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E-MailAndrew Letts is Partner and Chad Spitler is a Senior Advisor at CamberView Partners, LLC. This post is based on a CamberView publication by Mr. Letts and Mr. Spitler. Related research from the Program on Corporate Governance includes Social Responsibility Resolutions by Scott Hirst (discussed on the Forum here).
Every two years, investors, executives and industry leaders gather at the United Nations for a unique summit on the state of climate risks and opportunities in the capital markets. This year’s convening of the UN Investor Summit on Climate Risk in late January took place in a dramatically different environment than the last meeting in 2016: the Paris Climate Agreement has been in effect for two years; the US government has shifted its policy on climate risk; shareholder support for climate proposals has never been higher; and some of the world’s largest investors have begun the process of divesting from carbon-intensive companies on the basis of long-term financial risk.
With that backdrop, the main storyline to emerge from this year’s conference was the pressing need for companies to be proactive in engaging with investors not just on how they are measuring and disclosing climate risk, but on how they are innovating to take advantage of the opportunities that are arising from this macroeconomic trend.
Investors Commit to ESG
In recent years, a growing number of institutional investors have incorporated the scientific consensus that climate change is occurring and that its effects are being felt more rapidly than originally forecast into their investment and engagement strategies. Hundreds of investors have publicly committed to initiatives such as the Principles for Responsible Investment (PRI), which expects its members to have extensive engagement with issuers on ESG topics, and also recently announced minimum membership requirements that include implementing an investment policy that sets out an overall approach to responsible investment covering more than 50% of assets under management (AUM).
The number and assets of investors making these commitments has grown concurrently with the rise of passive investing, which has, in turn, reinforced the need for investors to engage with issuers to better understand the risks associated with owning companies without the option to sell. This trend, paired with growing investor support for shareholder resolutions focused on environmental risks and the actions of forward-thinking boards and management teams, has produced significant new disclosures from companies on a range of topics including methane emissions and climate risk scenario planning.
Shaping the Conversation on Climate Risk and Opportunity at the UN Summit
The emerging themes from this year’s UN summit were centered on new investment strategies and the ways in which investors are shaping market behavior by both divesting from heavy emitters and reinvesting in climate innovators. Investors were clear—if companies want to be strategic about positioning themselves on climate issues, their focus should be on establishing a governance structure around both climate risk and opportunity.
Asset owners and asset managers are looking for companies to produce financial reporting, sustainability reports and other public-facing documents that cite hard data on climate impacts, corporate commitments to renewable energy and carbon-reducing practices while also adapting their long-term business models in response to the scientific evidence of climate change.
They are also increasingly interested in learning how companies are responding to the growing demand for innovation around climate-related issues. For example, in the automobile industry, investors want to know how companies are allocating funds toward research and development and how they are approaching the transition to electric and autonomous vehicle production. Companies that do not make these types of disclosures for investors face emerging risks—reduced liquidity and reliability of capital as investors transition to ESG or low-carbon indices as well as heightened scrutiny during engagement.
At the UN summit, the New York State Common Retirement Fund announced that it had doubled its commitment to a low-carbon index for issuers. These type of ‘tilted’ index funds underweight carbon-intensive companies and increases investment in those with lower carbon emissions. In addition, groups such as the Climate Action 100+, which includes more than 250 asset owners with $28 trillion in AUM, have pledged to engage at least once annually with 100 of the world’s most carbon-intensive firms on ways to curb greenhouse gas emissions.
The Path Ahead for Investors and Issuers
While there is investor consensus on the need for issuers to better manage and disclose climate risk and opportunities, one stumbling block continues to be how to measure success. Without an overriding and enforceable framework for measuring climate impact, issuers and investors alike are confronted by an alphabet soup of ESG rating agencies and organizations seeking to measure and set market practices.
In that context, two linked initiatives, one new and one continuing to gain momentum, stand out as groups to watch in the coming years. First, the UN Summit served as the launch of the Investor Agenda, a group of organizations including the CDP, Ceres and the Institutional Investors Group on Climate Change. This new initiative will report on investor actions to move toward the goals of the Paris Agreement, including investment in renewable energy, corporate engagement, investor disclosure and policy advocacy.
This guide will track with the recommendations of the second group to watch – the Task Force on Climate-related Financial Disclosures (TCFD), the G20-backed organization chaired by Michael Bloomberg and Mark Carney, which seeks to develop voluntary, consistent financial disclosures related to climate risk. The TCFD framework, which considers the Sustainability Accounting Standards Board and Global Reporting Initiative as implementation tools, is emerging as the go-to for issuers to communicate the status and materiality of their approach to climate change for investors. The TCFD anticipates that reporting within the framework can clarify disclosures and improve relationships with both investors and rating providers such as MSCI, ISS and Sustainalytics. The framework is expected to become a vital tool for issuers seeking to refine their existing reporting on climate initiatives.
The common theme of the initiatives set forth at the UN summit is clear: to protect and enhance long-term financial value, investors are increasingly focusing on climate risk and opportunity. Engagement, once viewed as the primary tool for changing issuer behavior, is now considered the starting point of a dialogue around the governance of sustainability.
As investors evaluate climate change impacts, they are continuing to seek ways to position their portfolios for the long term. To avoid the potential of heightened investor scrutiny and minimize the emerging risk of index exclusion, issuers will increasingly need to consider innovative ways to publicly report how they govern the management of climate risk and position themselves to take advantage of climate opportunities.
