ESG: Implications for Corporates & Investors - Citi | Banking, Capital Markets and Advisory
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ESG: Implications for Corporates & Investors Citi | Banking, Capital Markets and Advisory October 2019 Environmental Social Governance Strictly Private and Confidential
What is ESG?
Environmental Social Governance
Environmental factors include: Social factors include: Governance factors include:
• the contribution to climate • human rights & labour standards • corporate governance – Board,
change through greenhouse gas in the supply chain pay, ownership etc.
emissions • product safety & quality • corporate behaviour – corruption,
• waste management / water • adherence to workplace health tax transparency, anti-
pollution and safety competitive practices, ethics
• energy efficiency & use of • integration into the local
natural resources community
• environmental opportunities • access to finance and
(investment in “clean & green”) development
1ESG in Focus – Gaining Significant Media Attention
Environmental Social Governance
BP oil spill confirmed as ‘world’s worst’ YouTube and Netflix to face violence Unilever’s Dutch relocation details anger
crackdown in US UK investors
“The BP oil spill in the Gulf of Mexico is the
world’s biggest accidental oil leak, with “America’s Congress is to consider a crackdown “UK investors have reacted angrily to details of
government scientists estimating that 4.9m on YouTube and Netflix with new rules to prevent Unilever’s plans to move its HQ to the
barrels of oil gushed from the Macondo well” children being exposed to violence, sex and other Netherlands after they announced they would
inappropriate content” leave the FTSE 100”
Monsters To Nestlé: Single-Use Apple recalls UK wall plug adapters over Starbucks' EU unit paid 2.8% in UK tax
Plastics Hurt People And Profits’ electric shock fears last year
“Environmental activists teamed up with giant “Apple is recalling a number of wall plug adapters “Starbucks’ European business paid $5.9m of tax
puppets this week to deliver a message to due to safety concerns. It warned it could leave in the UK on profits of $213m, after a payment
Nestlé S.A., the world's largest food company people at risk of getting a shock if they touched from another part of the group boosted profits.”
and a major producer of single-use plastics” the exposed metal components”
‘Ryanair is the new coal’: airline enters Australian clothing brands won't commit Persimmon boss to leave after
EU’s top 10 emitters list to garment workers' safety 'distraction' over pay
“Ryanair has become the first non-coal “Five years after the Rana Plaza disaster, brands “The boss of Persimmon Jeff Fairburn has been
company to join Europe’s top 10 carbon including Myer and Just Jeans still haven’t signed forced out after a row over his £75m pay award.
emitters. Their greenhouse gas emissions in an agreement to improve workers’ conditions” Persimmon said the issue was having a "negative
2018 were up 6.9% on last year and 49% over impact" on the firm's reputation”
the last 5 years”
2ESG Issues are NOT ‘non-financial’
ESG issues pervade every element of a corporate’s activities, from operational considerations, through geographic
positioning, to at its most fundamental level, strategic alignment and industrial focus. Hence it is not true to say that ESG
issues are ‘non-financial’ – they might better be described as ‘pre-financial’ issues.
• Water • Systemic risk
• Energy • Mis-selling
• Waste management • Big data/Data security/GDPR
• Recycling/circular economy • Boardroom remuneration
• Emissions • Business ethics
• Packaging/plastics • TCFD
Regulation &
Resource utilisation
governance
Consumer/customer Social
attitudes considerations
• Healthier lifestyles • Labour practices
• Food substitutes • Business ethics
• Supply chains • Sourcing/supply chains
• Ethical business practices • Monopolies/pricing
• Brand value – both positive and • Product affordability
negative
• Pricing power
Source: Citi Global Insights
3Triggering Industrial Transformations & Innovations in All Sectors with New Long Term Targets
Set by Companies …
2020 2030 2040 2050
November, 2015
• Halve the GHG impact of products across the lifecycle by 2030
• Become carbon positive in manufacturing by 2030
Carbon Positive by 2030
September, 2018
• Investing in lighter, more fuel efficient planes
• Replacing part of its jet fuel with biofuel
Half CO2 Emissions by 2050
December, 2018 • Zero CO2 emissions from operations by 2050
• Carbon neutral vessels commercially viable by 2030 to realise the
Net Zero by 2050 2050 target
April, 2019 • By changing the mix of energy products sold, reaching a reduction
