Investing in a Sustainable World: Why Green Is the New Color of Money on Wall Street

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[Kiernan – Genesis – 092208]

The Genesis of This Book

In one sense, this book has taken more than 20 years to write; it is the product of three different sets of experiences, dating back at least until 1987. At that time, I was a senior partner in the strategy consulting practice of KPMG, the global accounting and consulting firm. I was part of a team working on a billion-dollar privatization project in the forest products sector. (This was so long ago that a billion dollars was actually a reasonably significant amount of money!) The transaction came very, very close to collapsing, primarily because of community and governmental concerns about the project’s potentially adverse environmental and social impacts. Although I had completed a Master’s degree in environmental studies 15 years previously, this was actually my first practical, real-world indication that environmental and social issues could readily become critical business and financial issues as well.

The second set of experiences that directly catalyzed this book occurred several years later. I had left KPMG and had the unique opportunity to become a director with what is now the World Business Council for Sustainable Development (WBCSD) in Geneva, Switzerland. Founded in 1989 and led by Swiss industrialist and billionaire Stephan Schmidheiny, the WBCSD had been given the somewhat daunting task of representing “the private sector” and advising the Secretary General of the UN Earth Summit in Rio de Janeiro in 1992. In short order, Schmidheiny had managed to assemble a “dream team” of global industry titans: the chairmen or CEOs of leading companies, such as DuPont, Royal Dutch/Shell, Mitsubishi, Volkswagen, and Dow Chemical.

Despite having this “who’s who” of global business luminaries in tow, however, Schmidheiny could not in the early days recruit a single banker or financier to join the group! Normally, in my limited experience, invitations from multibillionaires are reasonably well received by bank chairmen. This is particularly true when the invitation also includes an 18-month opportunity to rub shoulders with more than two dozen heads of the world’s leading industrial companies (i.e., mouth-wateringly attractive potential banking clients!) Notwithstanding these commercial inducements—not to mention a fascinating, worthwhile, and totally unprecedented group challenge—Schmidheiny was turned down by the chairmen of several of the largest banks in the world. The reason? At that point, the bankers literally could not see the connection between what they did for a living and the future of the planet. As one bank chairman put it at the time: “But we don’t cut down any trees here at the bank; your mission has nothing to do with us.” Well, there you have it, then! Silly us for even asking!

Lacking a proper global bank chairman, it initially fell to me to coordinate the work of the WBCSD’s task force on capital markets. It was a galvanizing, breakthrough experience for me. For the first time, I began to understand the truly transformational potential of the global financial markets. They were, after all, the providers of the financial “oxygen supply” for most of the world’s largest companies.

I reasoned that even if major corporations had not in fact created 75 percent of the world’s environmental and social problems, they certainly represented at least 75 percent of the potential solutions. But in order for this to happen, their behavior simply had to change. I know of only two sure-fire ways to turn an industrial CEO into a sustainability advocate and practitioner. One is to ensure that his 16-year-old daughter consistently hectors him at breakfast about the deplorable environmental and social track record of his company. This is highly effective, but very difficult to pull off on any kind of a large scale!

The other way would be to send him a clear message through the financial markets. If his company’s share price suffered or desired bank loans became more expensive or even unavailable altogether because of significant environmentally or socially driven risks or poor performance, that would get his attention—and quickly! Now that could achieve a large-scale systematic impact!

First, however, there were two major obstacles to overcome:

• Investors first needed to be convinced that environmental and social (ES) risk, performance, and strategic positioning could actually be financially and competitively material; and

• Investors would need access to credible, financially oriented company research, so that they could begin to distinguish corporate leaders from laggards and then act on that information.

If the tepid response to Schmidheiny’s overtures to the global bank chairmen was anything to go by, it promised to be a long, uphill struggle indeed! Neither key precondition could be achieved quickly or easily, but someone had to start somewhere. I decided that the “somebody” might as well be me and that the “somewhere” needed to be the creation of a totally different kind of investment research company.

