How the COVID-19 pandemic is reshaping ESG
How the COVID-19 pandemic is reshaping ESG
Over the last decade, ESG (Environmental, Social, Governance) has continued to expand onto the investing scene with increasing demand. ESG, also known as “sustainable investing,” is an investment strategy that focuses on long-term value while addressing environmental, social, and governance priorities that positively impact and support communities at large.
Across all market sectors, companies and investors are shifting their efforts into creating robust ESG investment strategies to improve growth. This shift is reflected in investment data from Morningstar Inc., which estimated net flows into open-end and exchange-traded sustainable funds available to U.S. investors totaled $20.6 billion in 2019. That's nearly four times higher than the previous year.
Climate change has often held the ESG spotlight. However, the Coronavirus pandemic is rapidly shifting the sustainability conversation, bringing social and governance issues into focus. While countries around the world implement social distancing as well as order all nonessential businesses to close and workers to stay home, companies are facing unprecedented financial losses while making difficult management decisions. Many are being forced to lay off or furlough employees while workforce safety is becoming a critical issue along with employee benefits, supply chain management, disaster preparedness, and company continuity planning.
Now more than ever, ESG investors are focusing on how the world’s largest companies are implementing business continuity plans and treating employees during the COVID-19 crisis, along with customers, communities, the environment, and shareholders, bringing environmental, social, and governance priorities into question. Some of the issues in question include how employers are dealing with contract workers, whether companies have fired employees or are continuing to pay them during the pandemic, if employees are being provided adequate medical insurance, and if companies are allowing people to work from home.
An analysis from JUST Capital, an ESG research group, found that among the 100 largest U.S. employers, 36% have adopted some form of paid sick leave and 28% continue to pay hourly employees affected by changes in operational hours and closures. As many of these companies face greater scrutiny during the crisis, social, and governance factors are becoming key layers of diligence in evaluating an investment.
And rightly so: satisfied and engaged employees have been proven to have a substantial impact on company performance. A 2019 Gallup study found workers who ranked in the top 25% for employee engagement outperform those in the bottom quartile across a range of areas, such as customer ratings, productivity, and profitability.
ESG movement advocates believe companies that support their employees and customers in the crisis, along with their communities, could potentially perform better than those who don’t in the long run. Investors are also paying attention to which executives are taking pay cuts along with their workforce as well as watching to see if companies using stimulus funds for stock buybacks or employee support.
However, employee well-being is only part of the equation. Investors are also taking note of how companies are responding to and supporting their customers, as well as society at large. These actions have a strong impact on company reputation and brand equity.
A study by management software company Optimy found 60% of customers were willing to pay more for products from companies with reputable brands. Furthermore, 71% of millennials said they would choose to work for a company that has demonstrated a strong commitment to its community. Times of crisis provide the potential to build greater loyalty, improve employee satisfaction, and enhance, or hurt, a company's reputation, meaning social decisions can make a big difference.
Moving forward, companies should expect investors to continue asking more about social and governance issues. The pandemic is also opening up broader discussions on company operations in the future. For instance, did telecommuting work for your company and, if so, how could a permanent shift to a greater remote workforce reduce a company’s carbon footprint?
While the COVID-19 crisis is highlighting the social and governance component of these strategies, companies should not forget about climate change, as the world economies strengthen climate change topics will, again, become a priority. Ultimately, creating an ESG investment strategy will benefit any company hoping to attract investors and should help lower operating costs, increase cash flow, and ultimately improve asset values.