When a company you invest in behaves unethically

Evidence is mounting that poor corporate behaviour doesn't just leave a nasty taste in your mouth. It also affects investment returns.

A study by the Responsible Investment Association Australasia found super funds that engage in responsible investment outperform other funds over one, three and five years.

The RIAA looked at 54 of the largest MySuper funds. It found 34 had some form of responsible investment guidelines and they earned 8.14%pa over the past five years compared with 7.7% for the remainder. Comparable figures over the past three years were 9.06% versus 8.65%, and over the year to June 30, 2019, 7.33% versus 7.31%.

The study found just over half of all professionally managed funds in Australia now employ some sort of responsible investment strategies and they have been beefing up their resources in this area in recent years.

The rationale is simple. The report says there is a growing acceptance that environmental, social and governance factors are an integral part of investment as they affect valuations and returns. Consumers are more interested in where their money is invested, and finance regulators are also talking about the risks in areas such as climate change.

In December, former banking royal commissioner Kenneth Hayne warned that directors could face legal action if they did not deal properly with the risks of climate change, and the Australian Securities and Investments Commission launched a surveillance program to ensure our biggest companies are dealing with climate risks.

Add the upheaval, investment shocks and potential financial consequences of recent disclosures that two of our biggest banks, Commonwealth and Westpac, had systematically allowed breaches of the law (Commonwealth in relation to money laundering, Westpac in connection with overseas transactions) and it becomes clear we need to think about how the companies we invest in behave.

Legal actions

Columbia University's Sabin Centre for Climate Change Law has logged more than 1000 climate legal cases around the world. But in Australia, Melbourne Law School says it can be difficult to launch climate actions because we have no civil rights guaranteed in the constitution, and no federal laws that control emissions.

However, last year the NSW Land and Environment Court ruled against a proposed new open-cut coal mine, citing the impact on the social and environmental welfare of the nearby community as one factor in its decision.

Activists are also using corporate law to argue that companies need to disclose climate risks posed to their customers and shareholders.

In 2017, Environmental Justice Australia filed court proceedings against Commonwealth Bank, prompting it to disclose climate risk in its annual reports, and Melbourne Law School reports that Environmental Justice has taken up the case of a super fund member suing his fund for, he claims, failing to protect his investments from climate change risk.

Navigating the maze

The Responsible Investment Association found more than half our major super funds now offer responsible or ethical investment options. However, "ethical" can mean different things to different funds.

Many have so-called negative screens that prohibit investment in things like tobacco, arms and fossil fuels while others may take a more proactive approach and include "good" companies.

If you're considering an ethical investment, read the product disclosure statement carefully to see how your money will be invested, as definitions vary widely. Most major super funds now have overall environmental, social and governance (ESG) guidelines, which should be available on their website.

Similarly, listed companies and other investments are under pressure to disclose their ESG guidelines and the risk to their business of things such as climate change. And as we've seen with annual general meetings for companies like Westpac and Commonwealth Bank, shareholders can pressure directors when they have concerns about the company's behaviour.

Did you know?

In California, crab fishermen are suing oil and gas companies for climate-induced damage to marine areas.

Best-case scenario

Businesses have moved to embrace the need to manage issues like governance and climate change - in the latter area, even ahead of government. Pressure from shareholders to maintain high ethical standards can only accelerate this trend.

Worst-case scenario

Where companies put profits ahead of ethical behaviour, the legal, reputational and financial consequences will become increasingly damaging.

The wild card

For investors, the wild card is the risk of bad behaviour coming to light. While the risks in areas such as climate change are largely foreseeable, poor corporate behaviour in other areas is not always easy to identify until it becomes public.

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