of ~20% in Net Carbon Footprint by 2035
Half Net Carbon Footprint by 2050 • Half by 2050
May, 2019 • Plug-in hybrids or all-electric vehicles to make up more than 50% of car
sales by 2030
Carbon Neutral by 2039 • Aim to have a carbon-neutral new passenger car fleet in 20 years
July, 2019 • 100% of the cotton, linen and polyester used to be organic,
sustainable or recycled by 2025
• Elimination of all single-use plastics from customers sales by 2023
Sustainable Products by 2025
September, 2019 • Focus on more plant based food and drinks
• Pledge to use only renewable energy
Net Zero by 2050 • Expanding initiatives to cut emissions from agriculture
4… And by Federal & State Governments
2020 2030 2040 2050
June, 2016 • Sources 95% of its electricity from hydropower
• Carbon trading to offset emissions from oil and gas industry
Net Zero by 2030
• Transport emissions to be cut by 70% by 2030 from 2010 levels
June, 2017 • ~85% of emissions cuts to be achieved through domestic policies
• Aiming for negative emissions post 2045 by investing in various
Net Zero by 2045 climate projects
Sep, 2018 • Fifth largest economy in the world
• Former California governor signed a bill calling for 100% of the
state’s electricity to come from carbon-free sources by 2045 in
Carbon Neutral by 2045 addition to the overall carbon neutral order
June, 2019 • 1st major world economy aiming for Net Zero by 2050
• Schemes such as planting trees and carbon capture to offset GHG
emissions
Net Zero by 2050
June, 2019
• Quantified emission reduction targets written into new law
• New raised target for reduction of fossil fuels by 40% by 2030
Carbon Neutral by 2050
June, 2019
• 100% carbon free electricity by 2040
• Economy-wide, net-zero carbon emissions by 2050
Net Zero by 2050
5Dedicated ESG investment body - PRI
Investors that are already PRI signatories include those
with dedicated ESG funds…
United Nations Principles for Responsible Investment
CREF Social Choice Equity Fund
• Formed in 2005 by the United Nations
• The world’s largest proponent of responsible investment Sustainable Global Equity Fund
• Works to understand the investment implications of ESG factors and looks to
support investors to incorporate these factors into their investment and Global Sustainable Global Equity Fund
ownership decisions
Ethical Fund
• Investors are encouraged to become a PRI signatory
The 6 Principles for Responsible Investment Global Impact Fund
The creation of 6 voluntary and aspiration principles that provide investors with a
list of possible actions for incorporating ESG issues into investment practice.
The principles were designed by investors for investors. Signing the PRI commits
…and generalist global investors that also look to
investors to contribute to developing a more sustainable financial system: incorporate ESG factors into their investment thesis
1
1. We will incorporate ESG issues into investment analysis and decision-
making processes
2
2. We will be active owners and incorporate ESG issues into our
ownership policies and practices
3
3. We will seek appropriate disclosure on ESG issues by the entities in
which we invest
4
4. We will promote acceptance and implementation of the Principles
within the investment industry
5.
5 We will work together to enhance our effectiveness in implementing
the Principles
6.
6 We will each report on our activities and progress towards
implementing the Principles
Source: PRI.
6ESG going truly mainstream – with 19% YoY growth over 2018
ESG market size
Global AuM & number of PRI signatories(1)
100 2,750
• ESG-linked AuM (linked to PRI signatories)
currently stands at more than $83trn globally
90 2,500
o Includes classic generalist funds who
2,250 adopt some form of ESG angle – typically
80
“screening out” poorly rated companies
2,000 o Around half of these assets managed in
70
Assets under Management (US$ in Trillions)
Europe and more than a third in the U.S
1,750
# of PRI Signatories
60
1,500 • Dedicated ESG funds are expected to have
50 c.$25trn under management
1,250
40
1,000 • ESG-themed ETFs have also surged since
2016, with 120 funds around the world
30
750
20
500
“Sustainable investing will be a core component for
how everyone invests in the future. I expect that the
10 250 ESG category will grow from the current $25 trillion
to $400 trillion in 2028.”
0 0
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Dedicated ESG AuM Total AuM of PRI Signatories
Number of Asset Owners Number of Signatories
Source: PRI.
Note: (1) investors who have publically signed the Principles for Responsible Investment list – publicly demonstrating commitment to responsible investment.
