by Maxine Gray and Barry Shamley
In 1970, in an essay for the New York Times, Milton Friedman introduced the theory of stakeholder capitalism. The essay, “A Friedman Doctrine: The Social Responsibility of Business is to Increase its Profits”, proposed that a company has no social responsibility to public or society and that its only responsibility was to its shareholders.
In a perfect world, it would be difficult to disagree with this theory, but human beings are fallible and are susceptible to greed and avarice. While capitalism is the best system to foster growth and entrepreneurship, that growth cannot come at the expense of other stakeholders.
We are also, as Ray Dalio recounts in his well-known book “Principles: Life and Work”, prone to ignoring the second and third order consequences of our decisions. A good example of this is having a too narrow focus on the pursuit of maximising profit, especially in the short-term, at any cost. This can and has had detrimental effects on multiple stakeholders including shareholders, manifesting in damaging consequences across environmental, social and governance (ESG) considerations.
Environmentally, we have witnessed uncontrolled growth of GHG (greenhouse gas emissions), pollution (water and air), rampant deforestation and excessive water consumption in water-sensitive communities.
Socially, we have witnessed excessive workplace accidents and deaths where profits have been prioritised over safety and working conditions, excessive CEO to average worker pay ratios, insufficient diversity, and what we can describe as modern-day slavery practices (poor pay and working conditions), among others.
From a governance perspective, we have witnessed misconceived management behaviour being induced by ill-conceived remuneration schemes which has negatively impacted the long-term, sustainable outlook for many companies.
The rise of the importance of considering these ESG factors has accelerated in response to these effects. ESG is effectively a set of criteria or ‘lenses’ through which asset owners, asset managers and lenders can measure and manage the impact a particular enterprise has on its various stakeholders.
Sustainable investing refers to an investment strategy that seeks to consider both the financial return and social or environmental impact to bring about positive social change. “ESG” can thus be seen as the “how” to bring this definition to life. The term ‘sustainable investing’ may be used interchangeably with socially responsible investing, social investment, sustainable socially conscious, “green” or ethical investing.
In 2014, President Obama remarked that ‘we are the first generation to feel the effect of climate change and the last generation who can do something about it’. Since then, it has become clear that businesses cannot thrive in a world that is struggling to survive. To pursue long-term sustainable profitability, businesses need to be conscious and proactive in managing the impact of their operations on the environment, society and through their governance practices. As investors and shareholders, we all have a role to play in aligning our investments with businesses that seek to achieve this and by actively engaging with – directly or indirectly through our investment managers – the companies we invest in.
This shareholder activism is central to ESG investing. Asset owners, asset managers and lenders need to monitor and manage their investment through an ESG framework which seeks to understand the ESG risks of an investment and assists in managing a transition to more responsible corporations who ultimately will provide sustainable profitability and better returns in the long term.
For foundations, this is particularly relevant if we consider the sheer size, and thus potential influence of, endowment capital that is invested over the long-term to achieve sustained impact. Further to this is the notion that philanthropy has at its heart the goals of helping people and solving societal challenges over time, primarily using income that is earned off the capital that foundations invest. It is thus pertinent that the way in which endowments are invested is aligned with or at least does not oppose the values and objectives of the foundation.
Aligning your endowment investments with an active and integrated ESG strategy can go as far as extending the impact achieved. Primarily, this is through the allocation of capital to companies pursuing sustainable activities aligned with your foundation. Secondarily it is in the form of direct distributions from the income generated from the capital invested. Imagine the possibilities of the ultimate impact each foundation can have, if it were enabled through this mechanism to effectively “give twice”.
We have come a long way since 1970, seeing more innovation and growth over the past 50 years than perhaps any period in history. Philanthropy has played a pivotal role in aiding our communities and our planet to minimise the unintended consequences brought about by this period of growth. 2020 has however brought about a stark, but necessary, realisation that this growth is not sustainable, for our planet, our societies or for businesses. We know that we need to respond and do so unequivocally. As this realisation translates into action, we are witnessing and have the opportunity, through our investment strategies, to play an important and catalytic role in the transition away from exclusive systems and isolated profitability metrics to ones that are more cohesive, inclusive, and representative of the ESG factors at play.