Sustainable Investing

Finance and Sustainability

The Financial Case Empirical Studies Live & Model Investment

Portfolios Financial Analysis Incorporating

Sustainability Case Studies Logical Connection to Known

Value Drivers Socially Responsible vs.

Sustainability Investing

November 28, 2001

Sustainable InvestingWhat’s here & what’s notWhat’s here & what’s not

Here How do you think about the financial case for corporate

sustainability?

What are Wall Street investors are up to in this area?

Not here Other sections deal with how to work with internal financial

people and investors

Red hot investment advice

Sustainable InvestingFinance & SustainabilityFinance & Sustainability

Systems perspective

Capital & related financial services play crucial roles: Investment: capital formation for growth, compensation Insurance: risk underwriting let’s firms reduce the risk they

face directly Lending: capital formation

Sustainable Investing

Analysis by Investors• new risks• unfamiliar actors• connection to society is key• odd partners & opportunities.

Forces for ChangeForces for Change

Physical Forces• population• climate• H20• soils• megacities• etc.

Magnifiers• connectivity• transparency• social action• CNN World• victory of markets• etc.

Operating Environment for Companies• > expectations• accountability• disclosure• target for action

Sustainable InvestingForces for Change and FinanceForces for Change and Finance

For financial service companies: Lenders & Insurers: no upside, so risk management at

operating company is crucial. Understanding changes affects pricing (interest rates & premiums)

Investors: face upside and downside for companies’ performance as well as how they behave when combined in a portfolio

Intermediaries: face upside and downside for companies’ performance during transactions

Sustainable InvestingOverviewOverview

Sustainability and Finance The cases for connection & how they “fit” Socially Responsible Investing (SRI) Mainstream financial institutions System change

Getting CFOs to “Get It” Making the business case Creating value and communicating Targeting the right investors

Sustainable InvestingSustainability – Finance ConnectionSustainability – Finance Connection

The Case comes from:

Empirical Studies

Live & Model Investment Portfolios

Financial Analysis Incorporating Sustainability

Case Studies

Logical Connection to Known Value Drivers

Sustainable InvestingEmpirical StudiesEmpirical Studies

Most studies conclude there is a positive relationship between financial and sustainability performance

Problems with statistical approaches: Lack of data (i.e., What to really measure?) Causation vs. correlation Coincidence

Even if it were true, so what? “It doesn’t say anything about my company.”

Sustainable InvestingInvestment PortfoliosInvestment Portfolios

Asset managers using “best-in-class” on environmental and/or sustainability criteria overall have outperformed their benchmarks regardless of:

Active versus passive (index) Large or small companies US or global focus

Sustainable Investing

50

100

150

200

250

300

350DJSI

DJ WORLD

Total Return

Dow Jones Sustainability Index (DJSI) Performance 1994 - 12/31/00

Passively Managed Gobal Large CapPassively Managed Gobal Large CapPassively Managed Gobal Large CapPassively Managed Gobal Large Cap

Sustainable Investing

0

100

200

300

400

500

600World

Asia

Europe

Americas

DJSI Performance 1994 - 12/31/00 by Region

Total Return

Passively Managed Global Large CapPassively Managed Global Large CapPassively Managed Global Large CapPassively Managed Global Large Cap

Sustainable Investing

300

350

400

450

500

550

600

650

700

750

800

Aug 97 Oct 97 Dec 97 Feb 98 Apr 98 Jun 98 Aug 98 Oct 98 Dec 98 Feb 99 Apr 99 Jul 99 Sep 99 Nov 99 Jan 00 Mrz 00 Mai 00 Jul 00 Sep 00 Nov 00 Jan 01

SPG Price

MSCI World CHF adj.

CHF

Actively Managed Global All Cap: Sustainable Performance Group Actively Managed Global All Cap: Sustainable Performance Group

Market capitalization CHF 400 mio.

