Written By Claire Kennedy, Jonathan McCullough, Anne McLellan and Vivek Warrier

Bennett Jones recently hosted a two-part webinar series on ESG and institutional investors. The first session looked at their role in ESG, private markets and investment, how risks and opportunities are being assessed in the boardroom, ESG performance in the energy industry and some predictions on what is ahead.

Here are the key takeaways from the first part of the series.

ESG Adoption and Systemization

Institutional investors play a major role when it comes to influencing the adoption of ESG, through a combination of their size and long-term investment horizons. They have to think about the perpetual opportunities for their investee companies, and how the importance of sustainability will continue to grow. Sophisticated institutional investors have their own ESG strategies in place to deal with its complex aspects across all of their asset classes.

We are also seeing a "systematization" of ESG, where it is simultaneously becoming more comprehensive and more rigorous—moving from aspirational statements to measurement and reporting with associated accountability. Institutional investors are increasingly evaluating the strength of a company’s ESG performance as part of their investment decisions and increasingly allocating capital on the basis of ESG criteria and risk profile, which affects valuations and access to capital.

Private Markets and ESG Investment

We are at the beginning of systemizing ESG in the private markets, but it is clear that investors are using ESG as a screen. Investors are allocating capital through an ESG lens, putting direct pressure on portfolio companies to meet their expectations. The biggest challenge is the lack of standardization and the fact that different ESG risks exist in different industries, businesses and geographies. Key reporting standards that investors are now considering are Sustainability Accounting Standards Board (SASB) Standards on materiality, and the Task Force on Climate-related Financial Disclosures (TCFD) framework on climate change.

Different asset classes in private capital also have different ESG issues and risks. Fixed income, private equity, venture capital and private debt each have specific investment strategies within their class which also present different ESG issues or priorities. In asset classes such as real estate and infrastructure, environmental concerns are key and that is where investors will focus their attention. In infrastructure in particular, another relevant factor is the role of government as (co)investor. It is important for private sector partners to communicate effectively with relevant government stakeholders on ESG priorities. In areas like private debt, alternative strategies and hedge funds, developing an ESG screen is at a nascent stage.

Small, startup or emerging companies may have a relative lack of resources when it comes to implementing an ESG program, but they also have an opportunity when building a board. Creating a board that is independent, diverse, inclusive and that has the right skillset sets up a company for success in ESG.

Identifying Risks and Opportunities in the Boardroom

Boards of directors are pushing their management to identify the risks that companies face, put in place plans and strategies to mitigate and adapt, and identify the opportunities that ESG presents. This will take different approaches. Financial sustainability, environmental sustainability and social sustainability mean different things for different companies and sectors.

Boards are now wanting management teams to be proactive in terms of engaging major investors, as well as stakeholders, to make sure opportunities and emerging trends are not being missed. Engagement has never been more important. A critical part of boards and ESG is having the right directors around the table.

ESG activism is clearly influencing investment decisions and this influence is growing. Activism is motivating individual and institutional investors, management and boards. It brings reputational risk, financial risk, the possibility of divestment and government risk through policy action. Companies and their boards need to pay close attention to the voices of activists and be ready to respond in transparent and accountable ways.

ESG Performance in the Energy Industry

ESG is far from new in the energy industry, but corporate strategies are tied to ESG principles more than ever. It is an inextricable link and is driven by good business. Canadian energy companies are relentlessly focusing on driving down emissions, sustaining and building on best-in-class environmental performance, engaging with Indigenous communities and engaging with stakeholders.

Energy companies have overwhelmingly adopted comprehensive ESG reporting, and access to capital is tied to that performance. Study after study has reported a direct relationship between ESG performance and cost optimization, asset optimization and overall enhanced financial performance. Canadian energy companies view broad adoption of ESG performance metrics as a competitive advantage globally relative to their peers in other countries.

Predictions and Looking Ahead

• Innovators who can anticipate some of the long-term shifts that climate change will bring and come up with solutions are going to have an enormous market impact, which will draw more people into the field. We are at an inflection point and for those who can see the opportunity and develop solutions, there can be big rewards.
• There will be an ever deepening commitment towards ESG principles from both the investing community and operating businesses that are seeking to attract capital.
• We will see the development of a standardized framework for ESG metrics and quantitative reporting. This will be very helpful to institutional investors in particular, but will also set the goalposts for businesses operating in any sector of the economy.
• Directors need to rigorously engage with their management teams to make sure that management is on top of the risks and the opportunities that ESG and long-term sustainability bring.
• Companies have to be focused on the long-term and not just the next quarter. Businesses that will stay successful and sustainable need to look ahead to where they will be in 2030 and 2050.

The full ESG Institutional Investors' Series: Session 1 webinar can be viewed here.

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