paris climate accord following President Trump's decision to withdraw from the agreement.

While many companies already are firmly on the ESG bandwagon, we can expect to see ever greater pressure on companies to take action on environmental, social and governance issues and to fill the gaps left by federal policy. Given today's political climate, there is perhaps no group better positioned to take on this fight than investors.

Investors at forefront

Investors have already been actively pressuring companies to adopt more environmentally friendly policies, particularly via shareholder engagement with publicly traded companies.

In the High Meadows Institute's recent study on shareholder engagement, "Incorporating ESG Considerations into Engagement Practices," we found active ownership engagement on ESG has increased dramatically in recent years, with 50% of shareholder resolutions now focused on ESG-related issues. According to a Proxy Preview 2016 report, a third of all shareholder resolutions on ESG issues were focused on the environment, more than any other individual category.

But despite the increased attention on ESG issues, and the environment in particular, the pace of change is still far too slow. According to a recent report from EY, only 31.6% of shareholder resolutions on ESG issues reached the critical support threshold of more than 30% of votes. This is a vast improvement on 2005, when less than 3% of shareholder resolutions on ESG issues hit that level. But that still means that less than a third of all shareholder resolutions on ESG issues actually result in any permanent change.

To understand the reasons for this dichotomy, and to determine the best ways to drive more effective action, let's consider a case study in the oil and gas sector, by far the most-targeted sector for ESG issues.

Exxon Mobil vs. BP

In 2016, Exxon Mobil Corp. and Chevron Corp. each received similar proposals requesting the companies increase transparency on the impact of their business of the global commitment to limit climate change to 2 degrees Celsius. This resolution, which was a direct result of the 2015 Paris agreement, received 38% of shares in favor at Exxon, with the proposal at Chevron receiving 41%. The number of votes for this resolution was the largest number any climate change resolution has received at either of the two largest oil and gas companies in the U.S. At the same time, the voting result revealed an inconsistency in the voting behaviors of several investors.

For instance, similar resolutions filed in 2015 with the European oil and gas companies BP and Shell received 98.3% and 99.8% of the votes, respectively.

More than 150 institutional shareholders led the resolution requesting BP explain its strategies and policies regarding climate change. Some of the largest shareholders included CCLA Investment Management, Local Authority Pension Fund Forum and Rathbone Greenbank. BP management decided to back the proposal, which received a 98% approval rate.

In direct contrast to BP, Exxon Mobil shareholders' rejection of the proposal was coupled with an active request by management to vote against the motion: the firm unsuccessfully attempted to have it struck off the ballot altogether by the SEC. The resolution asked for an annual assessment of risks of a 2-degree scenario.

What makes this case particularly interesting is the overlap in investors at BP and Exxon Mobil. This suggests the contrast in voting outcomes involved the same investors voting differently on the same issue between these two companies. This inconsistency demonstrates that, while progress is being made, investors are still struggling to balance their individual corporate engagement strategies with their wider public commitments to organizations such as the Principles for Responsible Investment, CERES and the Carbon Disclosure Project.

Other key findings from the case study include:

45% of the largest shareholders who voted against the Exxon Mobil ​ resolution are signatories to PRI, and 25% to CDP;

3% of the 1,069 funds responded to letters of thousands of members urging disclosure on voting intentions; and

29% of asset owners who responded to members admitted outsourcing the voting decision.

Investors need to engage more

To successfully drive change on ESG issues, investors are learning they must be more willing to engage directly with management. This engagement is not just limited to active money managers. Increasingly, passive investment managers like BlackRock (BLK) Inc. (BLK) and Vanguard Group are engaging companies both privately and publicly on ESG issues. As a senior representative from one of the largest passive investors told us: "If 15% to 20%, or even 25%, of your shareholder base is permanent, then you can be confident that you've got an audience for that kind of (long-term oriented) message."

And this message isn't just good for the world, it's good for investors too. Research shows successful shareholder engagement on climate change issues can lead to, on average, alphas of 10.6% in the following year. In an industry of constant competition and in a market of dampened returns, every basis point matters.

The market has spoken. Those that don't start now to integrate ESG into their investment strategy and proactively engage with the companies in which they invest will find themselves increasingly left in the cold. This will only become truer as millennials, who are among the biggest advocates of ESG investing, inherit $30 trillion in assets in the coming years. ESG investing is here to stay, and the path to change is via active and ongoing engagement.

Chris Pinney is president and CEO of the High Meadows Institute, Boston. This article represents the views of the author. It was submitted and edited under Pensions & Investments guidelines, but is not a product of P&I's editorial team.