As we enter the final stretch of 2021, climate change is now rightly being recognised as the defining challenge of our time.
In parallel, the theme of ESG, or ‘environmental, social, and governance’, has garnered unprecedented focus. In effect, ESG places a greater emphasis on understanding the wider impact of how money is invested, beyond the traditional measurables of risk, yield and performance.
Corporations are now climbing over one another to tell their ESG stories, point to their ESG wins, and position themselves as part of the climate change solution, not the problem.
However, despite the urgent discourse relating to the role of big business in addressing climate change, among other societal issues, for many onlookers, ESG still feels like a passive and outlying action point sitting in the shadows of many corporate business strategies (with accusations of ‘greenwashing’ typically not too far behind).
However, look a little closer and 2021 may yet be remembered as the year we witnessed the emergence of a bold new breed of activist investors set on redefining how we deliver ESG change.
What is activist investment?
In the past, activist investors were perceived as hostile corporate raiders seeking to push through aggressive strategic change to drive up underperforming share prices.
In the past 12 months, we have seen activist investors make headlines for very different reasons. Most prominent among this new cohort of activist investors is Engine No. 1, a small US hedge fund established in 2020 that manages approximately $430 million in assets.
The fund rose to global prominence in June this year when it emerged from relative obscurity to secure three independent seats on the Exxon Mobil board as part of its strategic efforts to pivot Big Oil away from fossil fuels toward cleaner energy.
Resonating with institutional investors
The firm, which holds a 0.02% stake in Exxon, sought to convince its fellow shareholders that Exxon’s resistance to addressing climate change in favour of maximising quarterly returns was ultimately diminishing its ability to deliver long-term profitability.
It argued that Exxon’s responsibility was no longer just to shareholders but also the planet. By extension, the fund advocated for a “total value” framework of analysis, one capable of driving performance by tying the corporation’s environmental and social actions to economic outcomes. Critically, its arguments were primarily strategic led, rather than ideological.
This carefully crafted campaign resonated with major institutional investors and secured the support of heavyweight global funds including Blackrock, State Street and Vanguard, among others. Since then, Exxon’s share price has risen by approximately 7 per cent (although this rise could be attributed to numerous different market factors).
In October, the fund took a modest $22 million stake in General Motors, on this occasion not to be an adversarial force but to strategically support its recent commitment to producing electric-only vehicles by 2035.
According to Engine No.1 founder Chris James: “There’s been a narrative for a very long time, that only technology companies can actually disrupt their own industry, and we just don’t think that’s true . . . We think, with the right management team, with the right investments, that they themselves can go in and disrupt the industry and be successful during this transition [to electric only vehicle production].”
Other prominent activist investor funds to emerge in the past two years include Inclusive Capital Partners, and Bluebell Capital Partners. The latter is currently lobbying chemical company Solvay’s board to remove its chief executive and end the practice of discharging chemical waste from its plant in Tuscany into the sea.
The focus of this new generation of activist investors is typically less on the corporates that are already getting their houses in order but those dragging their heels. “It is the dirty companies that are producing our problems,” according to Inclusive Capital Partners co-founder Lynn Forester de Rothschild. “We run to the companies that are creating the problems and fix them.”
Profit is still king
Of course, one would be mistaken for thinking these investors are anti-big business. Profit is very much still king. These funds would argue that a noble cause on its own, without the potential for profit, is unlikely to get you to your intended destination.
According to Rothschild: “It’s a fallacy to say that companies that perform well on ESG metrics have better shareholder performance across the board. It doesn’t work like that. You have to be surgical in finding those companies where the ESG activities are value levers.”
In effect, these funds seek to identify the sweet spot between addressing environmental and social issues and delivering positive shareholder returns.
However, they also recognise the need to be able to play the long game. In the words of Engine No.1 CEO Jennifer Grancio, the fund wants to “change the footprint of how they make money, how they’re successful in years five, ten, and fifteen.”
In a recent Bloomberg interview, Grancio looked to frame their business model in the more measured language of ‘constructive investment’, as opposed to activist investment.
Where to from here?
It would appear the days of corporate look-the-other-way wilful ignorance are a thing of the past. Media, shareholders, consumers and governments are asking the difficult questions of big corporates. The UK Government’s newly published Greening Finance Roadmap exemplifies recent hurried efforts to tackle greenwashing and standardise ESG reporting.
However, in the meantime, this new generation of activist investors has pioneered a novel path pursuing some of the most acute contributors to climate change. While their impact to date is difficult to quantify, one can probably assume that Engine No.1’s recent Exxon victory hasn’t gone unnoticed in boardrooms across the Western world.
The question now is whether this innovative practice becomes more commonplace. Proxy battles of this nature are, admittedly, not easy to pull off: they typically require highly sophisticated communication strategies, a deep war chest, battle hardened sectoral credibility, and an ability to harness the zeitgeist of the day.
In short, it is about bringing larger and more influential people and institutions with you on the journey; Engine No. 1’s Exxon success depended on buy-in from big banks and capital investors.
The answer to this question will ultimately be shaped by the speed and impact of future corporate and sectoral ESG policies and legislation, and more importantly again, whether activist investors like Engine No.1 can yield enough financial upside for other investors to follow their daring lead.
Paddy O'Dea is a client director at 360