ESG Wrap October

Welcome again

This month the team have put together a feature on how ESG is now fundamental in assessing companies.

Environmental, social and governance (ESG) issues have become an integral part of the investment manager’s analysis as they provide vital insights into future performance and valuation of companies.

“We see it as a fundamental part of assessing a company,” Dr Woods says. “It’s just a natural part of investing and the relationship we have with the companies we’re investing in.”

He says that investors generally have become more interested in ESG because their members are becoming more engaged with issues like climate change and human rights, and members want to know what the companies they’re investing in are doing.

He adds that investors also understand that ESG issues are critical to meeting their fiduciary duty. “If you think about big macro issues shaping the marketplaces that companies are operating in, a lot of them are environmental and social issues – such as climate change and demographic change – which will have, and do have, investment implications,” he says.

But Dr Woods says companies are also changing, with significant value now tied up in intangible assets, including relationships with employees, intellectual capital, suppliers, regulators, and the community and environment.

“Investors are seeing that, by understanding ESG issues better, they will understand how well a company is managing those key intangible assets,” he says.

Intangible assets are vital to company valuation because they affect a firm’s ability to execute their strategy and manage risk. That strategy execution and risk management, in turn, drive long-term earnings “which is really what companies are valued off”.

Dr Woods says that when AMP Capital looked to build an ESG framework, the company first thought about what it was, how it lined up with an investor’s fiduciary duties, and also how ESG issues influence the valuation of companies.

It then moved to define and embed the framework across its operations. “The key question had to do with those intangible assets,” he says. “How can we systematically think about a way where we can analyse and understand how well a company is managing ESG issues?”

Dr Woods says, in parallel, AMP Capital “made the realisation there are those big macro factors which are shaping the environment companies are operating in”.

He says AMP Capital, therefore, considers two angles: how companies are managing material ESG issues; and how big macro factors are shaping the growth prospects for companies in certain industries.

Dr Woods says it is becoming easier for companies to source ESG information. “We’re finding companies are increasingly getting better at disclosing ESG information as they understand investors are interested in those issues.” Investors can also access third-party providers of ESG information.

But importantly, AMP Capital has embedded it as a fundamental part of its analysis. Dr Woods says that when AMP Capital meets with companies they talk about more than just traditional factors such as capex cycles, capital allocation, operational costs and strategy execution.

“We also find out information about how they’re managing those intangible assets: how is customer satisfaction going? What is their employee turnover like? What is their REM (remuneration structure) like and what behaviours and performance are those structures going to drive?”