7Europe and UK at the forefront of ESG
Proportion of companies and investors with ESG strategies
Companies Investors
86.7% Europe
Europe 84.0%
86.5% UK UK 84.9%
81.5% Canada
Canada 82.5%
51.0% NorthAmerica
North America 70.2%
47.6% Global
Global 61.4%
30.0% Gulf
Gulf States
States 55.4%
27.8% ChinaChina 38.4%
23.7% Asia Asia 40.0%
20.8% USA USA 58.1%
12.6% Hong Kong
Hong Kong 40.0%
• Investors are the leading change agents in ESG strategies – applying “That is why it is time to change our view on ESG investing.
pressure on companies to improve: 61% of all investors now have an ESG It is not just the smart thing to do, not just expedient. For our
strategy compared to 48% of companies clients and as responsible corporate citizens, regardless of
which way the political pendulum is swinging, it is our duty
• UK investors are at the forefront of the change – leading UK and to bring ESG considerations into sharper focus and
European corporates to have the greatest take-up of ESG strategies bring them to the front of ours and our clients’ minds. It
is time to change our perspective.”
• Despite 58% of US investors adopting an ESG strategy, US companies lag
the global average with only 21% take-up
Source: East & Partners – Sustainable Financing and ESG Investing report (September 2018).
8Examples of ESG strategies in action
Strategy Company Investor approach Fund
“BNP Paribas Asset Management is one of the first global asset managers to
exclude tobacco from its mainstream investments. We recognise the
important role that long term capital plays in tackling major global issues
Exclusion of Tobacco and and we are taking into account growing international concerns about the risks
Defence stocks from posed by tobacco.”
Screening investment through
negative screening
“We apply ESG standards to our responsible investing (RI) and ESG integrated
open ended funds, as a result of these ESG standards, the coal and tar sands
producers, tobacco and defence sectors are excluded from our funds.”
“We evaluate all issuers from an ESG perspective in addition to fundamentals
Active investment into and emphasize those we consider to be “best-in-class.” As a result, issuers
companies with strong that incorporate sound ESG practices and with highest impact potential are
Best-in-class
ESG ratings more likely to be held in our ESG portfolios.”
“The company put its three-year binding remuneration policy to the vote. We
AGM voting to reject decided to vote against its introduction given our concerns around the
increased quantum and lack of relative metrics (where previously a portion of
remuneration policy executive pay was dependent on the company’s performance versus its peers).”
Engagement
Consistent engagement “Since November 2017, we escalated our engagement efforts by attending
the company’s 2018 and 2019 AGMs We engaged with the chair of the
to improve board
board (twice), some of the other independent directors, and executive
independence & management. At the 2019 AGM, we voted against the chair of the board.”
subsequent AGM vote
“The Pictet Global Environmental Opportunities Fund mainly invests in equities
Specific investment into of companies in clean energy and water, agriculture, forestry and other
Thematic investment clean companies areas of the environmental value chain.”
9The Green, Social and Sustainability bond market
The Green, Social and Sustainability bond market continues to develop, however the pace of growth seem to be slowing. Investor interest in
socially responsible fixed income is growing faster than issuance volumes.
Green, Social and Sustainability Bond Issuance Volumes
Amount (US$bn Equiv.)
Total Outstanding Green, Social and
Sustainability Bonds $410 Billion
Issuance is growing but slowing. 73,2 Type of Bond (US$bn Equiv.) 2017 2018
200
Investor demand continues to accelerate
which brings a pricing and execution 180 Green Bond US$265.5bn US$407.3bn
benefit, so we forecast issuance to grow
significantly in the coming year. 17,3
155,8 Social Bond US$11.4bn US$24.3bn
.
13,5
150 9,0
9,2 Sustainability Bond US$16.3bn US$33.1bn
126,75
Total US$293.2bn US$464.7bn
97,1
100
5,1
2,4
Projections for 2019FY SRI Bond Issuance
149,2
137,6 10,9
Source 2019 Projection
6,1
50 42,2
89,6 Citi US$200bn+
35,9 1,2
0,8
0,5 56,3 Climate Bonds Initiative US$300bn
41,0
10,2 34,6
4,1 1,8 2,2 0,7
4,1 9,5
0 1,8 2,2
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Green Social Sustainability 2019 Target
Source: Citi, Dealogic, US Green Municipal volumes taken from Bloomberg, 18 April 2019.
10Why companies should care?
