Case study by bcIMC
We used the analytical expertise of both fundamental research and ESG specialists during the due diligence of a utility company’s initial public offering (IPO).
Specific ESG issues that were uncovered as a result, included:
Significant influence on board composition by the largest shareholder
Lack of detailed disclosure surrounding performance measurement metrics in management compensation plans
A complex transition from a crown corporation to a publicly traded entity, which could impact efforts to improve customer service
Lack of sector-specific expertise among some executives and the board of directors
|An employee shareholder plan that aligned interests and mitigated labour-relations risk|
ESG integration throughout the investment process
Challenges associated with evaluating IPOs can include:
- over-reliance on prospectus document disclosures;
- lack of publicly available information;
- short track records (often with new management and Board of Directors);
- absence of third-party research;
- tight timelines to make an investment decision.
In evaluating the utility company, there were several steps where ESG analysis directly added value. These steps are highlighted and indicated with asterisks in figure 1, and described below.
Prospectus and public disclosures
Both the fundamental and ESG teams reviewed the prospectus and other public disclosures and reported key initial findings. The teams operated independently to uncover issues from different perspectives.
Initial portfolio manager briefing
The two teams’ reports were combined into a presentation for the Portfolio Management team, which identified the key outstanding issues listed above as requiring further investigation. Using a presentation format enabled a frank and wide-ranging discussion of the pros and cons of the investment opportunity.
Company management interview
The reviews generated questions for the utility company’s management, including ESG-focused questions, which the fundamental research team was responsible for raising during the due diligence process. Investigating these questions provided the opportunity to learn how the company’s management was addressing key issues raised by the Portfolio Management team, and sent a clear signal that ESG considerations were a high priority for bcIMC.
- how the company intended to address operational efficiencies (based on past experience);
- the potential influence that the largest shareholder would have on the Board of Directors nomination process;
- further information on how executive performance would affect pay.
A SWOT analysis was based on discussion and analysis of the information gathered during due diligence (see below).
Investment score and research recommendation
We established an overall investment score using the analysis, including the SWOT framework and other fundamental research. The overall score included a weighted, risk-adjusted ESG score, which had collaborative input from the fundamental research and ESG teams. The ESG score was derived from a proprietary weighting of a number of environmental, social and governance factors that are specific to the sector. Along with proprietary weighting of four other fundamental categories, the overall investment score formed a key component of the fundamental research team’s investment recommendation.
Cash flow stability
Low cost of capital
Lack of detailed disclosure of management compensation
Lack of sector-specific expertise amongst executive and Board of Directors
High barriers to entry (monopolistic)
Constructive regulatory environment
Efforts to improve operational efficiency and customer service
Complex transition from a crown corporation to a publicly traded company
Competitive pressure for growth opportunities