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In the context of investing, shareholder activists are usually thought of as either hedge funds running proxy fights to change a company’s board or an interest group pushing the company to change its behavior related to a specific social or environmental issue. Now, these two types of shareholder activism are increasingly coming together.
Indeed, environmental, social and governance (ESG) issues have recently made their way into activism campaigns in several interesting ways. The first is through change advocacy, where activist shareholders pressure companies through proxy fights to improve their ESG practices. The second involves the creation of ESG index funds, which invest in companies based on a set of ESG policies. Both have operated with the belief that better ESG practices lead to greater shareholder returns. Now the tide is shifting in ESG activism toward a new goal: risk mitigation. And, companies are listening.
Historically, change advocacy involved the filing of shareholder proposals aimed at improving a company’s ESG practices and transparency. The creation of ESG indexes generally involves filtering out companies with poor ESG practices, thereby blocking company access to shareholder capital, unless those companies improve their practices. Companies have resisted this pressure to respond for many reasons, but primarily because these proposals tended not to gain the support of the majority of other shareholders—and only a small portion of shareholders were invested in ESG funds.
But over the past few years, a succession of events has changed all of that. Powerful hurricanes and wildfires have caused hundreds of billions of dollars in damages, mass shootings and the opioid epidemic have taken thousands of lives, cyber intrusions have compromised individuals and institutions, and geopolitical tensions stemming from Brexit and trade-wars have led to global unease.
Insurance companies, weapons manufacturers, utility companies, retailers and others are all being tested by environmental and social issues—and responding correctly to these challenges is vital for a company’s success. Shareholder concerns are not just about value creation—they are about protecting investments.
The language in shareholder proposals has changed from “disclose your greenhouse gas emissions” to “disclose your plan for dealing with the consequences of greenhouse gas emissions.” From “stop selling guns or opioids” to “disclose how you are dealing with the reputational risks related to gun violence or the opioid epidemic.” ESG funds became safe-havens to insulate shareholders from risk rather than just for improved performance.
With these changes come increased support from other investors. ESG proposals that once received five or six percent support a decade ago now receive 50 to 60 percent. ESG funds have also grown in capital and have attracted new types of investors. Shareholders are also demanding that boards of directors take on the responsibility of overseeing these risks on their behalf.
Companies impacted by these issues have only one thing left to do: respond. After all, these issues have affected their bottom lines. Investor response strategies have taken many forms—including shareholder engagement, disclosure of sustainability reports, and the creation of new board committees tasked with overseeing ESG risks. Companies that aren’t currently being impacted by these issues need to prepare for them. Preparation means thinking about these issues in a different way, gathering new information, monitoring trends, speaking to investors, and truly understanding how these issues could impact the business and its supply chain. Investors are starting to ask questions about how companies are prepared to handle these risks and companies need to be prepared with the right answers.
Ignoring these issues or pretending they don’t affect your company is not a strategy, and it could lead to some very unhappy shareholders.
Alexandra Higgins is a Managing Director at Okapi Partners, where she provides strategic counsel to corporate clients and their advisors with a focus on governance and compensation issues as well as other ESG concepts.
Alex can be reached via email at ahiggins@okapipartners.com or via phone at +1 212 297 1884.
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