This article summarises the key points from a workshop on 15 September 2022 where private markets industry participants discussed how to prevent and mitigate negative human rights outcomes associated with their business operations and investment activities.
Organisations attending the workshop
- Control Risks – Yadaira Orsini and James Lewry (facilitators)
- Abris Capital Partners
- Blue Wolf Capital Partners
- Foresight Group
- Helios Investment Partners
- Partners Group
- Institute for Human Rights and Business
- Investor Alliance for Human Rights
This workshop, held under the Chatham House Rule, is the second of a four-part series bringing together private markets investors to discuss how to implement elements of the UN Guiding Principles on Business and Human Rights (UNGPs).
These sessions will also lead to new guidance in 2023 for private market investors on implementing the UNGPs.
Workshop 1: Identifying and assessing negative human rights outcomes (June 2022)
Workshop 2: Preventing and mitigating negative human rights outcomes (September 2022)
Workshop 3: Tracking and communicating management of negative human rights outcomes (November 2022)
Workshop 4: Providing or enabling access to remedy (January 2023)
Discussion findings are grouped into five main areas, as follows:
1. Analysing the local context
Businesses are influenced by the context in which they operate, whether this refers to the industry, geography, or another factor. Participants stressed that this local understanding not only helps investors to better assess human right risks but also helps them to better assess their ability to prevent and mitigate those risks more effectively.
Notably, the conversation raised the question of the extent of investors and their portfolio companies and assets’ ability to influence their operating environment for the better. In particular, the discussion highlighted the need for investors to consider how any new practices or structures they may seek to introduce in relation to human rights may end up destabilising the operating environment and potentially lead to worse human rights outcomes.
For example, participants discussed a real case of a portfolio company operating in a country with high levels of political instability and unrest, and where local politicians sought to interfere in the company’s engagement with local communities and labour representatives. Participants outlined how this heavily politicised context could have significant implications on any investor’s ability to change business practices to better support human rights such as employees’ freedom of association and collective bargaining.
However, the point was also made that investors should look to challenge existing malpractices as much as they can. An example was an investor looking to invest in a port operator: due diligence had flagged concerns about the poor standard of workers’ accommodation at a facility managed by the operator. Despite the accommodation having been previously inspected by the local authorities, it did not meet the country’s own legal quality and safety requirements. In this case, the investor was able to engage with its target prior to investment and receive guarantees that the operator would work with the authorities to remediate the situation.
“Is there room to challenge commonplace assumptions? We often hear investors and businesses saying that to operate in a given context, they need to adapt their practices and operate in a certain way, even though that might contradict the way in which they do business elsewhere.”
2. Assessing the portfolio company’s ability to prevent and mitigate risks
“As the investor assessing the human rights risks associated with a portfolio company, we want to find appropriate lines to draw around what should be considered criminal activity on behalf of the company and what is actually in the company’s control.”
During the first workshop, participants said it was important to assess portfolio companies’ ability to prevent and mitigate human rights risks as well as remediate violations so that investors could make better informed investment decisions. In this second workshop, the same point was raised, leading to two additional questions:
1) What human rights risks should investors consider as being under a portfolio company’s remit, and therefore what should be addressed or rectified by the company?
2) How can investors exercise and build leverage to prevent or mitigate potential impacts?
In relation to the first question, one investor referenced a human rights due diligence report that identified an instance of domestic violence occurring against an employee of a potential investee company. They said that investors need to consider the extent to which a portfolio company may be held responsible for ensuring employees’ wellbeing outside of the workplace and what, if anything, can be done to prevent similar incidents from occurring in the future.
The second question about exercising and building leverage, is related to an investor’s ability to enact change on human rights at the portfolio company. Participants said it was important to assess first how much the company management is willing to make changes, particularly where management doesn’t perceive human rights risks, or in some cases even may benefit from negative human rights outcomes.
Participants also discussed the role of including appropriate measures in the company acquisition documentation, most importantly in the shareholders agreement (SHA). Elements to cover in the SHA included:
- a corrective plan to address gaps identified in the due diligence;
- reporting requirements to track and monitor performance;
- an annual assurance assessment; and
- a clause allowing the investor to remove themselves from the investment.
