The Global ESG Stewardship Ecosystem
In a recent working paper, we highlight a significant transnational dimension to a remarkable corporate governance development: the dramatic increase in attempts by institutional investors to influence how the companies they invest in address material environmental, social, and governance (ESG) concerns. This form of investor action (or ‘stewardship’ as it is often called) is increasingly common in many markets across the globe.
Scholars have identified various factors behind investors’ focus on ESG when engaging with their investee companies. These include investors’ desire to manage non-diversifiable (or ‘systematic’) investment risks such as climate change, and political and regulatory initiatives that prompt investors to engage in sustainable finance practices. Commentators have also noted that investors may find ESG investment strategies commercially attractive, owing to strong demand for those strategies from environmentally and socially conscious clients and the potential for charging higher fees on ESG investment products.
Our paper argues that the growth of ESG stewardship is also based on an important transnational development that we call the ‘global ESG stewardship ecosystem.’ This development involves a network of international, state, and private actors that operate globally to develop and promote ESG stewardship norms and encourage and support investors’ ESG stewardship on the ground.
Our paper makes two important contributions to corporate governance discussions. First, it highlights the scale, complexity, and influence of the global ESG stewardship ecosystem. We start by identifying five key constituents of the ecosystem: international institutions such as the United Nations (UN) and its agencies; globally-active institutional investors; investor networks and associations such as Climate Action 100+; advocacy organizations such as ShareAction and Shareholder Commons; and, finally, service providers to institutional investors such as engagement firms and data providers.
Like any natural ecosystem, the global ESG stewardship ecosystem is distinguished by the interactions and synergies among its constituents. For example, the UN and its agencies have been instrumental in establishing investor networks that promote ESG stewardship. This includes the Principles of Responsible Investment (PRI), the Net Zero Asset Owners Alliance, and The Investor Agenda. To foster investors’ pursuit of ESG-related objectives, UN agencies have also emphasized that responsible investment practices, such as ESG stewardship, are permitted, and perhaps required, by existing laws.
Investor networks in turn promote and support the efforts of institutional investors to engage in ESG stewardship at specific companies around the world. Large, globally focused investors often form coalitions with local investors to undertake such interventions, combining the former’s experience and expertise with the latter’s local market knowledge. Internationally-active advocacy organizations and service providers also play an important supporting role. For example, ShareAction coordinates investor coalitions focused on climate change, workplace safety, and children’s health, while Glass Lewis offers investors ESG related data on ‘focus list’ companies targeted by the investor network, Climate Action 100+.
Although the global ESG stewardship ecosystem comprises a myriad of actors, institutional investors are at its core. Our paper reveals how institutional investors work with international institutions on ESG norm development and goal-setting, establish investor networks and associations focused on promoting and facilitating ESG stewardship, work with advocacy organizations and like-minded investors to target individual companies, and make use of service providers such as engagement firms and data providers.
The changes in corporate behavior being driven by the activities of the global ESG stewardship ecosystem are significant. In the face of ESG stewardship, public companies and their boards are providing greater disclosure, agreeing to adapt their business models, assenting to changes in board personnel and senior managers, and linking their executives’ remuneration to the attainment of ESG-related milestones. The impact of investors’ ESG stewardship activities is also reflected in emerging signs of political backlash. In the United States, for example, state lawmakers have sought to withhold government business from ESG-focused investment managers, whom they have labeled ‘woke capitalists’ intent on undermining energy and resources businesses in their states.
Second, our paper explores the implications of the global ESG stewardship ecosystem for a range of important corporate governance theories and debates. We argue, in particular, that the critical role of institutional investors in the ESG stewardship ecosystem challenges key assumptions of modern corporate governance. These include the supposed ‘rational reticence’ of institutional investors and the need for other actors, such as activist hedge funds, to spur institutional investors’ engagement in public company governance. Our analysis highlights how institutional investors are instead key participants in an ecosystem that develops ESG norms and undertakes ESG stewardship in a deliberate and strategic manner around the globe. This involves behavior that is anything but rationally reticent.
Our analysis also highlights the vital role of collective investor action in contemporary corporate governance. The activities of the ecosystem show that institutional investors do not rely solely on their individual initiatives when seeking to prompt changes in the affairs of their investee companies. Instead, they frequently work with like-minded investors, international agencies, advocacy organizations, and service providers. It is important that this collective influence-wielding is taken into account in contemporary debates about the capacity and incentives of institutional investors to participate in the governance of public companies.
We also argue that the significance of the global ESG stewardship ecosystem is relevant to law and policy debates on investor stewardship and sustainable finance. National lawmakers and regulators are exploring initiatives to encourage investor participation in corporate governance and sustainable finance. Such initiatives need to take into account the considerable influence that the global ESG stewardship ecosystem may already exert in national markets. This creates both opportunities and risks for regulation. On the one hand, the ecosystem may provide momentum for national initiatives to promote investor stewardship and sustainable finance. On the other hand, tension may arise where the goals, norms, and practices promoted by the ecosystem are inconsistent with the expectations of national lawmakers and regulators. This point is of particular relevance for issuers of investor stewardship codes. These codes are often expressed in general, non-binding terms. Although this can make stewardship codes a flexible and adaptive initiative, it may result in a code having limited influence in markets where the global ESG stewardship ecosystem already disseminates ESG stewardship norms and drives ESG stewardship practices.
Finally, our article argues that the significance of the global ESG stewardship ecosystem revives the convergence-divergence debate in corporate governance. The coordinated and collective nature of the ecosystem’s activities creates the prospect of greater convergence and harmonization in ESG stewardship norms and practices. Yet, there is also potential for divergence within convergence. The variety of organizations in the ecosystem, any number of which may be sensitive to local interest group or political pressure, creates the possibility of regional or national variations in ESG stewardship norms and practices. We argue that investor stewardship codes provide clear evidence of this trend. Although the global popularity of stewardship codes over the last decade might at first suggest formal convergence, research shows that stewardship codes around the world are far from uniform in the emphasis given to ESG issues.
Recognizing ESG stewardship as an example of contingent convergence underscores the point made earlier, namely, that local lawmakers and regulators must appreciate that the development of ESG stewardship norms and practices is not an exclusively national phenomenon. Although the transnational nature of ESG stewardship provides it with remarkable momentum, it also creates uncertainty regarding the local implications of this phenomenon in national markets.
Tim Bowley is a Lecturer at Monash University’s faculty of law.
Jennifer G. Hill is a Professor at Monash University’s faculty of law.
This post was first published on Columbia Law School’s Blue Sky Blog here.
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