WHAT IS EFFECTIVE STEWARDSHIP OF A FOUNDATION’S ASSETS?

By Tom Montagu-Pollock, co-head of charities at Cazenove.

In 1974, James Tobin, winner of the Nobel Prize in Economics wrote: “The trustees of an endowed institution are the guardians of the future against the claims of the present.” This has formed the basis of many endowment and foundation investment policies – targeting a level of spending that can co-exist alongside a perpetual timeframe (often described as investment return = spending + inflation).

Although this is a useful starting point, at Cazenove we have long argued that the concept of ‘guarding’ assets doesn’t reflect the new ways that foundations can choose to use investments both to generate returns and to further their aims through sustainable investment approaches. We prefer to think of trustees and investment committees as ‘stewards’ of the foundation’s assets.

The triple crises of climate, biodiversity loss and inequality introduce a new imperative for purpose-led investors –alongside generating strong financial returns for the future, how do we help shift towards a sustainable and fair economic system? And is it possible to have both: strong returns and invest in companies that deliver positive impact? We asked Willem Schramade, head of sustainability client advisory at Cazenove, for his views.

“There is no such thing as a free lunch.” “You can’t have your cake and eat it.”

Many languages have expressions that say that where there are benefits, there tend to be costs. This kind of scepticism is applied to sustainable investing as well.

The perennial client question is: does sustainable investing cost returns?

The short answer is no. Academic evidence (see for example the metastudies by Friede et al. [2015] and Atz et al. [2022]) shows that sustainable investing typically does not cost financial returns. But that doesn’t take away client concerns. And the more nuanced answer is: it depends. Yes, sustainable investment approaches can enhance risk-return profiles, by means of better risk management, better fundamental analysis, and/or more favourable factor exposures. But they can also hurt risk-return profiles due to excessive investment universe reductions. It very much depends on the goals and methods used.

There is much talk about sustainable investing methods (exclusions, environmental, social and governance (ESG) integrated, social investment, etc) and the data used, and indeed there is much to be discussed there. But it would be a shame to skip the goals. As the Roman philosopher and statesman Lucius Seneca is quoted as saying: “If one does not know to which port one is sailing, no wind is favourable.” In sustainable investing too, you need to know where you’re going to actually get there.

There are typically two types of goals in sustainable investing:

1. Sustainability as a means for achieving financial results (this is what most ESG integration is about)

2. Sustainability as a goal in itself: achieving better social and environmental outcomes, where clients may set very specific desired outcomes.

Increasingly, foundations want to be ambitious in both. The relation between these two goals is not straightforward – in some cases they reinforce each other, in other cases they involve trade-offs.

Let’s start with the first goal: improving financial results. At its most superficial, this is about avoiding risk. In its most ambitious shape, the goal is achieving a better understanding and management of risk, opportunities, and returns, in a way that combines data and fundamental forward-looking analysis. This can indeed improve risk-return profiles and is the approach we take at Cazenove.

The second dimension, sustainability as a goal in itself, also comes with varying ambition levels and is a decision for each foundation trustee board or investment committee. Most charities have some sort of investment policy to link their mission to their investment objectives, with the majority starting with excluding companies that contradict with their aims. In addition, many foundations are now aiming to select their investments for doing good, formulating positive selection criteria. The obvious way is to make investments that demonstrably make a positive impact. The less straightforward way is to invest in companies that have a negative contribution to social or environmental value, but with the commitment to strongly improve their contribution through active engagement.

The perceived trade-off between sustainably-run companies and the returns they deliver is misplaced. It is hard to see how returns can be generated without considering sustainability against the backdrop of the ongoing climate crisis clearly creating risks, opportunities and political and social interventions.

This highlights the importance of analysis and our evolving models. They are part of our effort to understand the risk-return implications of sustainable investing, especially where the data is fuzzy – while still applying a solid portfolio construction process. That is not a trivial pursuit. In that sense, there is indeed no free lunch.

Of course, foundations can show effective stewardship of their assets not just through what they invest in, but also how they act as owners. Foundations have the opportunity to be ‘active owners’ – to use their position as investors to influence companies and to drive positive change. Evidence suggests this can contribute to both financial and impact goals. Most foundations outsource this to their investment managers, so we asked our head of active ownership, Kim Lewis, to lift the lid on what it means in practice.

Why is active ownership so important?

Approached thoughtfully and with focus, we believe that active ownership can strengthen the long-term value of our investments and, at the same time, accelerate positive change towards a fairer and more sustainable global economy – which firmly aligns with the mission of many of our clients. We see it as crucial to delivering value to all stakeholders.

What do we mean by active ownership?

We’re really talking about three things –dialogue, engagement and voting.

1. Dialogue: These are fact-finding interactions where we’re getting to know the companies. Often, they’re led by the research teams or individual fund managers.

2. Engagement: This is where we aim to specifically influence change. It is important that we can articulate to clients the impact our engagement has had on companies and wider society, so we focus on setting robust SMART (specific, measurable, achievable, relevant and time-bound) objectives.

3. Voting: Equity investments give shareholders a vote and we vote on behalf of many of our clients. The right to vote can be a ‘sweet carrot’ or a ‘strong stick’ and we use it strategically, tactically and pragmatically to drive the change we would like to see.

From climate change to modern slavery to auditing scandals, corporate sustainability issues are very broad. How do we decide what to engage on?

We have identified six broad themes for our active ownership activity: climate change, human rights, diversity and inclusion, natural capital and biodiversity, human capital management and corporate governance. Our regular client sustainability forums allow us to understand what our clients care most about. Last September, we heard that their priority theme for investment remains climate change, with inclusion and health and wellbeing also important focus areas.

Our investors know their companies. They have a relationship with the management team and usually speak to them regularly. They’re often in the best position to influence change. Where we have engaged frequently and don’t see the required progress, we will generally escalate. This could mean voting against management or even divestment.

Amazon is a good example. Having engaged with the company for a number of years to improve the frm’s workers’ rights, we were not satisfed with the level of change. We escalated, predeclaring that we would vote in support of three shareholder resolutions at the AGM on the issue.

ShareAction's Voting Matters 2022 report examines how 68 of the world’s largest asset managers voted across 252 ESG resolutions in the 2022 AGM season. This report extends this analysis to a sub-set of 10 of the asset managers most frequently used by UK charities and foundations.

The opinions contained herein are those of the author and do not necessarily represent the house view. This document is intended to be for information purposes only. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The material is not intended to provide, and should not be relied on for, accounting, legal or tax advice, or investment recommendations. Information herein is believed to be reliable but Cazenove Capital does not warrant its completeness or accuracy. No responsibility can be accepted for errors of fact or opinion. This does not exclude or restrict any duty or liability that Cazenove Capital has to its customers under the Financial Services and Markets Act 2000 (as amended from time to time) or any other regulatory system. Cazenove Capital is part of the Schroder Group and a trading name of Schroder & Co. Registered Office at 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. For your security, communications may be taped and monitored.