In our podcast episode, Lori Mathison, FCPA, FCGA, LLB, president and CEO of CPABC, and Andrew Sweeney, CPA, CA, vice president and portfolio manager at PH&N Institutional discuss how having an ESG strategy and committing to ESG reporting will be an increasingly important consideration in raising capital for your business. This is part of our ESG with Coffee Chats podcast series.
Responsible investment has been around for 20 years. What began as corporate social responsibility, and has grown considerably in recent years towards the more holistic concept of environmental, social, and corporate governance, commonly known as ESG. Since the Principles for Responsible Investment (PRI) were established by an international group of institutional investors to encourage responsible investing in 2005, there are now more than $110 trillion worth of assets reflected in the signatories to the PRI. This includes signatories who are significant capital holders and investment managers in Canada.
In 2019, the Principles for Responsible Banking were created, which were designed to embed principles of sustainable finance at the largest banks in the world. Signatories include five Canadian banks and credit unions.
As a result of both sets of Principles, we are seeing more investors evaluating a business' ESG strategy before deciding where to direct their capital. In turn, organizations are developing ESG strategies to gain access to capital, whether it be debt or equity.
PH&N Institutional’s vice president and portfolio manager, Andrew Sweeney, CPA, CA recently shared his insight on how having an ESG strategy and committing to ESG reporting will be increasingly important in raising capital for business.
You can listen to the full interview in our podcast episode.
What are some examples of key ESG considerations for responsible investing?
Andrew: Let me provide an example under each of the E, the S, and the G. Environmental is probably the most obvious. For example, we might think about the impact on climate in a particular investment and ask questions such as “Is climate change going to have an effect on a business, whether it's the short or long term?”
Social is probably the hardest one to pin down. We often look at labour standards that companies have for their employees, as well as their supply chains. With regards to their supply chains, we’d ask questions, for example, related to the labour standards of an offshore supplier with a manufacturing plant.
Similar to environmental, governance is a bit more intuitive. We’d look at the governance of a company, and identify whether they have an independent chair or whether the majority of their directors are independent. We also review the compensation structure, because many companies, particularly public companies, have something that's called a “say on pay”, where shareholders are able to vote on compensation packages.
These are the big three elements. And I think one of the critical points to make is, when people think of ESG, they automatically consider it as a risk. And while it certainly is a risk, there are also opportunities from ESG. And it's important to recognize that there can be many of these opportunities in an investment portfolio or for companies that focus on ESG.
Going through the exercise of looking at the E, the S, and the G, would help you assess the investment’s risks and identify opportunities. How would you take those factors and file them into an investment analysis?
Andrew: The best way to think about ESG is to look at the world with a broader perspective by taking a step and looking beyond the more traditional financial metrics. We often use the term “non-financial factors” to describe ESG and the way to position this is to consider that these are non-financial factors that may end up having a financial impact at some point. As a result, the concept of materiality can be quite important.
To bring this concept to life, consider a company that needs an environmental permit to build a mine, to expand a port, or to start a real estate project.
In these situations, we’d ask the questions, "Well, do we think they're going to get this permit? Do we think that the company or the entity has engaged adequately with the communities that are going to be affected so the community's going to support this? Have they taken the proper environmental steps?"
Whether the company gets the permit will have a significant impact on the value of the company. So even though the permit itself may not be in the financial statements or may not be something that's strictly financial, it ultimately does have a financial impact. Companies that consider these factors often will get their projects permitted, which then creates value for shareholders as well.
Are you seeing more companies commit to making ESG a part of their business strategy?
Andrew: ESG has come into focus in the last few years in the capital markets. If we look back to five or ten years ago, you’d only have a small minority of investors asking ESG-related questions. But today, I'd say virtually every analyst or every portfolio manager is focusing on ESG issues and asking those questions. As a result, I think companies will need to establish a credible ESG narrative to successfully access capital markets.
The mining industry has done a good job of presenting themselves as being part of a solution. They’ve developed a narrative that they're mining the materials, such as copper and lithium, we need for a greener economy. On the other hand, the energy industry has been less successful, which has affected their ability to raise capital. These two examples illustrate how important it is to have an ESG story that resonates with investors and the public. Companies would benefit by thinking through how they're going to position themselves and the things they're going to do to enhance their sustainability credentials.
With a lack of consistent standards, how are companies approaching ESG reporting and showing their commitment to ESG?
Andrew: The challenge that we hear from companies is that they have found it very difficult to do ESG reporting that satisfies the needs of all of their stakeholders. They're also frustrated that ESG reporting can take up significant amounts of time and resources. On the flip side, investors are often frustrated because there are no standards, and data is therefore not necessarily comparable between companies. The good news is that it does feel like a solution is on the way.
I’m excited by the creation of the International Sustainability Standards Board (ISSB), which will create a single global standard for ESG reporting. Standardizing ESG reporting will make the data much more comparable.
We see some businesses misleading their stakeholders about their ESG commitments. Is there a role for CPAs to play in enhancing the quality and comparability of ESG disclosures?
Andrew: In the past, corporate social responsibility (CSR) reporting was sometimes almost like a marketing piece prepared by corporate communications teams and did not have the same rigor that we might associate with MD&A or financial reporting. But stakeholders today, whether they are investors, consumers, or other constituents, have greater awareness of ESG and have higher expectations.
The good news for the CPA profession is that ESG reporting is becoming the purview of the CFO and is being considered an extension of financial reporting rather than corporate communications. In many large companies, ESG reports are now being reviewed by the audit committee before it gets published.
This creates a lot of opportunities for CPAs. If you think of the skill sets of CPAs, we know about data integrity; we know about controls; we know about monitoring and reporting. CPAs can play an important role in sustainability reporting by adding rigor to ESG reporting.
Listen to the full podcast episode to learn more about why understanding ESG is critical to CPAs.
Lori Mathison, FCPA, FCGA, LLB is the president and CEO for the Chartered Professional Accountants of British Columbia (CPABC).
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