Customized engagement is probably the most effective means impact investors have of encouraging and supporting companies in the improvement of their sustainability performance. Engagement can, for example, help a company to determine the performance metrics it adopts to measure its environmental and social impact and report on it.
The impact equity team at NN Investment Partners engages with all the companies in which it is invested, focusing not only on weaknesses but also on making strengths more visible. Discussions with management give us more access to data and a better sense of a company’s intention and ability to create a positive impact on the world. In essence, engagement is an extension of our mainstream fundamental analysis.
We analyse the impact, the sustainability profile, the business model and the financials of each company. When evaluating our engagements, we look at the progress on the objectives we set. And we consider the quality of the dialogue. This includes an assessment of openness and responsiveness, the acknowledgment of issues, appetite for change, the number, nature and depth of topics discussed, credibility of the examples given, and to what extent relevant data has been shared.
So far, only in a few cases, has the quality of the dialogue with the company been so disappointing that we decided to exit our position. We sell our holdings, if the financial, business or impact case is no longer intact. The impact case can be weakened, if the company takes action that changes its business profile, for example, by making an acquisition, or if the impact turns out to be weaker than expected, for example, if our engagement shows that their intentionality to make an environmental or social impact is weak. Financial reasons to sell include excessive leverage, an unattractive valuation and weaker than expected value drivers – which ties to the business case, where we sell if we lose conviction in the strength of a firm’s operations or the quality of its management.
In a nutshell, customized engagement is the central element of impact investing, and we only exit, when the company fails to deliver on its financial, business or impact case for a longer period. However, it is not only about engagement and/or exit. It is also about entry – excluding certain companies from our potential universe for ESG reasons right at the start of the investment process. Today, exclusion lists apply for practically every fund available in the market, but for impact funds these upfront exclusion criteria are much stricter than they are for conventional funds. But that’s another story.