Our inaugural sustainable-investment roundtable comes against an intriguing backdrop. There’s no doubt ESG has taken on far greater importance to both managers and investors in recent years. Indeed, our host BlackRock released its defined-benefit pension survey earlier this year, revealing 57 percent of schemes have begun applying ESG criteria to their investments in the past three years, with 86 percent believing ESG criteria will play a bigger role in investing in the medium term. Even Norway’s famously oil and gas-friendly sovereign wealth fund is considering its position on some of those investments, while committing itself to ocean sustainability.
Yet, while the momentum is undoubtedly there, it could certainly do with an extra push. Responding to recent regulatory proposals on sustainable investment by the European Commission, the United Nations’ Principles for Responsible Investment network said that across the EU, “there is high awareness and intention, but low implementation” of ESG issues.
“Despite significant progress, some institutional investors believe that ESG issues are not relevant to portfolio value and are therefore not consistent with their duties,” UNPRI added. Our participants, obviously, disagree with this standpoint.
“Over the last two or three years, we’ve absolutely seen a growing trend where clients who are looking to commit to infrastructure products want to see how we’re incorporating ESG into our investment decision-making process and asset ownership. Some investors go a step further and are looking not just for ESG integration, but investment strategies that produce targeted sustainable outcomes,” declares Teresa O’Flynn, global head of BlackRock Real Assets’s sustainable investing team. O’Flynn, who was previously a manager in the firm’s renewables power platform, said this was a “footnote” when it was established seven years ago.
“If we as an industry are not striving for that as a standard and as a bar, I think we’re ultimately failing our fiduciary responsibility.” – O’Flynn
The theme of sustainable investment has its roots in the second half of the 20th century, going back to issues such as the Vietnam War and the civil-rights movement, according to Wessel Schevernels, division director at Whitehelm Capital, but has now taken on far greater importance.
“From a subconscious focus on screening by excluding investments to being more conscious, I think we’ve really seen the development into more of a proactive approach and then turning it into an opportunity,” he says. “I think the balance still lies in combining the two.”
Yet, with opportunity comes responsibility, and this shift is less a passing fad and more of a sign of generational transformation.
“The millennial generation has really embraced the social aspect of many services, including infrastructure, and shows great environmental awareness, too,” explains Valeria Rosati, senior partner at Vantage Infrastructure. “It is less likely that this trend will diminish in importance within the pension sector and broader society, because the current youngsters will be future pensioners. The duty of responsible managers is also to consider that intergenerational change.”
DATA IS KING
So, what do the clients want? Our LP representative at the table, Christian Storm Schubart, of Danish pension ATP, comes from a useful position – with the scheme being both a significant fund and direct investor and finds the pressure has increased for both LPs and GPs.
“There’s not a lot of reporting about ESG in terms of what’s been done by the manager and what has to be done,” he argues. “Managers have not always been good at describing what they’re actually doing and why, so that’s been a focus for a while. For starters, [we want to know] what are the material risks for a company, and how do you mitigate them? I don’t think it’s difficult for them to fulfil that basic requirement. I think this area is maturing and so there’s a lot of progress going on.”
Schubart is specifically referring to GRESB Infrastructure, the ESG scoring and benchmarking organisation assessing 75 funds and 280 assets, of which ATP was a founding member in 2015 and where Schubart sits on the advisory board. Members can see the strengths and weaknesses of their own portfolio, as well as gain insight into the practices of their peers.
“We push our asset managers both at fund and asset level to report,” he adds. “We can actually go in and benchmark different investment funds. This is not ideal at the moment, we still need a lot more asset and fund managers to report so the mass gets critical, but right now we’re using it as a dialogue tool.”
GRESB originally started its work in the real estate sector and O’Flynn believes the infrastructure industry could learn a lot from the way GRESB scores became embedded in LP documents.
“Numerous people think renewables don’t have any ESG issues. That’s where the importance lies for the less visible elements.” – Schevernels
“We can expect, as it becomes more established, that our clients are going to demand managers input into it, so you can get a rating relative to your peers,” she says. “GRESB not only satisfies the LPs, but actually it can give us a message as a manager on where we need to improve. We’ll definitely see the relevance of sustainability benchmarks increase as our clients are demanding more tangible proof of how we’re doing in practice and how we’re comparing with our peers.
“This is what our clients are looking for. They’re saying, ‘I get that ESG is important to you, I get that it’s part of your DNA, but actually show me how you do it in practice’.”
