Governance & Responsible Investment:
Iain Richards
November 2013
Agenda
What
is our approach to Stewardship (i.e. of the Fund’s
investments) and the intergration of Environmental, Social &
Governance (ESG) issues?
What
does that mean in practice?
1
What is our approach?
1
Our Philosophy on Stewardship & Responsible Investment
Core to our investment philosophy is the belief that well governed companies are better positioned to
manage the risks and challenges inherent in business and to capture opportunities that help deliver
sustainable growth and returns for our clients overtime.
Effective stewardship and engagement will therefore benefit companies, our clients and the economy
as a whole.
Our fund managers, analysts and Governance and Responsible Investment team work collaboratively
to monitor and engage with the companies we invest in, with a view to understanding the dynamics,
opportunities and risks inherent in the businesses and to protect the interests of our clients and the
capital they have invested.
Integrating Environmental, Social & Governance analysis into the investment process is one aspect of
this.
In addition to exercising our stewardship and monitoring responsibilities, this approach enables us to
consider risks and opportunities of existing and prospective investments, which may not be captured
by conventional analysis. ESG issues are therefore one aspect of how we look to build a ‘perspective
advantage’ and ensure client portfolios benefit from our best ideas.
3
Industry collaboration and initiatives
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Signatories to:
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The UK Stewardship Code in 2010
The UN backed Principles for Responsible Investment (PRI) since launch in 2006
The Extractive Industries Transparency Initiative (EITI) since 2006
The Carbon Disclosure Project (CDP) carbon, water and forestry since 2005, 2009, 2010
Active members of:

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The Association of British Insurers (ABI) since 1998
United Kingdom Sustainable Investment and Finance Association (UKSIF) since 1998
The European Social Investment Forum (EUROSIF) since 2008
The Asian Corporate Governance Association (ACGA) since 2010
The International Corporate Governance Network (ICGN) since 2011
Global Investors Governance Forum (GIGN) since 2012
UK Corporate Governance Forum (CGF) since 2012
4
How we explain our approach and set out our stall
Describes how we apply
the seven principles of the
Stewardship Code and our
approach for clients, e.g. in
relation to company
monitoring, engagement
and collaboration with other
investors.
Sets out our approach to
integrating Environmental,
Social and Governance
(ESG) issues in practice on
behalf of our clients.
Practical focus on how
integration within the
investment process works
in practice.
Sets out our headline policy
and views on key principles
of real world corporate
governance (i.e. not just
Code governance) that we
draw on in our engagement
and in making our voting
decisions.
5
Develops and explains the
nature, scope and
approach to ESG analysis
and to the Key
Performance Indicators
(KPIs) that consider to be
particularly relevant, in an
investment context.
How does it work in practice?
2
Scope and capabilities
Responsible
Investment Strategy
Definition
Threadneedle
capabilities/
preferences
Applicable Fund
strategies
Integration

All equity funds and to
some extent corporate debt
and commodities
Types
ESG Integration
ESG is incorporated into investment
analyses and decision making
Engagement
Active voting and engagement in
investee companies
Engagement

All equity funds
Negative Screening
Avoidance of investment in targeted
companies, industries and countries
Ethical or
sector screen