• Performance 1999: 36%

• Performance 2000: 17%

62.5%

32.2%

Sustainable Investing

SAM Sustainability Pioneer Fund Performance: November, 10 1999 – January 31, 2000

90

100

110

120

130

140

150

160

170

180

190

200

09.11.1999 17.12.1999 28.01.2000 08.03.2000 17.03.2000 30.05.2000 12.07.2000 22.08.2000 29.09.2000 09.11.2000 19.12.2000 31.01.2001

Date

Per

form

ance

MSCI World Small Cap

SAM Sustainability Pionier Fonds

46.2%

16.6%

Actively Managed Global Small CapActively Managed Global Small Cap

Sustainable InvestingEcoValue'21 Portfolio

Relative Performance Since 12/31/98 through 6/30/00 vs. S&P 500

-2

0

2

4

6

8

10

12

14

16

18

20

22

24

26

Per

cen

t

Difference

S&P 500

EcoValue'21 Portfolio

4.4% out-performance by EcoValue'21 portfolio

compared to the S&P 500

Passively Managed US Large Cap: Weighted to Environmental Leaders

Sustainable InvestingModel PortfoliosModel Portfolios

Innovest eco-efficiency premium

Top and bottom rated companies -- 1998 return

12/2

71/

101/

24 2/7

2/21 3/

73/

21 4/4

4/18 5/

25/

165/

306/

136/

277/

117/

25 8/8

8/22 9/

59/

1910

/3

10/1

7

10/3

1

11/1

4

11/2

8

12/1

2

12/2

6

Industry CategoryBest/Worst Symbol Company Name

EcoValue'21 Score

EcoValue'21 Rating

S&P CommonStock Rating

Aerospace/ Defense Best BA Boeing Co 1407 AAA B+

Worst GD General Dynamics Corp 912 CCC B

Chemical -- Specialty Best ECL Ecolab Inc 1585 AAA B

Worst IFF Intl Flavors & Fragrances 802 CCC A+

Chemicals Best DOW Dow Chemical 1510 AAA B

Worst FMC FMC Corp 1015 CCC B

Communication Equipment Best NT Northern Telecom Ltd 1794 AAA B

Worst HRS Harris Corp 1073 CCC B+

Electric Companies Best PCG Pacific Gas & Electric 1685 AAA

Worst FE First Energy 645 CCC B

Electronics -- Semicond Best INTC Intel Corp 1529 AAA B+

Worst MU Micron Technology Inc 1033 CCC B

Health Care Best JNJ Johnson & Johnson 1546 AAA A+

Worst MKG Mallinckrodt Group Inc 681 CCC B

Iron & Steel Best IAD Inland Steel Industries Inc 1365 AAA B-

Worst BS Bethlehem Steel Corp 1015 CCC B-

Paper, Forest Prods & Containers Best GP Georgia-Pacific Corp 1616 AAA B

Worst PCH Potlatch Corp 925 CCC B+

Petroleum Best TX Texaco Inc 1601 AAA B

Worst PZL Pennzoil Co 1057 CCC B-

Sustainable InvestingDetailed Financial AnalysisDetailed Financial Analysis

Best way to demonstrate that environmental and social issues can be “material” in specific industries and at specific companies

Can integrate analysis of sustainability issues with analysis of other financial issues

Few examples beyond WRI’s Pure Profit “Proves” business case only in specific instances, but shows the

way for main-stream analysts Is based on understanding causal relationships, not correlation

The next big horizon

Sustainable InvestingFinancial Analysis: WRI MethodologyFinancial Analysis: WRI Methodology

It is forward-looking and uses scenarios to envisage different futures

It can readily be integrated into conventional valuation techniques

Sustainable Investing

PHASE 1Identify salient impending environmental issuesPHASE 1Identify salient impending environmental issues

PHASE 2Develop scenarios around eachPHASE 2Develop scenarios around each

PHASE 3Assess individual company exposuresPHASE 3Assess individual company exposures

PHASE 4Analyze financial implications of each scenarioPHASE 4Analyze financial implications of each scenario

Financial Analysis: The Four StepsFinancial Analysis: The Four Steps

Sustainable Investing

Financial exposure of major pulp and paper companies to pending environmental issuesFinancial exposure of major pulp and paper companies to pending environmental issues

-15%

-10%

-5%

0%

5%

M B H D C J L I E G A K F

Exp

ecte

d F

inan

cial

Im

pac

t

(as

%ag

e of

mar

ket

val

ue)