Vantage has made each of its portfolio companies take the GRESB survey, but Rosati is clear that submission should only be the start of the process.
“You have to understand what you have learnt from it because if there is no next step, then there is no point doing benchmarking,” she outlines. “If you talk to GRESB now, as opposed to a year ago, it is clear the survey that our companies took a year ago was different. A lot has changed and evolved in a number of areas, because GRESB took input [from LPs] and differentiated it.”
While GRESB’s fund and asset coverage grew by 17 percent and 75 percent respectively, according to its latest figures, the industry’s task remains tough.
“There could be good reasons for funds or assets not to have a specific policy on a specific area, but then you can have a dialogue around it, says Schubart. “I think GRESB is really good at helping us seeing these gaps.”
“The next step – making it a household industry name – is more challenging,” says Schevernels. “It’s interesting to see how GRESB will evolve, but no doubt you’re going to see other initiatives as well that will learn from it.”
MAKING EVERY STAKE COUNT
Schevernels also poses another challenge: how can those entering consortiums or acquiring minority stakes enforce an effective ESG policy when the industry remains fragmented in terms of standardisation?
“In a recent investment, we embedded ESG in the shareholder agreement,” he explains. “We embedded it on that level to provide clarity to management and our co-investors as to the firm’s commitment to responsible management, sustainability and ESG. And this is something which we are taking forward to make it standard, that the industry can take a step and that like anti-money laundering or anti-corruption clauses, ESG clauses become standard documentation as well.”
With all of our participants’ firms active in both debt and equity, O’Flynn extends this approach to debt investments too, where the opportunity to influence such outcomes is less obvious.
“We’re definitely seeing a growing trend in the infrastructure debt market where there is also an expectation from our clients that we can show how we are thinking about ESG integration in our investment approach and asset management,” she states. “It’s irrelevant whether you are debt or equity because at the end of the day, it still goes back to the basic fact these are physical assets in someone’s backyard.”
O’Flynn’s comments bring a nod of approval from Rosati, who adds that significant influence still lies in the hands of the debt holder.
“We have both debt and equity businesses, and we make no distinction in principle between actively managing assets and having a whole life cycle influence on ESG matters between equity and debt,” Rosati maintains. “In debt, influence might not be as direct as sitting on the board and setting the strategy of the company, but you can still influence by asking questions, requesting reporting and obtaining benchmarking data.”
While Schevernels points to examples of coal-exposed businesses seeking refinancing opportunities where debt providers can hold sway, Schubart begins at the start of the life cycle.
“It comes down to the beginning of you lending some money,” he says. “You have to be certain that you’re actually lending money to a project or company that follows the same cultures as your [actively-managed] site does.”
However, sometimes the ESG risks are less obvious and require a more rigorous approach during the investment phase.
“If there is no next step, then there is no point doing benchmarking.” – Rosati
“We have a wind farm in the UK and buried in one of the planning permission specifications was a requirement to curtail the wind farm during low wind-speed conditions, in order to protect the local bat population,” recalls O’Flynn. “If we had missed that in our due diligence, we clearly would have overstated our revenue because we wouldn’t have built that adjustment into our financial model.”
Schevernels agrees and offers a similar case. “We operate a wind farm in northern Scandinavia and numerous people think renewables don’t have any ESG issues. However, that’s where the importance lies in assessing the less visible elements. One aspect that we have managed there is the complexity of land rights, in this case not only with issues around supporting local communities but also providing safe access to migrating indigenous reindeer herders.”
“There will always be some ESG risk, it’s not dependent on whether or not it’s renewable energy or coal,” argues Schubert. “It could also be regulatory issues and you can really get into deep water if you don’t look at those risks.”
Rosati adds that the increased relevance of ESG has “changed the face of due diligence” at the same time as providing new opportunities.
“One of our most recent acquisitions was an Australian land-registry business. It was in government ownership and didn’t have any specific ESG culture, so there is a lot we can do to drive a positive change,” she says. “Obviously, it is normal to discuss ESG in relation to risks or when something goes wrong, but there is another side to it. ESG is also about capturing value.”
As our conversation deepens, there begins the realisation that the setting – an Infrastructure Investor roundtable – may be somewhat unhelpful in providing a unique echo chamber on sustainable investment.