All equity, bond and
commodity funds
Best in class

All equity funds
Thematic
investments

Property fund (Low Carbon
Work Place Fund)
Impact
Investment

UK Social Bond Fund
Positive Screening
Seeking to invest in companies with a
commitment to responsible business
practices or that produce positive
products and/or services
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Threadneedle equity investment process including ESG
Idea generation
Macro and themes
ESG topics form part of
thematic research and ideas
Company meetings
Where appropriate, company
meetings include GRI team
and/or ESG questions
Equity teams and other
Investment professionals
GRI team are part of the
investment professional team
Research / debate
Implementation
Stock analysis
• Proprietary ESG stock
analysis included in stock
reviews
Portfolio construction
• ESG included in global
sector discussion
• Ratings: MSCI ESG
research ratings (CCC to
AAA) used as a flag to
initiate and focus research
Risk management
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Monitoring
ESG analytics used
to review portfolios
on thematic issues
for information
purposes
Continuous
monitoring and
engagement on
core holdings
Company Ratings
While we use and talk a lot about ESG ratings (we use MSCI ratings) in a lot in our work, in practice we use a
variety of ratings and screening exercises to check companies across our investment universe: ESG Ratings,
controversy ratings, accounting ratings and other ad hoc screens.
One example of this is using accounting screens to rate the potential level priority that needs to be given to
companies, i.e. an additional objective look at those that merit a more detailed review and attention given they
have characteristics that could be associated with accounting problems (restatements, regulatory action, fraud):
•
Revenue Recognition – is accelerating top-line growth being driven by premature, non-recurring or fictitious
revenue activity?
•
Expense Recognition – are expenses being deferred/delayed to improve margins through the capitalisation
or amortisation of expenses?
•
Asset-Liability Valuation – is there a risk that assets (receivables) are being over-valued, could liabilities
(payables) be under-stated, is there a risk that reserves are being manipulated (pensions)?
•
High-risk Events – Are events that are know can be associated with accounting issues happening, e.g. M&A,
divestitures, restructurings, share repurchases, equity financing etc
•
Governance – management changes, compensation, financial reporting, insider trading and other governance
issues are key fraud indicators
•
Default risk – a combination of the above factors, liquidity and leverage factors and the Merton Distance to
default model.
9
ESG stock review process

Our proprietary research is a cross between best-in-class and an absolute
consideration of a company

We look for all aspects of ESG and transparent KPIs linked to financial
performance
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SWOT analysis and overall assessment of low, medium or high ESG risk
using various inputs
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The review includes questions for future engagement
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Thematic ESG research - Water
We aren’t able to publish our investment research, but do try and share the flavour of some of it in our Quarterly reports:
Currently, the water sector represents approximately 1% of world GDP (source OECD). However, the “true cost” of water is often
underestimated. The actual financial risk is realised when the excessive use or discharge of water is coupled with regulatory or social
sanctions which results in a change to these relative economics both on a macro and a corporate scale.
Water is a local issue and the problems and particularities vary substantially between different regions. With urbanisation and
population growth, individuals, agriculture and energy water use is rising rapidly. Aggregate world water demand is expected to grow by
55% by 2050. Working with the CDP water initiative (survey of 185 global companies) we find that 68% of respondents in 2012
identified water as a material business risk.
Illustrative Risks: Industries that are particularly affected include: consumer staples (food); energy and extractives (oil and gas);
utilities and consumer discretionary (textiles). Interestingly, many of the major drivers of these industries are closely linked to China.
China relies on 77% of its energy from coal which is the most water intensive energy sector, China produces nearly 40% of the world’s
clothing and China is one of the major consumers of food with the world’s largest population of 1.3bn people. Greater regulation and
scrutiny as well as a very real problem of scarcity have led these sectors to be increasingly concerned about how they are managing
and using water.
Illustrative Opportunities: These areas of risk pose an opportunity for the solutions providers. The water market has been estimated
at USD 400bn by Global Water Intelligence and opportunities exist in a very wide range of sectors with different characteristics
including IT/tech, utilities and industrials:
•
•
•
•
•
•
Water supply associated with big spend infrastructure renewal and supply projects - opportunity for pipes and parts
Water related IT - water reuse and in metering and billing of customers.
Providers of desalination solutions and membranes in industrial process water
Mobile solutions for water supply and treatment as the uneven distribution is often the major reason for scarcity
Energy efficiency and optimisation of water products is a key emphasis for customers and product evolution.
Ballast water treatment.
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Stewardship & engagement
12
Proxy voting policy and procedures

Active promoters of good governance and practice proxy voting globally across 50 markets through online
platform provided by ISS

