Stewardship – Investors Can Set the Course Phiroza Katrak

Stewardship is an important tenet of the UN’s Principles of Responsible Investment.  It is a powerful tool investors have at their disposal to encourage the listed entities they are invested in to develop more sustainable business practices and deliver substantial real change which also benefits stakeholders and wider society.

Through the process of engagement, also referred to as active ownership, investors (or asset managers on their behalf) can encourage companies to better manage material environmental, social and governance issues to minimise risk and maximise potential, improve corporate practice and the quality of disclosure. Engaging either individually or collaboratively with others, they can hold companies to account on material issues which are relevant to corporate sustainability and responsibility and on which longer-term risks and outcomes depend. Investment decision-making, engagement and the use of voting rights (also a powerful tool for escalating issues needing addressing) are increasingly becoming interlinked.   

The UK Stewardship Code was first published in 2010 by the Financial Reporting Council (FRC) in the aftermath of the governance failures laid bare by the global financial crisis.  It encouraged and enabled long-term investors to foster purposeful relationships with companies to increase accountability and transparency and prompt improvement or change where required.  The 2012 update of the Code took a “comply or explain” approach. The review by Sir John Kingman described the 2012 Code as being well-intentioned but ineffective in practice and called for one focused on outcomes and effectiveness, not on policy.

The 2020 Code defines stewardship as “the responsible allocation, management, and oversight of capital to create long-term value for clients and beneficiaries leading to sustainable benefits for the economy, the environment and society”.

It sets high standards for asset owners and asset managers. In order that signatories progress beyond articulating their stewardship policies, the 2020 Code comprises a set of “apply and explain” principles, boosting transparency and disclosure.  Aimed at managers and owners across asset classes - listed equity, fixed income, private equity, infrastructure - the Code’s 12 principles focus on "Purpose and Governance", "Investment Approach", "Engagement" and "Exercising Rights and Responsibilities". Signatories to the Code now need to report annually with specific evidence for each reporting period on the Code’s application including activities and outcomes, successes and setbacks, all described succinctly and in plain English.

Transparency is at the core. Once the organisation’s report is approved by the FRC, it is to be made a public document on the signatory’s website. Similarly, disclosure on voting will now also encompass approach and process (in house determination?  use of proxy advisors?), voting records and rationale for decisions.  Asset managers are not, however, required do so on a fund-by-fund basis.

The FRC will begin accepting applications from signatories to latest Code in Q1 2021. To be included in the first list, asset managers and service providers (such as proxy voting advisors, investment consultants and data and research companies) must submit a final report to the FRC by 31 March 2021, asset owners are to do so by 30 April.

The 2020 Code provides opportunities on both sides. It requires signatories to take material ESG factors, including climate change, into account and to ensure that their investment decisions are aligned with the needs of their clients.  It also dovetails with the enhanced disclosure required of listed entities on the relevant environmental, social and governance issues which impact their business.  No longer will investors, owners and managers simply be guardians of the assets in their portfolios. By integrating ESG factors into decision-making, they will have an important safeguarding role in minimising systemic risks; institutional investors, including local authorities, can and should play their part in this.