niclas during
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If ESG doesn’t have financial value, does it have any value at all?
Niclas During, ESG Manager, CDC Group
11 November 2010
Why its important to quantify the financial value of ESG?
To drive ESG on a broad scale To show that ESG truly is value
Proactive: “Doing the right thing”
Reactive: Reputational / brand risk
Inactive: Doing nothing
• There is no business on a dead planet – ESG is about long term, sustainable and viable companies, countries and economies
• Using language everyone understands - if we don’t measure ESG in financial terms we are not reaching most companies and individuals
•ESG is the essence of adding value – leaving people and planet improved and not impaired in value
Does ESG have a financial value?
What is the value of safe working conditions?
Or the environment?
Or good corporate governance?
Most common perception: ESG downside risk and reputational risks
ESG seen as adding (quantifiable) value to the business
Clearly identified priorities to maximise ESG and financial performance
Proactive, performance managed ESG strategies to deliver value
What an understanding of ESG’s financial value could mean
Traditional ESG approach Value focused ESG approach
AttitudeESG as downside risk, not upside opportunity
FocusUnaware how to prioritise between different ESG actions to get most out of it
ResultsMore committed in words than actions
With a traditional ESG approach there is consistent de-prioritising of ESG and suboptimal selection and prioritisation of ESG actions
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ESG performance
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A value focused ESG approach would:
= Environment = Social = Governance = Small initiative = Big initiative
• Take resources from some less valuable ESG areas…
• …and put them into more valuable ones… • …and continuously identify new areas
A traditional ESG approach
How can we make estimates of ESG financial returns?
Many studies show causality between ESG and financial performance…
1)Abramson, L. & Chung, D. (2000), Socially responsible investing: Viable for value investors?2)Derwall, J., Guenster, N., Bauer, R. & Koedijk, K. (2005), The eco-efficiency premium puzzle3)Gompers, P., Ishii, J. & Metrick, A. (2003), Corporate governance and equity prices4)Opler, T.C. & Sokobin, J. (1995), Does coordinated institutional activism work? 5)Orlitzky, M., Schmidt, F.L. & Rynes, S.L. (2003), Corporate social and financial performance: A meta-analysis6)Statman, M. (2006), Socially responsible indexes: Composition, performance, and tracking error7)Van de Velde, E., Vermeir, W. & Corten, F. (2005), Corporate social responsibility and financial performance
How can this research inform a company’s ESG strategy?
The key questions:
?????The answers from the research:
1) What ESG initiatives to select?
2) How to prioritise among these?
3) How to prioritise against other (non-ESG) areas?
The research findings:
There is a missing link between ESG initiatives and financial returns
Budget line items
Costs & Revenues
Free cash flow
Share price / valuation
Environment
Social
Governance
Missing link
Problems arising from missing link:
• Selection of ESG initiatives
• Prioritisation of ESG initiatives
Consequence:
• Consistent de-prioritisation of ESG
• Partially misguided ESG strategies
What linkages have we found in CDC’s portfolio?
CDC portfolio analysis shows good ESG management system correlate with 15% higher IRRs
Result: Correlation between good ESG management systems and 15% higher IRR
Explanation: Possibly generally better managed companies
Next steps: Improved data and further analysis
For fund managers: CDC ESG Toolkit for fund managers (free)
Feel free to use CDC’s recently launched toolkit to improve ESG management systems
Arch Pharmalabs in India achieved international market expansion through improvements of health and safety and manufacturing standards
Pharmaceutical manufacturing company
ICICI Ventures invested US$35m in 2006
ESG risk/opportunity: Market expansion through adoption of pharmaceutical quality standards
Company
11 sites: WHO Good Manufacturing Practice (GMP) accreditation
3 sites: U.S. Food and Drug Administration (USFDA) accreditation
ESG actions
Turnover growth from US$2m (1999) to US$185m (2009)
GMP and U.S. FDA accreditations resulted in contracts with Pfizer, Sandoz, Glaxo SmithKline, Sigma Tau, DSM and Elan
Results
Outsourcing Services Limited in Nigeria improved working conditions and returned a 45% IRR to the fund manager
Start-up security outsourcing company - supplies security guards
African Capital Alliance invested US$235,000 in 1999
ESG risk/opportunity: Improved quality of service to increase market share
Company
Minimum wage strictly enforced
51% of revenues to salaries (industry average = 41%)
More and better training than competitors
Free medical and life insurance
ESG actions
From a start-up to the leading outsourced security firm in Nigeria
Initial investment of US$235,000, sold to G4S for US$10m in 2009 – IRR of 45%
Results
More case studies available on CDC’s website…
A Fortune 500 company achieved major productivity and risk improvement through targeted health programmes
A large Fortune 500 multinational consumer and personal care products company
More than 150,000 employees and operations in
ESG opportunity: Improving productivity and reducing operational risk through staff health programmes
Company
Four key health issues identified among the general population – metabolic, cardiovascular, obesity and hypertension matters
Company undertook a two-year pilot in which 545 staff were given health awareness materials assessed against a control group of 1,000 other staff
ESG actions
ESG: Obesity: 26% decrease in Body Mass Index at factoryNutrition: Consideration of salt intake increased by 19%Heart disease: Risk reduction for the highest risk group from 6% to 3%
Financial: Productivity: Time not working effectively from 24.5% to 18.2% or £560 per head and year Staff retention: Agreement to the question “I enjoy better health and wellbeing for being employed by Unilever, compared to another employer” from 43% to 64%Absenteeism: Decrease by 17%
Results
Company X financial returns from ESG: Actual breakdown
Financial returns from health initiativeEUR, millions
50.1%
20.4%
11.9%
9.0%8.3% 0.1%
1)Case study and numbers based on research project between CDC, FMO and the consultancy 10EQS, Novermber 2010. Financial numbers are actual company data as well as estimates
How can we link ESG to budget line items?
Costs & Revenues
Free cash flow
Share price / valuation
Environment
Social
Governance
Missing link
Budget line items
How does this apply to the three case examples?
Applying the approach to the examples
Arch Pharma
Arch Pharma
Arch Pharma
Arch Pharma
OSL
OSL OSL
OSLEl-
Rashidi
El-Rashidi
El-Rashidi
El-Rashidi
El-Rashidi
So how can you do it? Conduct a comprehensive analysis of your ESG risks / opportunities and how they match against financial value…
Source: Savings spreadsheet based on examples in Willard, Bob. (2002), The Sustainability Advantage (New Society Publishers)
Measure the right metrics and calculate the returns…
Savings (increase in staff retention)
- Cost (provision of training)
= Financial return on ESG initiative
Collaborate by sharing insights and learning from others
CDC/external consultants: Identification of best practice
• Leading global companies• Specific ESG actions• Quantification of returns
CDC portfolio: Pilot cases• Tracking of individual companies and ESG actions• Selecting specific ESG and financial metrics
Interested parties: External collaboration• GPs/companies outside CDC’s portfolio • Sharing of best practice, modelling of returns, metrics and approaches• Anonymised contributions if required
Continuously improved quantification of ESG financial returns
More effective ESG strategies
Better ESG and financial performance
ESG has a financial value – in showing it we can achieve so much more!
Going from here… …to here
Proactive: “Doing the right thing”
Inactive: Doing nothing
Proactive: “Doing the right thing”
Reactive: Reputational / brand risk
Inactive: Doing nothing
Getting active: Going for financial returns
Reactive: Reputational / brand risk
Thank you for listening!