Institutional investors play an important role in helping portfolio companies improve their social credentials, but issues must not be moved up and down the supply chain.
Supply chains can be one of the biggest sources of risk for environmental, social, and governance investors, as issues with a portfolio company’s supplier can often go undetected. The complexity of global trade has also increased the likelihood of human rights issues and social upsets being felt further up the supply chain.
Investors need to be vigilant of where their portfolio companies might have exposure to potential issues, according to experts like Vaidehee Sachdev, impact analyst and people pillar lead in Aviva Investors’ sustainable outcomes team. He describes exploitation of labour and poor work practices as “endemic” within global supply chains.
“Some 16m people are estimated to be trapped in conditions of forced labour or other forms of exploitation, with many more working under conditions of low pay or in unsafe working environments, particularly in high-impact sectors such as apparel, food and beverages, and ICT,” Sachdev explains.
Some 16m people are estimated to be trapped in conditions of forced labour or other forms of exploitation, with many more working under conditions of low pay or in unsafe working environments
Vaidehee Sachdev, Aviva Investors
“This means, whether they are aware of it or not, many companies are likely to be contributing to exploitation through their own value chains.”
Focusing on the ‘S’
While the focus in the UK has been on the impact of climate change, social issues such as workers’ rights are likely to garner more attention in the future, says Nick Mellor, senior investment consultant at consultancy Broadstone.
“We would encourage trustees to consider how investment managers are complying with the principles of the UN Sustainable Development Goals, as well as asking them to report if they are investing in companies that are not following the fundamental conventions of the International Labour Organization,” Mellor says.
When it comes to labour conditions in the supply chain, it is crucial that investors differentiate between “avoiding harm” and “doing good”, says Eszter Vitorino, senior adviser impact and sustainable investment at Kempen Capital Management.
“Avoiding harm refers to not investing in companies that are facing controversies or engaging with them for change,” she says.
“We engage directly with companies on these issues, collaboratively with other investors or stakeholders, and give input on regulation and public policy processes to mandate more robust due diligence or reporting on social issues.”
The data issue
A lack of data standardisation and regulation relating to the reporting of positive social outcomes has also hindered investors and asset managers’ ability to monitor social issues in the supply chain. However, there are some initiatives under way to help tackle this issue.
Sachdev says organisations such as the World Benchmarking Alliance — which aims to assess companies on their contribution to the UN SDGs and includes the Corporate Human Rights Benchmark — could help improve the quality of data available.
Meanwhile, regulatory changes such as the EU’s Corporate Sustainability Reporting Directive and mandatory human rights and environmental due diligence proposal will mandate companies to disclose more information, he adds.
“The draft EU social taxonomy is an attempt to define what desirable social outcomes are, which is certainly a welcome move,” says Vitorino.
“At the same time, it’s important to make sure reporting doesn’t become an insurmountable burden and that companies report on social issues that are most relevant in their case, based on an assessment done in consultation with stakeholders.”
Greater role for investors
Greater data visibility may not provide the panacea investors require, however. Will Pomroy, head of impact engagement for equities at Federated Hermes, says this level of transparency could lead to companies being penalised. This could make some management boards trepidatious, he adds.
“There’s a feeling of potentially being penalised for uncovering something that we all know is happening,” Pomroy says.
“We need to change the discourse a little bit and start from the premise that these things are happening. Therefore, we need to be more cognisant of what can be done to try to address some of the root causes around the economic stability of these business models.”
Sachdev argues that investors can play a greater role by doing more of their own due diligence to understand precisely what human rights impacts are embedded in their portfolios.
While engagement with companies is crucial, including other stakeholders such as worker organisations and unions might help bring about faster change, he adds.
Why the ‘S’ in ESG matters and how schemes can better understand it
The ‘social’ aspect of environmental, social and governance investments can be hard to quantify, but is crucial for pension schemes to get to grips with to meet their requirements in this area. Fortunately, there is help for investors to make the most of ‘S’ and spot long-term opportunities.
“We think this wider stakeholder engagement is undervalued and currently a marginal component of investor research, despite it being a valuable source of information,” Sachdev says.
Ultimately, investors may need to change how they think about investing, Pomroy adds. “The biggest thing that we can all do, as investors, is reverse the real or implied value we put on companies to generate near-term profits at the expense and abuse of that human commodity input,” he says.
Assessing supply chain risk may mean acknowledging unpleasant or inconvenient realities to some investments. This could provide a learning curve for some investors, but a necessary one for investors who want portfolios that reflect criteria like the UN SDGs.
