|Name||Southern Asset Management (SAM)|
|Signatory type||Asset manager|
|Region of operation||China|
|Assets under management||US$250.3bn (as of 30 September 2021)|
|COVERED IN THIS CASE STUDY|
|Asset class and strategy||Fixed income|
|ESG issues||Environmental issues: environmental protection and animal health|
(Source: PBoC, CSAM, USD/CNY6.4854)
Why we do it?
We believe that stewardship is an effective strategy to improve investees’ long-term competitiveness and to strengthen our portfolio performance, and that it is also part of our fiduciary duty. The most material risk faced by fixed-income investors is default and liquidity risk. We believe that continuous monitoring, on-site investigation and understanding company fundamentals, including issues related to climate change, biodiversity, etc., are effective ways to reduce portfolio risk.
How we do it?
SAM closely engages with listed companies, bond issuers and policy makers. We incorporate ESG issues into our engagement with listed companies and bond issuers to improve the ESG awareness of investees, optimise their governance structures, and create a better investment ecosystem. Our stewardship strategy also encourages regulatory engagement to improve the sustainable development of the entire sector where our investees operate. In cases where engagement with issuers is ineffective, we may vote against management.
Among other things, environment and climate change are key issues we are concerned with. After China announced its commitment to carbon neutrality, SAM set up an internal carbon emissions database to track the carbon footprint of our portfolios and continued engaging with portfolio companies with significant carbon emissions to support their journey towards decarbonisation.
Our carbon emissions database covers all our portfolios, using third-party data, financial technology and algorithms. We selected 100 companies with the most significant carbon emissions in the database as our targets for stewardship.
We monitor and assess the progress made by portfolio companies based on our proprietary scorecard where we assess their climate-related risks, their governance of climate risk, strategies to address them, and climate-related disclosure.
Many large state-owned enterprises (SOEs) are quite receptive to investor suggestions, especially when it comes to the topic of carbon neutrality. Even as a minority shareholder, we are able to effectively engage with many SOEs. That’s because we are a long-term shareholder and have established mutual trust and confidence with our portfolio companies. Our analysts follow the companies for years and know their fundamentals and development strategies very well. These companies also value our professional suggestions based on our in-depth industry research and global best practices such as those promoted by the Science Based Targets initiative and the Transition Pathway Initiative. Those suggestions contribute to constructive discussions on the development of credible transition pathways.
Engaging with a bond issuer to improve animal health and reduce pollution
Company Y is a listed company and one of the largest pig farmers in China. After the outbreak of African swine fever (ASF) in 2018, its issuance of bonds became difficult, the credit spreads of its existing bonds soared and liquidity dropped greatly, presenting both a risk and an opportunity for fixed income investment.
ESG factors are material to investment in agriculture and the farming industry. The sector’s principle adverse impacts on the environment are inappropriate land use, deforestation and outbreaks of infectious disease. At the time of the pig industry crisis, our analysts visited Company Y, a potential investment target of SAM, to investigate its epidemic prevention and environmental protection practices.
During the investigation, our analysts actively urged Company Y to improve its ASF protection mechanisms and continue to improve its animal welfare standards. Our analysts made suggestions based on the Terrestrial Animal Health Code, including upgrading the design of its pig housing, and reducing the risk of carrying and spreading viruses by reducing the movement of people. Our analysts also inquired into environmental protection related to its pig houses and urged the company to improve green agricultural production and innovate regarding its environmental protection technology. For instance, we suggested that Company Y develop a circular economy approach covering cultivation–biomass fertilizer–green farming in the production process, innovates automatic breeding equipment, and implements digital pig-house management to prevent the spread of ASF and mitigate environmental pollution.
Company Y responded positively to the questions and expectations raised by our analysts, because it recognised that improving its epidemic prevention capabilities and regaining the approval of the capital markets are priorities. Its board secretary and CFO stated that they would take measures such as improving equipment and management, applying cutting-edge environmental technologies, upgrading pig farms and hiring experienced and responsible breeders. To prevent disease, the company established a biosafety working group headed by the company’s senior management, which is responsible for preventing and containing epidemics. Among other things, Company Y also increased veterinary R&D investment, strengthened its early warning systems, strictly controlled the entire process, and also added ventilation systems and constructed closed and intelligent pig houses.
Our analysts followed up on the implementation by Company Y after their investigation. They communicated with the company on a regular basis to keep track of progress. They also verified that progress by communicating with its supply chain companies. When we learned that some peers blindly adopted unapproved vaccines for prevention and control at the beginning of the ASF outbreak, which resulted in a significant reduction in pig production capacity, our analysts expressed such concerns to Company Y. The company assured them that it would adhere to biosafety prevention and control measures and would not use unapproved vaccines.
After confirming that Company Y has effectively improved its epidemic prevention and was operating steadily, our fixed income investment department increased the investment in its bonds in 2019 to support its expansion plan. Company Y subsequently effectively reversed the decline in its operations and became one of the largest pig producers in China.
Challenges and recommendations
In China, the main challenges to stewardship are the lack of a consolidated framework for ESG information disclosure, difficulty in gathering information, issues over information credibility and information asymmetry. Although engagement with private enterprises is relatively smooth in China, we still face information credibility challenges. We hope that standards for ESG information disclosure can be released by regulators as soon as possible.