“I don’t think that link [between infrastructure and ESG] is necessarily as widely accepted in the broader investment market,” muses Rosati. “For example, we have spoken to a range of independent valuers for our periodic review process. Based on those discussions, we have found that they are very rarely asked by their managers or clients to specifically incorporate ESG quantifications in the valuation. So, I don’t know whether we as participants in this roundtable are really a representative sample of the market standard.”
Indeed, the aforementioned UNPRI evidence provided to the European Commission cited a report from Mercer’s 2017 European pension fund survey, finding only 5 percent of 1,241 pensions have considered investment risks posed by climate change. This rose to 17 percent in 2018, albeit with 329 fewer respondents.
“I agree that if you’re closer to private assets, your ability to influence the outcome is definitely increased. However, ESG integration is also very relevant for listed infrastructure strategies. We are seeing an increased demand for ESG strategies within the retail market as well as with institutional investors,” O’Flynn says.
“Managers have not always been good at describing what they’re actually doing and why.” – Schubart
“I think we are blessed in the unlisted space by the fact that we can drive change directly,” adds Rosati. “Our asset management action strives to break down as much as possible the performance of an investment into what we did and what value was derived – also with ESG, although that can be more challenging.”
The investment time horizons of infrastructure investors can be a contributory factor in this ability cited by Rosati, according to Schevernels.
“I think it also has to do with the combination of the assets we invest in and the capital we manage, to make sure that there is a natural fit,” he believes. “For instance, not only investors, but also pensioners themselves are becoming more vocal and rightfully so, especially Australian superannuation funds. Maybe the classic private equity market has a different approach, whereas ours is more a common goal: to have a long-term, buy-and-hold view where those type of assets will be there with the investors providing the capital for the long term.”
Besides the long-term nature of the assets, ESG implementation is long-term in itself.
“Pushing the ESG agenda is time consuming,” Schubert contends. “When you do due diligence, when you do asset management. It’s not plugged in place, it’s not tick the box – you actually have to put a lot of time into it.”
However, O’Flynn sees the issue more as a natural course of events.
“I heard a pension fund manager state it wants not only to deliver strong pensions for its pension base when they retire, but also ensure that they get to enjoy that capital in a world that’s worth living in. Of course, that may sound warm and fuzzy at one level, but actually, if we as an industry are not striving for that as a standard and as a bar, I think we’re ultimately failing our fiduciary responsibility.”
That, to us, sounds like infrastructure investment in a nutshell.
Around the table
Teresa O’Flynn, managing director, BlackRock Real Assets
O’Flynn joined BlackRock in 2011 from NTR following a tie-up between the two. Initially joining to establish the group’s renewables power infrastructure business, O’Flynn now acts as BlackRock’s global head of sustainable investment, responsible for embedding sustainable investing themes across the BlackRock Real Assets portfolio. Prior to her time at NTR, O’Flynn worked on wind transactions for Irish energy group Airtricity, initially in Ireland and the UK before helping develop its portfolio in North America. She also sits on the World Economic Forum’s Future of Energy Council.
Wessel Schevernels, senior investment director, Whitehelm Capital
Schevernels has headed up the asset management of Whitehelm’s European investee companies as well as its global responsible investing efforts since his arrival in 2015. He joined from Dutch tank storage operator Royal Vopak where he had fulfilled a variety of roles since 1999. He now sits on the board of several of Whitehelm portfolio companies and is chairman of the board at Vopak Terminal Eemshaven, a tank storage terminal Whitehelm acquired from Schevernels former company in 2017.
Christian Storm Schubart, senior analyst, ESG, ATP
Schubart joined Danish pension fund ATP as an analyst in 2015. He arrived at the scheme following spells with Denmark’s oil and gas trade group Oil Gas Denmark and a spell at the Danish embassy in Malaysia where he focused on the energy sector within oil, gas and renewable energy, while also responsible for the embassy’s CSR projects. Schubart joined the GRESB Infrastructure advisory board in December 2017, which now consists of 11 representatives from pension funds and fund managers.
Valeria Rosati, senior partner, Vantage Infrastructure
Rosati leads asset management duties for Vantage’s equity investments and has been a part of what was previously the Hastings Funds Management team since 2006. She remains the portfolio manager of the Royal Bank of Scotland Group Pension Fund’s unlisted infrastructure equity mandate. Before joining Hastings, Rosati was an advisor for Gleacher Shacklock, originating M&A and equity transaction across sectors, including the utilities, transportation and construction spaces.