Reduce pressure on management and increase success “We view ESG practices as a proxy for management quality.”
of passing motions at AGMs
ESG improvements can also protect companies from “It's not just 'what's my company's impact on climate,' it's 'what's
climate's impact on my company.”
negative environmental trends & costs
“On the risk side, quite simply those more compliant companies are
Less likely to be the subject of regulatory change or less likely to be penalised by government policy or by trading partners
negative press – reducing potential share price volatility who are keen to ensure they maintain highest possible standards in their
supply chains.”
Number of US Activism Campaigns with an ESG Demand
80
Help to make activist approaches become less likely – 60
with ESG campaigns increasingly in focus 40
20
0
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
YTD
Provides access to Green Bonds – funding to improve the
sustainable management of businesses
It is ethically and morally right!
Source: FactSet, SharkRepellent.
11How does it benefit companies?
0.3
• Companies with strong ESG characteristics typically have
Volatility – z-score
above-average risk control standards and better supply chain 0.1
management
Lowers risk • Due to better risk control standards, high ESG-rated companies (0.1)
suffer less frequently from incidents such as corruption
• Leads to less stock-specific downside risk and volatility for a (0.3)
company’s share price Q1 Q2 Q3 Q4 Q5
ESG Corporate Quintile
• Over the last 10 years high-rate firms saw fewer negative incidents Mean Current
• High-rated ESG companies are more competitive than peers – 0.2
Profitbaility – z-score
due to more efficient use of resources, better human capital 0.1
development or stronger management
0.0
Improved financial • Upper quintile ESG companies on average are better at
performance developing long-term business plans and management (0.1)
incentives (0.2)
• These firms use their competitive advantages to generate Q1 Q2 Q3 Q4 Q5
ESG Corporate Quintile
higher levels of profitability Mean Current
0.3
• Strong ESG companies see lower systematic risk (market /
Book to Price – z-score
macro), which is captured through a company’s cost of capital 0.2
• Meanwhile, better-rated firms see lower firm-specific risk which 0.1
Improve valuation can impact a company’s future cash flows (0.1)
• In a DCF model, companies with a lower cost of capital and
(0.2)
improved cash flows will have a higher valuation Q1 Q2 Q3 Q4 Q5
• A higher valuation means lower book-to-price as the chart maps ESG Corporate Quintile
Mean
12
Performance (%)
• Companies in the highest ESG quintile saw a stronger financial 10
Cumulative
8
Greater returns & performance than the bottom quintile 6
shareholder demand • Leading to better cumulative returns and greater ability to 4
2
return capital to shareholders 0
(2)
2009 2010 2011 2012 2013 2014 2015 2016 2017
Source: MSCI Foundations of ESG Investing Report (November 2017).
12ESG Focus Driven by Industry
Citi has analysed the level of exposure to E, S, and G issues faced by each industry; understanding that exposure is
critical to creating a focused strategy to help improve your ESG rating and screen better to investors.
Telecommunication
Paper & Packaging,
manufacturing/HPC
Consumer staples
services/logistics
Pharmaceuticals
Hotels & Leisure
Metals & Mining
General Retail
Aerospace &
construction
Technology
Real Estate
Cap goods
Food retail
Building &
Chemicals
Beverages
Insurance
Transport
Oil & gas
Business
Tobacco
Forestry
Div Fins
defence
Utilities
Luxury
Banks
Media
Autos
Food
s
Social
Food & hunger
Education
Gender equality
Communities
Future of work – AI & automation
Inequalities
Supply chains
Good health and wellbeing
Cyber Security/Big data/GDPR
Health & safety/injury
Labour issues
Environmental/Physical
Climate chg/emissions/efficiency/Clean & aff. energy
Energy storage, energy transition
Environmental impact
Circular economy
Waste management
Water
Sustainable Cities & Urbanisation
Infrastructure
Governance
Business ethics
Peace justice & strong institutions - politics
Bribery & Corruption
Regulation
Reporting, disclosure & transparency
Executive remuneration
NB: Darker shaded areas represent key issues as identified by Citi Research sector analysts in publications.
Source: Citi Global Insights.
13Citi’s Integrated Model
Strategic & Financial Advisory
Advice on Strategic
Partners & Collaborators
Advice on Strategic 3 Support with Integrated Financing
Options, Including M&A Options (Corp Bank, Capital
2 4 Markets, Supply Chain Finance)
Advice on Long & Short Risk Management Products
Term Targets to Support the Transition
1 5
Access to Citi’s Top Rated Advice to improve ESG
8 6
ESG Materials & Advisors rating
7 Generate Investor Support
for Transition
Investor Support & Communication
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