The Coronavirus can shake up the entire ESG investing

The Coronavirus can shake up the entire ESG investing

Even before so many had lost their jobs and were forming queues outside free food pantries, there was a raging debate about whether or not the current form of capitalism is sustainable. The governments across the globe need to intervene urgently to address burning issues, like ineffective tax policies, impoverished schools, limited social safety, and unequal access to health care. The private sector needs to take action too. Investors need to shift their mindset, which was all about maximizing near-term profits, to a broader one that assumes a greater responsibility to ensure the stability of our economy and its workers. The absence of these measures would mean a threat to our entire system. 

ESG investing is one such avenue that can hopefully tackle this inequality. Named after social, environmental, and governance factors, ESG investing first appeared in the early 2000s. It is gaining great popularity each day. The basic idea behind this is that investors incorporate ESG performance in their valuations of corporations and companies that will disclose more internal information and thereby improve performance in these areas. In the long run, this can help companies to strike a balance between their near term and long term benefits, and prove advantageous to everyone, from customers to employees, and from investors to the environment. 

There have been some dramatic ESG driven shifts in corporate behavior. As per evidence, investors, when they focus on a high-priority issue, are in a position to effectively press companies to release valuable information, such as on climate change. For instance, large companies like BlackRock, Vanguard, etc. agreed to disclose information on how they manage the climate effects of their business, following pressure from some of their largest investors. 

To date, however, the ‘social’ category in ESG lacks an urgent and unifying theme. Consequently, social considerations in ESG funds continue to remain largely ineffective. 

Inequality can, and should, become the focus for the ‘S’. The pandemic is an excellent opportunity in this respect. It exposes how precarious the lives of low-wage workers are, and also underscores our reliance on the services that these workers provide us. 

Investors should dig deep into the core business practices that lead to inequality, and take advantage of the opportunity to solve them. They should also press companies to provide them with more information about these, and about the workers involved. In particular, the effects of automation and outsourcing also require particular attention. Both of these have contributed to the rising levels of inequality, by having transformed the low wage workers in a way that even the current labor metrics cannot measure their inputs. 

In recent decades, outsourcing, both within the country, and outside to places where low wage workers are abundant, has grown. As a result, we have a massive number of workers, who are into low and high skill firms. This is because top-tier firms employ mostly educated workers who anyway enjoy better and more plentiful jobs. On the other hand, those who deliver outsourced functions are more likely to have lower-paying and lesser stable jobs, with little to no chances of growth. 

These effects are compounded by automation. It not only augments high-skill workers but also displaces those at the low end. High wage workers can now work from home. The mundane aspects of their jobs have been automated. Mid wage workers, from accountants to automobile manufacturers, have seen that their jobs are disappearing. They are thus, accepting lower-wage work, not out of choice, but out of compulsion. 

These two forces combined explain the difference between white-collar and low wage workers. Both of these workers benefit society in multiple ways. They also generate near-term cost savings for their companies, much of which are then passed on to shareholders. Overall, this increases the fragility of the systems. 

Though automation and outsourcing are inevitable and even desirable, investors have to encourage companies to manage these more responsibly. This translates to identifying areas where the marginal cost benefits are less than the relative cost that is incurred by workers and society. Of course, smarter and more targeted metrics are needed to help investors look for pieces of evidence of equitable risk and profit-sharing. 

For instance, investors can examine changes in payment terms when it comes to outsourcing relationships. These terms can also reveal when and how risks and costs shift due to power imbalances in unsustainable ways. Take the apparel industry for instance. Suppliers have seen payment timelines extend from 30 days to even 6 months after delivery. Consequently, suppliers are now under-write the inventory cost of large global buyers. 

In the coming months, as companies barely manage to stay afloat, problems will only intensify over time. 

Investors have a major role to play in ensuring that these costs are adequately shared. And while the exact metrics will differ from industry to industry, the above example is a good template, to begin with.