Vote execution is outsourced to our back office
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Draw on best practice standards (e.g. UK Corporate Governance Code) but set out our own stall on what we
consider important
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Regularly engage with companies with focus on controversial issues
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Open discussion with fund managers and analysts
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Report internally and externally on proxy voting activities
Meeting
ID
Review
Ballot
Engage
Decision
Instruction
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Vote
Execution
Confirm
Vote
Follow up
with
company
Proxy voting – where’s our focus (year to date)
Resolutions Voted Against Management
50%
45%
44%
40%
35%
30%
25%
20%
19%
15%
15%
9%
10%
9%
5%
2%
1%
Reorganisation
and Mergers
Anti-takeover
Related
0%
Director Related Remuneration
Capitalisation
Other Business
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Shareholder
Resolutions
Case studies
3
Flotations (IPOs)
So what goes into looking at IPOs:
Point fund manager coordinates and
pulls together our assessment of:
•
•
•
•
•
•
•
•
What the business does
It’s business model
It’s growth drivers and markets
What can go wrong
Governance & risk issues
The financial analysis
Valuation
Price ranges
Multiple meetings can be held with
management.
External expert views can be sought
The investment case is debated
internally.
Approach to and strategy for
subscribing is designed.
Source: Bloomberg
16
Mergers & Acquisitions
Shareholder Threadneedle slams recommended
Xstrata-Glencore deal
LONDON, 1 Oct 2012 (Reuters) - Threadneedle
Investments, one of the 25 largest shareholders in
Xstrata, said on Monday it remains firmly opposed to
the recommended merger with trader Glencore,
which it says gives away the miner's future earnings
"on the cheap".
20%
15%
10%
5%
Xstrata
Glencore
0%
In a letter sent to the board of Xstrata, Iain Richards,
head of governance and responsible investment at
Threadneedle, described the process through which
the deal has emerged and evolved as "deeply
disappointing", and making "no sense" for its clients.
2013
2014
2015
2016
2017
-5%
-10%
-15%
"The apparent target fixation on doing a deal has, to our minds, been at the expense of proper
consideration being given to the quality and value imbedded in Xstrata and its good prospects as a standalone business," Richards said.
17
ESG Engagement – company specific (G4S)
G4S is one of the largest service companies in the UK with a turnover of more
than £1.2 billion and 40,000 employees. It’s 6,000 customers, include the
majority of UK Government departments and many schools and community
health centres.
However, the overall approach to corporate responsibility at G4S fell way below
industry standards and it had the lowest ESG rating we use ‘CCC’. Just some
of the many issues included:
•
•
•
29 fatalities in 2013 (to end September), 59 in 2012 and 74 in 2011.
The failed Olympics contract cost the company £100million pounds
Overcharging and inappropriate interpretation of contracts for the UK
ministry of defence.
Its fall from grace, however, provides a new opportunity to take an interest and
turn things around. Although previously we did not invest in the firm we are
now taking an interest
Shareholder focus and engagement doesn’t end once you change a CEO
(Ashley Almanza replaced Nick Buckles, May 2013).
The company is in a period of change (new management, new board risk
committee, expansion of country-reviews, a new internal risk team and an
overhaul of its approach to health and safety) and over the last three months
we have met them four times and had 2 additional conference calls.
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Source: Bloomberg
ESG Engagement – Thematic (Bangladesh)
Threadneedle is one of the signatories of a collaborative
investor statement focused on Bangladesh, alongside
approximately 202 global investor signatories representing $3.1
trillion of assets following the Rana Plaza building collapse.
In following up to the investor statement, the collective group of
signatories are working together to follow up on individual
efforts and encourage wider take-up of the Bangladesh Accord
and to achieve better disclosure by companies in this regard
given that it can be a material investment risk.
During just the third quarter over 200 factories were closed due to strikes from employees wanting wage increases and while
companies are usually able to divert sourcing, it does pose a business continuity risk. Furthermore there are continued incidents of
factory collapse yet there remains limited agreement on the individual cost of companies from signing up to the accord. In total the
group of companies have pledged $60million over 5 years. This could represent substantial change for the industry and while we
support the initiative we are mindful of cost inflation in the sector. We are hopeful that coupled with improved productivity better
practices should improve shareholder value in the long run.
Just signing up to a statement of support for the Bangladesh Accord is not our way. Over the third quarter of 2013 we were
engaging with 13 of our holdings in the clothing retail space. Our approach involved both clarifying basic issues, such as their
exposures and where their suppliers are located, how human rights and labour issues are discussed at the board and how the
company solves labour disputes in their supply chain, then following up with subsequent calls and meetings.
