Stockholm (Nordsip) – Legal systems, rules and best practices related to corporate governance and sustainability in emerging and frontier markets are not yet fully developed, and there may be gaps in their enforcement. But this is only natural and understandable, given the definitions of “emerging” and ”frontier”. And there is certainly no reason to overlook these markets, especially given the many improvements and actions that are being undertaken with the aim to create well-functioning and attractive markets and companies that can stand out in the global competition for capital. Meanwhile, asset managers like ourselves who are active in the EM and FM universe, can conduct our own thorough assessments of corporate governance standards, in order to understand the boundaries within which issuers are expected to act, and upon which we should be able to rely when making and managing investments. Today, it is obvious that a robust bottom-up strategy with a long-term perspective should include not only a rigorous assessment of corporate governance standards, but also the long-term investment performance implications of the broader challenges and opportunities related to sustainability.
On-the-ground approach provides unique perspectives
The amount and length of reliable and comparable sustainability related data available in developed markets is still short (perhaps 10-15 years of data) if compared to data series on regular financial data (100+ years of data). Furthermore, most sustainability data is typically back-ward looking, released annually, and not integrated in the overall management discussion or ordinary financial reporting, calling for qualitative assessment techniques of most sustainability related factors, based on a significant dose of subjective judgement. This means that so called ESG (Environment, Social, Governance) data and ESG scores are far from, and some possibly never will be, standardized or commoditized in the way we have easy access to a wide and constantly updated range of financial ratios to guide our daily work. This is even more so the case in emerging and frontier markets where sustainability-related regulation, consumer demand or peer pressure is not yet forceful or impactful enough and where sustainability reporting is scarce or insufficiently reflects reality. Given this, EM and FM will continue to require a more hands-on approach to research and investment, for some time to come. Ever since East Capital’s first investments in 1997, we’ve seen how our on-the-ground presence and direct relationships, not only with management teams, boards and owners, but also other stakeholders around the companies, have been particularly valuable resources in order to pick the right companies and to understand and engage on company specific sustainability matters.
Our experience in EM and FM confirms the general view that companies that understand and appreciate the purpose of good corporate governance are more often well-managed in every sense, including understanding and managing the environmental and social perspectives comprising global issues such as climate change, pollution, biodiversity risks and resource scarcity, as well as concerns over human rights, health, safety and labour standards or corruption. Therefore, our portfolio managers and analysts typically start their analysis of a company with a review of the company’s corporate governance structure and practice. This is most obviously determined by a company’s shareholder structure. Who is on the shareholder list and what are the primary objectives and incentives of the major shareholders? Are they fully aligned with the interests of the minority shareholders? Ultimately, it boils down to determining if a company and its board are reliable guardians of the business and investors’ capital.
Active and responsible owners play important role
It is clear that relevant and material environmental and social factors can significantly impact the financial value and future position of a company, although it is also obvious that the type and size of impact still varies depending on the maturity of the regulatory environment and consumer pressure of that particular market.
As owners, we can actively encourage our portfolio companies’ management teams and boards to make sure that rigorous analyses are done to 1) identify and prioritise among their relevant and material environmental and social factors on a market, sector and operational level over the short, medium and long term and 2) address and integrate these into the company’s strategy. This is how we as investors can understand if the company has the capacity to create value, also in a longer perspective.
Allocating capital to support long term sustainable development
More themes are emerging as a basis for “negative” exclusion for international investors but, more importantly, we are witnessing an increasing number of sectors that provide exposure to interesting and inspiring themes for “positive” inclusion.
2015 clearly became a “super year” for the sustainability theme. With the UN conference on Financing for Development in Addis Ababa in July, the adoption of the new Sustainable Development Goals (SDGs) in New York in September and finally COP21 in Paris, global sustainability was firmly put on national and corporate agendas around the world. This will offer momentum for the many interesting investment opportunities offered by the increased attention on solution providers to global sustainability related challenge. This particularly clear in China, which is already today the largest clean-tech market in the world, further supported by the ambitious, but achievable, actions in the war against pollution communicated by the Chinese government in the 13th five year plan for 2016-2020. In the longer perspective we believe that we and other investors should see it as our responsibility, to actively contribute to the long-term advancement of the ESG perspective in the emerging market investment universe through actions such as:
- Picking companies that are transparent and well-managed in every sense or show a clear ambition and a path to get there;
- Engaging and building trusting relationships through meetings and discussions with management, boards and largest owners where relevant and material sustainability topics can be put on the agenda; and
- Initiating and maintaining dialogues with governments, stock exchanges and other authorities and institutions on further strengthening the local market framework
Picture: (c) shutterstock.com—javarman