That new research vehicle turned out to be Innovest Strategic Value Advisors, about which we will hear more in Chapter 10.1 The 15-plus years that my colleagues and I have spent since then helping build Innovest’s global business have provided the third set of experiences that directly catalyzed this book. Over that time, my colleagues and I researched both the sustainability and financial performance of thousands of companies from all over the world. In some cases, we tracked them for a full decade; in virtually all cases, it was for a period of at least 5 years. The results of that research were unequivocal: companies with superior performance and positioning on “sustainability” (i.e., environmental and social) issues achieved, on average, superior financial returns. In the course of that 15-year period, I have personally “pitched” the sustainable investment thesis to hundreds of trustees at pension funds and foundations, to chief investment officers and senior investment bankers, and to pension fund consultants all over the world. The results of all of these interactions have convinced me of six fundamental “truths”:

1. Environmental and social issues and problems are not “just” problems on those levels alone; they are also absolutely—and increasingly—critical to the competitiveness and financial performance of both individual companies and the broader economies and societies in which they operate.

2. Any serious attempt to make a systematic impact on global environmental and social problems will absolutely require the fundamental reengineering of the very “DNA” of the capital markets. Those issues must be brought from the periphery of the investment decision-making process—at best—into its very center. Nothing less comprehensive could possibly suffice.

3. At present, most of the major players in the financial markets remain blissfully, if not determinedly, unaware of the close connection between companies’ ES performances and their financial results.2 And the vast majority of those few who have even considered such a connection are highly skeptical about it.

4. This lack of awareness—or even hostility—could be costing a lot of people a lot of money. Contrary to widespread belief among “professional” investors, the failure to systematically consider ES risks and opportunities in investment decisions is very likely impoverishing, not improving, their financial results.

5. This, in turn, means that ordinary investors and savers are essentially being short changed. There is a better than even chance that the managers of their pension plans and mutual funds are not performing as well as they could be. In brief, people’s money is being left on the table.

6. For this situation to improve significantly, all of the key actors in the investment “food chain” will need to be convinced of the potential materiality of ES factors to companies’ financial performances. This includes the asset owners and their trustees and fiduciaries, the asset managers, and the researchers, analysts, and consultants who advise them all.

Providing the arguments and evidence necessary to do that convincing is the primary purpose of this book. It is designed to accomplish at least four major objectives:

*To provide a compelling investment case—not necessarily an ethical one—for integrating environmental and social considerations directly into the investment process;

*To attempt to explain why, despite the powerful logic for doing so, this practice remains overwhelmingly the exception rather than the rule;

*To provide concrete examples of some leading-edge organizations that are pioneering new approaches—and several that should be but are not; and

*To provide both the conceptual and practical tools necessary to equip investors—both institutional and individual—to “future-proof” their portfolios by integrating environmental and social factors.

It will, of course, be for the reader to decide how well or poorly those objectives have been met. I, for one, have become absolutely convinced of at least one thing, however: that the systematic integration—or at least consideration—of ES factors has now become an absolute imperative. Both financial returns and the fate of the planet depend on it.

The book’s intended audience is necessarily a broad one: ordinary savers and investors (“Main Street”), professional money managers and investment banks (“Wall Street”), the trustees, fiduciaries, and investment consultants for pension funds, endowments, and foundations, and their professional staffs. It is also hoped that the book will be of interest and value to the executives, boards, and staffs of the companies that investors are evaluating and considering. At this stage of the game, the corporations are, on the whole, far ahead of their investors in this regard, but I hope that even they will find some new insights and ideas in this book that will help them do their jobs even better.

There is one additional—and powerful—motivation for writing this book. I hope that it will help to fill a critically important void that I believe still exists in the burgeoning literature about sustainability. In addition to a constant barrage of information in the daily media and popular press, a number of excellent books have been written on the subject over the past few years. At least two of them are being published virtually contemporaneously with this one. They are by world-class writers and thinkers Tom Friedman and Peter Senge.3 Those books focus on a number of the key elements in the “value chain of change”—government, private sector corporations, nongovernmental organizations, and civil society. While each of these sets of actors undeniably has a major role to play in the Sustainability Revolution, none, in my view, has anything close to the overwhelming, transformational power of investors and the capital markets. The financial markets constitute the “financial oxygen supply” for the major corporations that determine so many of the actual sustainability impacts and outcomes on the ground. Despite this, however, the sustainability literature has remained curiously silent on both the current and potential role of finance and investors. Since I firmly believe them to be the single most critical variable in the equation, this book is intended to focus attention there, where I believe it is long overdue.