While some of the retailers, notably Inditex and M&S are at the forefront of managing this issue, many of the companies have very
limited disclosure and management of supply chain human rights concerns. Interestingly, most of these companies do not make the
location or number of suppliers transparent to investors and some companies admit to not having a good overview of the reach of
their supply chain beyond their local sourcing. As such it would seem that signing up to the Accord needs to be a progressive step.
As investors we recognise that general supply chain management and disclosure is essential to thoroughly assess wider investment
risk.
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Hot topic: Executive Pay
4
The New UK Framework For Reporting On Executive Pay
From October 2013, listed UK companies have to present shareholders with a new
format of reporting on remuneration
21
Where have we got to on FTSE100 CEO pay?
£5,000,000
Total Remuneration Awarded and FTSE 100 Index (excludes dividends)
£4,500,000
£4,000,000
LTIP EV
£3,500,000
Otpions EV
FTSE 100 Index at 31 Dec
Def Bonus
£3,000,000
Cash Bonus
£2,500,000
Other Remuneration
Pension
£2,000,000
Salary
FTSE100
£1,500,000
£1,000,000
5,896
6,268
6,296
5,618
5,165
4,391
6,457
5,412
4,814
6,014
5,700
5,898
6,559
4,562
3,567
£500,000
£0
1998
6,221
1999
2000
2001
2002
2003
2004
2005
Source: MM&K/Manifest
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2006
2007
2008
2009
2010
2011
2012
latest data
2012/13
Pay differentials – the figure companies really didn’t want to publish…
….. and lobbied hard against
Median Full time
Employee Earnings 2
CEO as Multiple of Average
Employee
£2,599,551
£22,518
115 x
2004
£2,786,143
£23,512
118 x
2005
£3,087,028
£24,399
127 x
2006
£3,304,533
£24,909
133 x
2007
£3,308,814
£25,629
129 x
2008
£3,876,921
£26,826
145 x
2009
£3,958,000
£27,509
144 x
2010
£3,895,000
£27,590
141 x
2011
£4,245,000
£27,817
152 x
2012
£4,771,777
£28,208
169 x
June 2013
£4,534,228
[£28,502]
159 x
Year
CEO Total Remuneration 1
2003
1. MM&K/Manifest
2. ONS data, adjusted to include employer pension contributions @ 6.6%
23
…. And don’t forget the pensions
The government’s employer rate for auto-enrolment starts from 1%
The Pensions Quality Mark only requires a minimum employer contribution of 6%
The average employer contribution rate is 6.6%
For executives the picture is as follows
Source: Lane Clarke & Peacock
24
How Concerned Are Investors At Large About Pay?
% of FTSE 100 Companies
96% of FTSE 100 companies
received more than 80% voting
support in 2013 (to Sept),
compared with 91% in 2012
Source: Deloitte
25
The Remuneration Report – how do we asses it?
There are an array of guidelines and checklists on executive pay, but at the end of the day what
does an assessment come down to?
For us it is based around whether I consider the arrangements to be:
1. Clear, simple and understandable
2. Balanced and proportionate – focus here includes structure, opportunity, quantum and
differentials (such as the broader market, employees generally, inflation etc.)
3. Aligned with the long-term strategy – e.g. related Key Performance Indicators (KPIs), risk
management discipline etc
4. Incorporating robust performance in long-term incentives – At least 3 years forward
looking and subsequent deferrals (both bonuses and long-term incentives) that are at risk
(malus or clawback)
5. Delivering outcomes that reflect value creation & the outcome for our clients (the key
issue)
6. Structured to avoid pay for failure
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Conclusion
We don’t make a big public ‘song & dance’ of it, but
responsible investment is part of what we do; part of how
we aim to look after our client’s assets.
It builds on our collaborative model and is integrated in
the investment process from idea generation and
analysis to monitoring and engaging with the companies
we invest in.
We try and give a clear insight into our approach and
work in this area, both through our policies, our quarterly
reporting and in meetings and briefings with our clients.
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Important information
This material is for information only and does not constitute an offer or solicitation of an order to buy or sell any securities or other financial instruments, or to
provide investment advice or services.
This document is a marketing communication. The research and analysis included in this document have not been prepared in accordance with the legal
requirements designed to promote its independence and have been produced by Threadneedle Investments for its own investment management activities, may
have been acted upon prior to publication and is made available here incidentally. Any opinions expressed are made as at the date of publication but are subject to
change without notice and should not be seen as investment advice. Information obtained from external sources is believed to be reliable but its accuracy or
completeness cannot be guaranteed.
This presentation and its contents are confidential and proprietary. The information provided in this presentation is for the sole use of those attending the
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Issued by Threadneedle Asset Management Limited. Registered in England and Wales, Registered No. 573204, 60 St Mary Axe, London EC3A 8JQ, United
Kingdom. Authorised and regulated in the UK by the Financial Conduct Authority
Threadneedle Investments is a brand name and both the Threadneedle Investments name and logo are trademarks or registered trademarks of the Threadneedle
group of companies.
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