People interested in supporting best practices related to environmental, social and governance (ESG) issues had a hard enough time figuring out where to invest before influential billionaire Elon Musk called ESG a scam earlier this year.
In May, Musk tweeted that “phony social justice warriors” had made ESG meaningless after Tesla, his electric-vehicle maker, was removed from the S&P 500′s ESG Index while ExxonMobil remained on the list. Confused investors naturally wondered how a company that exists to accelerate the world’s transition to sustainable energy could fail to make an ESG index.
Rating companies by ESG standards, of course, is a balancing act. As noted in a blog by Margaret Dorn, who serves as North America head of the S&P’s ESG Indices, while “Tesla may be playing its part in taking fuel-powered cars off the road, it has fallen behind its peers when examined through a wider ESG lens.”
In Tesla’s case, Musk thinks more emphasis should be put on the environmental part of the ESG equation. But the S&P 500’s wide lens looked beyond Tesla’s mission and identified claims of racial discrimination and poor working conditions at a Tesla factory, as well as the questionable handling of investigations related to multiple deaths and injuries linked to the company’s autopilot technology.
When it comes to setting ESG standards, differences of opinion abound—which impacts market trust. That’s why, as a Bloomberg report recently highlighted, there is a global push to address growing concerns over the lack of consistent standards for assets with the ESG label. But amid this push for clear and consistent ESG standards, another elephant in the room threatens to further confuse investors interested in making a difference with their money.
As the Socially Responsible Investing (SRI) industry evolves, it has increasingly voiced support for having greater impact. However, it is important to note that SRI and impact investing have traditionally had different objectives, with the former focused on mitigating the risk of harm and the latter being about supporting businesses committed to proactively making a difference.
“There is nothing ethically wrong with running a business to make money while taking appropriate measures to ensure operations are sustainable and socially responsible. But the impact investing community expects more than risk mitigation based upon ESG factors; therefore, the superficial use of traditional impact terminology by the SRI community is far from helpful.”
With the SRI industry talking more and more about impact assessment, these two worlds appear to be merging. Unfortunately, in the corporate world, positive talk doesn’t always translate into positive actions, which brings us back to the other elephant in the ESG room.
After researching the convergence of SRI and impact investing in France, academics Pierre Chollet, Patricia Crifo, Nicolas Mottis, and Diane-Laure Arjaliès published “The Motivations and Practices of Impact Assessment in Socially Responsible Investing” in Social and Environmental Accountability Journal—where they noted that the SRI industry was appropriating the vocabulary of impact assessment but not mirroring impact investment practices. An asset manager interviewed for the research noted, “Currently, SRI market practice in impact measurement can be characterized as relatively nascent. This is seen in the lack of standard definitions and methodologies for impact criteria, limited data availability, and the high cost of collecting and structuring data and developing relevant impact methodologies.”
The researchers concluded that “the penetration of impact measures into the SRI industry could either support the development of impact investing or threaten its meaning and legitimacy by confusing the two practices.” This is a significant issue for investors, especially if the global SRI industry follows the evolution of SRI in France, because SRI is a charging elephant, while impact investing is a relative mouse.
Estimates vary, but according to the Global Sustainable Investment Alliance, global sustainable investment topped US$35 trillion in 2020. As the Economist recently noted, about $25 trillion of this amount can be attributed to investing in assets that deploy ESG integration strategies, which simply means the systematic inclusion of ESG issues in investment analysis and investment decisions. In too many cases, the Economist argues, ESG integration is used to enable greenwashing or means little more than decision-making by “holding a finger in the wind.” Meanwhile, the market for impact investing pales in comparison to sustainable investing based on ESG. In 2008, for example, when ESG integration in Europe was worth an estimated €4 trillion, European impact investing was worth €108 billion.
There is nothing ethically wrong with running a business to make money while taking appropriate measures to ensure operations are sustainable and socially responsible. But the impact investing community expects more than risk mitigation based upon ESG factors; therefore, the superficial use of traditional impact terminology by the SRI community is far from helpful.