Sustainable InvestingCase StudiesCase Studies

Anecdotes of financial experience of companies

Same old [tired] examples: 3M Interface Electrolux

Often not rigorous, but do bring some of the potential to light

It is not clear how much anecdotes matter; they don’t appear to move other people or organizations

Sustainable InvestingConnection to Known DriversConnection to Known Drivers

Standardized shareholder value Ecos Corporation screens for strategies that:

Improve margins Reduce risks Increase revenues Increase capital efficiency

Doesn’t “prove” business case; “proves” that the right sustainability strategies can produce value

Sustainable InvestingThe Overall Business CaseThe Overall Business Case

Preponderance of evidence Different methods Different data, time periods, analytical techniques

Doesn’t mean “be sustainable and financial success will follow”

A measure of good management Does mean that value is at stake: companies create or

destroy value on sustainability issues

Empirical Evidence

Sustainable InvestingSo Who Understands the Value of Sustainability?So Who Understands the Value of Sustainability?

Lenders understand environmental liability associated with properties & big issues, but most US lenders don’t see additional risks to their repayment based on sustainability performance

Insurers understand the connection to liabilities, but are insulated from many ongoing risks by contractual provisions

Reinsurance industry is beginning to understand climate change

Investors Socially responsible investors get it Mainstream showing hopeful signs but no more The CFOs of leading companies get the operating issues, but have yet to apply

the same to their role as investor in other companies both directly and through their pension funds

Sustainable InvestingInvestors on SustainabilityInvestors on Sustainability

Socially Responsible Investing (SRI) Most still just screen out undesirable industries & companies Some apply positive screens for good performers

Sustainable Investors Use “best-in-class” rather than negative screens Short track records, but interesting results Sustainability as investment insight

Mainstream Long-term value investors are place to start

Moving toward “best-in-class” and understanding the business case

Sustainable InvestingSocially Responsble vs. Sustainable InvestorsSocially Responsble vs. Sustainable Investors

SRI Avoid companies whose

industry or practices offend

Impact: raise cost of capital shareholder action

Sustainable Investing Select “best-in-class”

Not “good & bad”, but best prepared for Forces of Change

Impact: Create competition on

sustainability performance

Sustainable InvestingSocially Responsible/Sustainable InvestorsSocially Responsible/Sustainable Investors

Significant and growing part of capital markets in US, Europe, Japan & Australia

Reliable US estimate is $100B in US SRI mutual funds plus perhaps a slightly larger amount in private accounts

Sustainable InvestingThe Record of Socially Responsible InvestmentThe Record of Socially Responsible Investment

Morningstar:

21% of SRI funds in Morningstar database have 5-star ratings—twice the rate of the overall fund universe.

SRI funds look even better when compared to their specific Morningstar categories. ¼ have 5 stars; half have ratings of 4 or 5 stars.

SRI funds have top category ratings in seven different categories.

“That doesn’t mean social screens add value, but it’s hard to make the case that they subtract it.”

(source: Calvert Funds Presentation)

Sustainable InvestingMainstream InvestorsMainstream Investors

Main game in town

Some using “best-in-class” approach CitiAsset Mgmt UBS Credit Suisse Storebrand

Friends, Ivory applies sustainability engagement across whole portfolio

Hermes Investment Management: portfolio companies should report on “social, environmental & ethical matters”

Sustainable InvestingThe Value–Sustainability ConnectionThe Value–Sustainability Connection

Rules of the game consistently make doing the right thing economical

Companies articulate how they are creating value through sustainability

Investors have suitable means to incorporate sustainability into existing analysis

Sustainability contributes to investment outperformance

Becomes part of investors’ fiduciary duty

The System Conditions to Drive Change

Sustainable InvestingPathwaysPathways

World Resources Institutewww.wri.org/sep

We gratefully acknowledge the financial support of:

The Surdna, Joyce and Olin Foundations &

WRI’s Corporate Council and Partners

And the support and contributions of the talented staff of

WRI’s Sustainable Enterprise Program

Sustainable InvestingTerms of UseTerms of Use

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