Quantifying the value in sustainable investments
Institutional investors are increasingly aware of environmental, social and governance (ESG) factors. But quantifying the benefits remains a challenge.
ESG or ‘sustainable investing’ has come a long way.
Many asset managers now include material sustainability criteria in their investment decisions. A recent McKinsey report found that more than one-quarter of assets under management globally are now being invested sustainably, i.e. according to the premise that environmental, social, and governance (ESG) factors can materially affect a company’s performance and market value. Why?
ESG investing is no longer just a way to meet corporate social responsibility (CSR) aims (often by making a trade-off  between impact and profits). Integrating ESG principles can deliver value by identifying hidden risks through the analysis of ESG information and trends. And ESG investments can enhance returns: for instance, analysis of car makers’ reaction to electrification trends could prompt an investment that is also more profitable than competitors over the long run.
The importance of measuring impact
As a result of ESG factors becoming deeply embedded into investment analyses and processes, investors and analysts are calling for guidance on integrating ESG data. As early as 2015, a Harvard Business School report recognized the risk that “if a certain level of rigor in impact measurement is not established across the industry, the label ‘impact investing’ runs the risk of becoming diluted and used merely as a marketing tool for commercial investors.”
In a nutshell, measuring financial returns is (relatively) simple. But how can we measure how responsible or sustainable an investment is? Techniques have moved beyond early ethics-based screening, which would avoid businesses involved in, for example, the arms trade or implicated in deforestation. Of course, this type of negative or exclusionary screening remains important. But to bring ESG investments into the mainstream, a less subjective perspective is needed.
A number of ESG value assessment methodologies are already in use. Many use the 17 United Nations Sustainable Development Goals (SDGs) as a yardstick, making for broad categories of measurement. A standardized method is urgently needed.
Freshfields’ ESG gold standard
At Freshfields, we are trying to help create an ESG ‘gold standard’ for impact investing, a type of sustainable  investment where societal impact is deemed as important as financial return. We want to be able to objectively advise our clients on which aspects of their business are ‘impact investable’ and how to maximize the effectiveness of their ESG investments.
We are extracting the quantitative (not qualitative) social impact return valuation methodologies used in the market or proposed by academia. That involves working with the University of Chicago and London School of Economics, as well as talking directly to social impact investment funds.
We want, if possible, to move beyond generic descriptions of social impact value – we are looking for what is actually being measured and how. For example, in gender lens investing, one of the metrics is the number of women on the board of directors. We strongly suspect that more complicated metrics are necessary for measuring poverty alleviation, hunger and healthcare, or education improvements.
Freshfields is at the forefront of the sustainability debate. Our upcoming event, the 4th annual Global Business Forum, in collaboration with Columbia University’s Richard Paul Richman Center for Business, Law and Public Policy, explores these issues in depth. Keynote speaker Paul Polman, a global leader in this field and until very recently the CEO of Unilever, as well as a host of other leaders in sustainability will share their critical thinking and insights on the challenges and opportunities of resource sustainability for global business.
Visit the Global Business Forum website to find out more about this year’s event, view the agenda and speakers, and look back on the highlights and key takeaways from the previous forums.