3. Communicating expectations to investees
Workshop participants stressed the need to communicate human rights expectations to their potential investees. This includes General Partners (GPs) communicating with their portfolio companies, and Limited Partners (LPs) communicating to their GPs before committing to a fund. For LPs, these expectations may, for example, take the form of:
- governance requests (e.g., board oversight);
- pre-acquisition due diligence; and / or
- reporting requirements.
“Given that LPs are not involved in the assessment of investment opportunities after committing capital to a fund, it is crucial for them to conduct due diligence prior to committing capital to ensure that the GP has the policies, processes and the mindset that they are looking for. This will provide the LP confidence that the GP will themselves conduct proper due diligence on human rights issues when assessing investment opportunities.”
Participants suggested that an effective way to communicate expectations was by basing them on internationally recognised frameworks or conventions, such as the UNGPs, the International Finance Corporation’s Performance Standards and the International Labour Organisation’s Convention 169, or regulations such as the Modern Slavery Act in the UK and Australia.
Participants noted that issues arising within portfolio companies’ supply chains were particularly challenging to deal with. One suggestion was that communicating expectations should waterfall down the supply chain – in other words, the investor lays out their expectations on human rights to the portfolio company(s), which in turn outlines expectations within its supplier code of conduct to its tier 1 suppliers, then from tier 1 to tier 2, and so on. Another participant suggested using the same waterfall approach to push contractual clauses related to human rights down the supply chain.
Finally, participants said investors should be transparent with their clients and beneficiaries. This includes discussing examples where investors are limited in their ability to influence human rights outcomes and, in such cases, explaining their investment and ownership decisions.
4. Using effective tools and methodologies
Participants mentioned different ways that investors can ensure that portfolio companies are implementing adequate prevention and mitigation measures. These actions included:
- Appointing a third-party adviser who can conduct in-depth, on-the-ground human rights due diligence, and who can assess management’s willingness to enact change. The quality and depth of the adviser’s work may depend on a number of factors, including getting access to the company, the management team and key stakeholders, and the adviser’s ability to engage with stakeholders in the ‘right’ conditions – for example, conducting worker interviews without management present.
- Using forward-looking questions and assessments to understand how a change in the operating environment (for example, political events) can impact the human rights risk profile further down the line – and subsequently impact the investor’s and the company’s ability to prevent and mitigate negative human rights outcomes.
- Visiting and auditing suppliers – participants mentioned the Sedex Members Ethical Trade Audit (SMETA) methodology as one example of leading practice in this space. However, participants also underlined the increasing difficulty to conduct in-depth audits in certain jurisdictions.
- Participating in and supporting collaborative engagement – While participants recognised that investor collaboration is still limited in private markets, they underlined the benefits of seeking ways to collaborate with peers, both informally, through exchanging ideas or examples of successful practice, or more formally, through dedicated forums and initiatives. Examples of conveners and initiatives included:
“When we analyse labour rights issues, we will check many different sources of information – for example, age verification documentation, immigration status, time sheets, payslips, health and safety documentation, and management systems such as whistleblowing and grievance procedures.”
5. Engaging versus divesting
Participants discussed divestment as a potential last resort. In most circumstances, investors should first seek to use engagement levers, such as communicating expectations to investees, developing corrective action plans and implementing reporting requirements and adding clauses into SHAs. It was noted that divestment can be embedded as a potential outcome under specific circumstances – for example, embedding a clause that allows the investor to withdraw from an investment if there are human rights violations.
Participants noted that current approaches to engagement and divestment on human rights grounds are not applied consistently throughout the industry in large part due to investors’ differing risk appetites. More consistency in this regard was seen as essential to creating a more effective, system-wide approach to human rights.
“Some investors have built their reputation as responsible investors around the clarity and consistency with which they follow the standards that guide their investment decision-making.”
Key elements of an effective and consistent approach were suggested, including:
- developing clear guidelines for potentially divesting from a company or asset on human rights grounds;
- assessing the extent to which engagement has already taken place, and the results;
- ensuring that the reputational and / or legal risks for investors from engaging with national or local authorities in countries or regions where human rights violations are occurring are fully considered;
- assessing how any divestment decision may affect key stakeholders, such as workers and local communities; and
- understanding how any divestment decision might affect other business relationships in different geographies.