Theresa Whitmarsh knows that measuring an investment’s sustainability or social impact is easier said than done.
Whitmarsh is executive director of the Washington State Investment Board, which two years ago approved an investment belief asking portfolio companies and external managers to improve their disclosure of climate-related impacts on performance. Since taking this step toward evaluating environmental, social, and governance (ESG) factors, the $108.5 billion retirement system has worked with other institutional investors to find and develop reliable metrics. But progress has been slow, Whitmarsh admits: “We have to tread carefully so that we can keep our fiduciary responsibilities and investment goals aligned.”
Growing institutional interest in socially responsible investing (SRI), which takes ESG factors into account, could speed things up. Through their ESG teams, blue-chip asset managers like BlackRock and State Street Global Advisors have started playing a bigger role in industry groups that push for better standards, a move that will help to set benchmarks, Whitmarsh predicts.
In September it was reported that TPG Growth, the $7 billion venture capital arm of private equity giant TPG Capital, is joining forces with global impact investing firm Elevar Equity to launch the Rise Fund. This new vehicle, which will make socially responsible investments and work with a partner network to establish metrics, aims to allocate as much as $1 billion.
“I think we are absolutely at an inflection point,” says Yovanka Bylander, Americas head of ESG solutions for Institutional Shareholder Services, the world’s largest provider of corporate governance and responsible investment solutions. “Our clients are getting questions on SRI/ESG every day now,” Bylander adds. “That to me is indicative that we’re moving in a certain direction.”
After seeing the WSIB and other institutions pressure companies to be more transparent, the Securities and Exchange Commission included sustainability factors in its recent proposal for changes to corporate disclosure, she observes. The regulator is considering asking businesses to report on potential risks related to climate change, resource scarcity, and human rights, among others.
“There are now big discrete allocations being made to SRI/impact, which is a change from a few years ago,” says Elevar co-founder and managing director Sandeep Farias. His outfit has attracted money from venture capital firms like Accel Partners and Sequoia Capital and from foundations such as the Michael and Susan Dell Foundation and the Omidyar Network.
Elevar may want to make the world a better place, but it also intends to make money. “Within the SRI space you often hear of funds that are impact-first, which we totally understand,” Farias says. Elevar prefers to look for companies that deliver both impact and commercialization: “If we see trade-offs between the two, we tend not to make those investments.”
The firm is more likely to invest in, say, a community bank focused on low-income individuals than in a fully commercialized company that donates to a cause. Its ideal target has created a tailor-made product or service that is scalable. “We want to find those entrepreneurs who really understand their business and what they want the outcomes to be,” Farias explains.
With that in mind, measuring a deal’s likelihood of commercial success and positive social impact is crucial. Elevar is reportedly collaborating with TPG Growth and Bridgespan Group, a nonprofit advisory firm whose expertise includes impact investing, on a metrics and monitoring process for the Rise Fund.
“One of the challenges with the metrics for these investments is how do you create benchmarks that can be applied universally?” Farias says. “There are industry-specific issues; there are geographical issues — it’s not one size fits all.”
Risk factors related to the environment and social responsibility are harder to quantify than governance risks, so metrics for them are less developed. So far, the WSIB has played to its strengths as a founding member of the Council of Institutional Investors (CII), an association of pension funds that presses companies to govern themselves better.
“That’s why our climate investment belief is focused on disclosure, because we are too far removed from the underlying assets to fully know what the environmental impact is,” the WSIB’s Whitmarsh explains. “Climate is just one example. We could talk about labor issues in the supply chain or inclusive capitalism or any number of concerns.”
ISS’ Bylander believes the key to success in SRI will be for managers and investors to take an incremental approach. Some managers have run into trouble because they rushed to respond to a request for a product but lacked the resources to maintain it, she says. “Or when investors try to dive into SRI all at once and don’t fully understand the massive culture shift that requires, then it becomes overwhelming.”
Whitmarsh agrees. “There is a big push from the active management industry to come to market with products, and some institutions have invested so that they can say they are aligning with SRI/ESG principles,” she says, noting that the WSIB prefers to think long-term. “Ultimately, what we want to be able to do is incorporate the evaluation of SRI/ESG principles into our fundamental investment analysis so it becomes part of our standard process, but we aren’t there yet.” •