A holistic approach to sustainability with respect to disruptive change, financial strength, environmental and social externalities and governance (ESG) helps us identify investment opportunities characterized by competitive advantages that can potentially be monetized through growth.
We believe that ESG factors are integral to assessing the quality of a company. When we formulate our investment thesis on the quality of a company, we ask three key questions1 to determine the sustainability of competitive advantage and how it can be monetized through growth:
ESG FACTORS MAY MATERIALLY IMPACT INVESTMENT RISK AND REWARD. Companies are increasingly confronted with environmental issues, social factors and relationships with regulators and the communities in which they operate. In this context, managing ESG factors is simply part of sustaining competitive advantage in today’s economy.
ESG EXTERNALITIES MAY NOT BE NOT FULLY PRICED INTO THE VALUE OF COMPANIES. When companies externalize the price of environmental and social issues upon the communities in which they operate, they are by definition over-monetized—earning excess profits because the costs of externalities are not borne by the company. Investors risk paying the price when such excess is corrected and environmental and social costs are internalized to the company income statement.
ESG RISK EVENTS HAVE MATERIALLY DETRACTED FROM PERFORMANCE. In recent years, shareholders have suffered substantial losses following ESG risk events—while there is no silver bullet to avoid investing in such catastrophes, we believe that incorporating ESG analysis can mitigate risk consistent with our duty as fiduciaries.
We seek to own big ideas that win over time. Over extended time horizons, we believe that ESG risks are more likely to materialize and externalities are more likely to be priced into the value of securities. Therefore, we continue to innovate and evolve our process and believe that integrating ESG within our investment analysis improves the investment risk and reward profile of client portfolios.