We identified three main sets - communicative, learning and political - of ESG engagement dynamics which create value. This chapter focuses on the communicative dynamics.
Creating value by exchanging information
Clarifying expectations and enhancing accountability
A strong consensus emerged among all corporate interviewees that ESG engagement offers a unique opportunity to understand and clarify investor ESG expectations. This helps them to adjust and enhance their external ESG transparency and communication to investors. For instance, in one French multinational, human resource (HR) executives had developed an internal ESG policy to address discrimination concerning homosexuals in a specific country in which the company was operating. However, it was not until prompted by questions from investors that decided to disclose the information externally. Most corporate interviewees therefore, regard engagement as a way to better appreciate how investors perceive them and their activities, and to learn what their specific ESG expectations are.
“Engagement helps us better understand how people view us and what they understand about us. We will often then see that reflected in the language of our website.”
Investor relations, Chemicals, Canada
This willingness to adjust ESG communication to suit investor interests, is best exemplified by an interviewee who recruits external consultants annually to help evaluate how a number of important investors measure progress towards the United Nations Sustainable Development Goals (SDGs) by investee companies. The analysis is used so that the company’s external ESG reporting – and presentation of their sustainability strategy in particular – can be aligned with these investors’ expectations.
In general, we found that ESG engagement greatly contributes to improved corporate ESG disclosure towards investors and, simultaneously, enhances the information made available to a variety of other stakeholders, such as governments, regulators and non-governmental organisations (NGOs).
Managing impressions and rebalancing misrepresentations
Beyond the clarification of investor expectations, engagement allows companies to manage investor impressions of them. For instance, engagement can be used to convey a more accurate picture of company positions in ESG-related controversies, than that which may be portrayed in the media. Here, engagement provides an opportunity to enter into a dialogue in a less biased, semi-private context, where corporations can explain their side of the story.
The majority of corporate interviewees also stated that they aim to respond to all questions raised by any investor about controversies, regardless of their size or holding in the corporation. Some interviewees explained that this approach emerged from the recognition that a small, but vocal activist or ESG-specialist investor can shape the whole dynamics of a controversy. This type of investor’s “ability to reflect positively on the company or negatively on the company can outweigh their holding,” according to a sustainability specialist at a US food sector company.
Therefore, when carefully managed, ESG engagement can ultimately lead to enhanced corporate communication about ESG issues in the media, with the aim of rebalancing prior misrepresentations of the corporation and/or misplaced investor impressions of them. One European chemicals firm gave the example of a significant institutional investor bringing up an issue of “growing concern within the community in London and elsewhere”, and suggesting that the company seek to discuss the issue with other investors and the media. “They wanted to give us a chance to explain what we do. I thought that this was a very good thing,” the individual said.
Engagement can also provide more up-to-date information to refine investors’ internal ESG scores or external data-provider ESG ratings. Numerous corporate interviewees expressed their frustration with seeing their efforts to improve ESG communication undermined by investors’ reliance on an outdated ESG performance rating. For example, ratings that were dependent on outdated news reported in the media were deemed unfair. In such cases, ESG engagement allows corporations to provide updated data and a more nuanced explanation of their ratings to investors.
Specifying the business context
Most corporate interviewees also use ESG engagement dialogues to explain how their management of ESG issues is related to broader, strategic considerations. These dialogues are used to clarify the relationship of ESG issues with the overall business model, and/or the systemic functioning of the company.
This dimension of enhanced communication was most significant in the case of conglomerates. Interviewees from such companies consider conglomerates to be systematically penalised, because most ESG assessments by third parties or investors are based on industry-specific evaluation frameworks. As a sustainability practitioner in a UK food processing group complained, their company is “scored badly sometimes” by ESG rating agencies, “because the questioner hasn’t understood the makeup of our business and the questionnaire doesn’t fit that makeup.”
Beyond these cases, interviewees regard engagement as a way to make sure that their business processes and management systems are well understood by investors. They explained that during the engagement dialogue, they can clarify the connections between different ESG issues and provide a more systemic perspective on their ESG policies and performance. This allows them to explain trade-offs between the E, S and G dimensions of their performance, or the link between their ESG actions and overall strategy.
In some instances, our interviewees said that ESG key performance indicators (KPIs) were becoming integrated into the standard presentation of their corporation’s strategy to mainstream investors, in a general move towards further integration of ESG and strategy information. For example, a European oil and gas company noted that its targets for greenhouse gas reduction and total recordable injury frequency rates “are KPIs strategic to the company and are presented to the market during the strategy presentation”.
In general, engagement helps corporations develop long-term relationships with investors, so that investors can gain a more relevant and accurate picture of the business context, as well as the main drivers of the industry, and thus fully appreciate the management of a given ESG issue in the specific firm context.
Communication across companies and investors
“Ten years ago, we engaged [company] and it didn’t have a sustainability report. We wrote a letter to the CEO, and he eventually agreed that it made sense for the company to define itself. What we realised is that the company had great practices internally, but just wasn’t disclosing them. So we told them: “Don’t let other people define you, but rather disclose what you have.” And our guidance here was that for us, as investors, the more disclosure and transparency, the better.”
Asset Manager, US
The communicative dynamics mentioned by investors differ from those reported by companies in several ways. First, investors consider engagement as a way to alert potential investee companies of the relative importance of ESG issues, and to convey their expectations in terms of ESG performance and disclosure.
Second, and in parallel to the corporate quest for a more accurate representation of their ESG performance, investors also rely on engagement to seek out insights about current corporate ESG activities. In this regard, ESG rating agency information is usually used by investors as an early step in their engagement processes. Engagement can also be specifically motivated by the lack of up-to-date ESG ratings, or ambiguities created by contradictory evaluations of corporate ESG performance by different ESG rating agencies.
Third, we found a distinct benefit of enhanced communication for investors, in that it helps them to report, and be accountable, to their clients – asset owners in the case of asset managers, and beneficiaries in the case of asset owners – on how they are addressing their overall (ESG) fiduciary/stewardship duties. Simultaneously, engagement can enhance investors’ internal management of information regarding their investee companies, and in so doing help improve the quality of their ESG reporting and accountability not only to clients, but also to regulatory authorities and the general public.
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How ESG engagement creates value for investors and companies