The need for investors to engage closely with businesses in emerging markets to derive value from their environmental, social and governance (ESG) attributes cannot be overstated.
This is increasingly important amid an ever-sharper focus on the extent to which companies exert a positive impact on the world around them – including the bottom line.
“We all know that sustainability, as a global movement, is gaining momentum,” said Greenberg. In September 2015, 193 countries adopted a set of UN-sponsored goals to end poverty, protect the planet and ensure prosperity for all.
Yet emerging market companies are typically perceived as laggards when it comes to sustainable practices. “Corporate interest in ESG considerations are generally lower than in developed markets,” he explained. “This is true at the institutional as well as the corporate level.”
Investors therefore need to get closer to companies in emerging markets – both to understand them and also foster change. And perseverance will likely pay off; there is a wealth of evidence supporting the view that long-term investment in companies with positive practices results in stronger performance.
Banging the ESG drum
The challenge in emerging markets largely relates to accessibility of information about a company’s ESG characteristics.
There is, however, scope for optimism. Greenberg sees emerging markets pursuing sustainable growth rather than the old model of cheap labour, cheap land and pollute as much as they want.
But even then, merely assessing ESG risks is insufficient, and simply looking at scores is a false precision. “We analyse ESG risk as part of our fundamental research of companies, but we do not stop there. We leverage the expertise of the engagement specialists within Hermes EOS, one of the largest corporate stewardship teams in the world.”
This process involves discussions with management at companies that have the willingness and potential to clean up their act in terms of improving ESG policies and practices.
Academic evidence is also supportive. Results published in 2013 of a joint study by London Business School, Boston University and Temple University, found engagements typically lead to a 1.8% additional return in the subsequent year, with successful engagements generating 4.4% more in cumulative returns.1
Committed to getting engaged
Armed with awareness that engagement should be a key feature of an emerging markets investment strategy, investors need to be committed to follow through.
The approach will vary from one company to the next. It might involve, for instance, advocating for the protection of minority shareholder rights; or promoting the importance of ESG risks in extractive-industry projects; or helping to prevent money laundering and advising on best-practice whistle-blowing procedures; or encouraging stronger consumer protection.
In all cases, responsible management needs responsible relationships with a variety of groups – employees, customers, community and government. While some compromise might be required to reconcile the interests of divergent groups, competent and effective management can find an ESG-suitable balance.
Ultimately, by improving a company’s business practices and governance, such engagements are likely to lead to sustainability in profits and a higher valuation of the business.
For further information, please see our global emerging markets page.
Gary Greenberg is head of global emerging markets at Hermes Investment Management
1 “Active ownership” by Dimson, E., Karakas, O., and Li, X. Published in 2013 by London Business School, Boston College and Temple University. https://www.hermes-investment.com/sg/blog/perspective/getting-engaged-uniting-performance-positive-change-emerging-markets/
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