Investing always requires a certain amount of faith. But nobody should put blind faith in the convergence of SRI and impact investing because it isn’t a merger of equals.
The SRI industry might very well adopt impact practices. However, if the worst-case scenario comes to pass, we are looking at a takeover by a dominant player that has frequently engaged in greenwashing. And given today’s market challenges, the last thing we need is to give investors who seek to make a positive impact on the world another reason to stay on the sidelines.
What’s needed is more transparency when it comes to language, promises, and practices. To clarify the distinction between SRI and impact investing, all concerned—including corporate managers, the accounting sector, ESG indexers, market regulators, and industry standard setters—need to proactively work together to development standardized evaluation criteria and certification systems for both impact and SRI funds. In the meantime, both SRI and impact investors would benefit from more cooperation between the two industries. Actively sharing experiences and knowledge might even lead to the creation of a hybrid category like “impact SRI.”
Diane-Laure Arjaliès is an Associate Professor at Ivey Business School at Western University in London, Ontario, Canada—where she leads the Sustainable Finance Lab at the Centre for Building Sustainable Value and has a cross-disciplinary appointment in the Managerial Accounting and Control, General Management & Sustainability groups. Pushing the boundaries of knowledge and practice, she investigates how the fashioning of new devices and collective actions can help transform financial markets towards sustainability. Over the years, her work on the emergence of responsible investing, impact assessment, integrated reporting, and alternative currencies has been published in major academic journals across various disciplines and garnered several academic, teaching, and professional awards. During the Covid-19 pandemic, Arjaliès initiated and led Breaking Boundaries, an interdisciplinary, multimedia, and multilingual project to produce a lasting record of collective and individual experiences during the lockdown and its aftermath, which helped establish the accounting discipline’s role in recording critical moments in history. Arjaliès is currently working on an extensive research program on conservation finance, aiming to channel capital towards protecting ecosystems, notably through conservation impact bonds. Contact: darjalies@ivey.ca
Thomas Watson (Twitter: @NotSocrates) is a veteran business journalist, management consultant and communications professional with experience spanning executive education, thought leadership development, institutional storytelling, strategic communications, public and investor relations, and media production. As a Financial Post Magazine columnist and Editor-in-chief of Ivey Business Journal—one of Canada’s oldest business publications published by the prestigious Ivey Business School at Western University—Watson is recognized as an expert commentator on topics ranging from leadership and governance to managing disruption and the evolution of capitalism.
At Ivey, in addition to managing IBJ, Watson helps promote best practices in management by developing custom case studies and executive development programs. As a guest lecturer, he also shares his experience as a young VC executive who risked his career and reputation to expose the stock manipulation of a Canadian tech market darling during the dotcom boom. Watson’s insider account of this mind-blowing international scheme was featured by Canadian Business as a cover story in 2002. Entitled “The Man Who Ambushed Open Text: And How I Helped Him Do It,” Watson’s first long-form magazine article garnered comparisons to Liar’s Poker by financial journalist Michael Lewis. This led to an award-winning investigative reporting career. Highlights include: “Abandoned at the Altar,” an exclusive account of why Bay Street’s GMP Capital got cold feet when helping Ashley Madison’s corporate parent go public in 2010; “Shell Games,” an exposé of criminal boiler rooms that financed the Canadian expansion of Ben & Jerry’s during the 2008 financial crisis; “ABCP: Hunter and the Hunted,” a profile of the retail market rebellion sparked by Bay Street’s unethical marketing of high-risk asset-backed commercial paper; “The Trials and Tribulations of Brian Hunter,” an exclusive account of the 2006 implosion of the Amaranth Advisers hedge fund; and “An Apology for Eleanor Clitheroe,” a profile of the sexism and hypocrisy that derailed Hydro One’s attempt to go public with a female CEO in 2002.
Watson holds undergraduate degrees in history and political philosophy. As a graduate student, he studied journalism, political theory, international politics, public finance, and macroeconomics. Post-graduate studies included securities and market regulation.
