Are ESG comparisons fair?

6 minute read

What does sustainability mean in the context of infrastructure and why is it so important?

Most LPs view infrastructure as a long-term and low risk investment. That is what they are looking for from this asset class. But that can only be achieved if there is a long-term approach to the underlying risks.

In its broadest form, sustainability simply means taking a long-term view of the envi­ronmental, social and financial context in which your asset is operating. Although own­ing trophy assets has its attraction for some, investing in infrastructure isn’t about owning steel and concrete! Longevity and predicta­bility of outcomes is key and anything that undermines that longevity and predictability should be seen as a material risk.

Take ports, for example. Although it’s not an area where we invest, the investment rationale is typically predicated on an expansion in global trade, with local factors over­laid. But how much consideration do LPs give to the fact that ports – especially when including the emissions of the shipping traf­fic using their facilities – are some of the most polluting assets in the world? How much time is spent considering contingency plans for rising sea levels?

There is a real risk that either these as­sets are going to be worthless at some point or else you are going to have to pour a whole load more concrete to keep them above sea level. With such examples, long-term sustainability has to be called into question – which then begs broader questions around the level of growth in global trade, potential benefits of limiting the distances goods are transported, and so on.

What systems or processes do you have in place to ensure sustainability is core to your investment decision making?

This is something we have been focused on for a very long time. We were a founder of the UN-supported Principles for Respon­sible Investment. Now, of course, almost everyone is a signatory, so it isn’t something that really stands out. But it has been in our DNA for decades.

Aviva Investors, as a company, has a sub­stantial and high-profile global responsible investment team focused on implementing ESG criteria, as well as being active in the market reform arena. Historically, this team has concentrated primarily on liquid mar­kets, be that fixed income or equities.

We have always been a vocal investor on these matters. If we believe a listed company has fallen short of our standards, we will en­gage with them. If that engagement doesn’t achieve what we want it to achieve, we will vote accordingly.

The challenge now is to translate that extremely detailed, market-leading level of engagement into the real asset world. The terminology we use to describe our ap­proach to this is ‘responsibility built-in’.

We are always focused on constructing the right outcome for the client. In the past, that would centre on whether that meant yield, or total return, or inflation linkage. In terms of our infrastructure investing activity, we have always focused on assets that bene­fit wider society. Increasingly, however, LPs and the wider market are more focused on how we incorporate responsible and sustain­able criteria as a critical component of the outcome being targeted.

And how are investors approaching due diligence around sustainability? What is it that they want to see?

There is a significant desire for LPs to be provided with information around ESG performance. The problem, however, is that investors don’t always know the right ques­tions to ask and, by inference, won’t always know when they get a good answer.

It is not unusual to see ports and airports scoring better from an ESG perspective than a renewables company. How can that be?

For example, we have made significant investment in schools, health facilities, re­newable energy, energy efficiency assets and rural ultrafast fibre network rollouts. Implicitly, these have a social benefit and positive environmental impact.

We need standardisation so that there can be a true and fair comparison.

That is why we became a founder mem­ber of GRESB Infrastructure and are one of a small number of GPs that sit on the advi­sory board, trying to provide some real-life context to what GRESB Infrastructure is aiming to achieve – a holistic, peer-to-peer comparison of the ESG implications of in­frastructure investment.

So, how can standardisation be achieved?

There is great work being done, but we are still some way off. Even measuring environmental impact – where you might think metrics around carbon emissions, for example, provide some degree of standardisation, there is no fixed methodology across infrastructure assets for how that is calculated.

For example, most investors will report on annual carbon emissions. However, you don’t see any sort of ‘balance sheet’ that shows how much carbon has been sunk into the ground because a whole lot of concrete has been poured. Obviously, this should be a key metric for large assets such as airports, ports, toll roads, etc, but it is also relevant for all infrastructure assets – even renewa­ble energy assets – where steel and concrete have to go into the ground to secure wind turbines in place.

Indeed, and especially true for renewables, upfront carbon impacts of constructing new infrastructure often dwarf the emis­sions from the lifetime of the asset. It is very rare to see a detailed environmental impact analysis for the whole life of an asset – and even rarer that such analysis pre-dates the current asset owners.

We are moving in the right direction but there is still a long way to go. It is too easy for the big companies behind major trans­port infrastructure or utilities, which dedi­cate significant resources to ensuring they score well from an ESG perspective, to paint an unrealistically rosy picture.

At the other end of the scale, you have the types of assets we invest in, such as solar panels on social housing helping to eliminate fuel poverty and wind farms that contribute to addressing local issues such as the upgrad­ing of neighbourhood facilities to running educational visits for local school children. These companies don’t have the machinery to continuously bang the ESG drum. It can be incredibly difficult for investors to distinguish between those two sets of messages.

Do you believe financial performance and sustainable investment practice are correlated?

I think it is now broadly accepted that the two are aligned, but that was not always the case. Even quite recently there would be arguments about whether being sustainable would cost money and reduce long-term performance.

The consensus now is that sustainable assets often achieve higher values and are exposed to lower levels of risk.

This is just common sense; an asset built and operated with minimal impact will perform better in a world where sustainability is important to the users of the infra­structure.

And, of course, particularly over the past few years, knowing and delivering for your stakeholders has certainly proved critical. These days, the ability to mobilise public opinion using social media means it is es­sential to get these things right.

How successful has the industry been in terms of improving sustainability and what are the big challenges ahead?

Sustainability is now clearly at the top of the agenda as opposed to not being on the agenda at all. That is undoubtedly a good thing. I would say the big challenge ahead, however, is that infrastructure, as an in­dustry, has not always been very good at engaging with stakeholders – politicians and the end users of the infrastructure, the public.

There are various debates going on around the world right now, and specifically in the UK, about the relative merits of public and private ownership. If it were to come to power, the Labour party has explicitly said it believes government ownership of infrastructure to be the correct approach.

That idea has not been appropriately countered. Various efforts, including those led by the Global Infrastructure Investor Association, have tried hard to engage with governments and other key stakeholders, but the industry has not really been able to make the inroads required to ensure a fair public debate on these matters.

We have a great story to tell in terms of environmental and social outcomes. And, in terms of governance, I think it is absolutely the case that private sector ownership deliv­ers better results.

Sustainable assets and a sustainable economy are best supported by private market tensions – a drive to always be bet­ter.

That is not always popular, particularly in the current political environment, but it is our job to get those messages out there.

This article originally appeared in Sustainable investing, a report by Infrastructure Investor.