We believe that investing in well-managed companies with sustainable, growing businesses is the foundation for achieving good returns for shareholders as well as for a better future for the planet and its people. Our expectation of our managers is that they will consider all factors when seeking to maximise returns while taking proper account of the associated risks.
Witan is a signatory to the UN-supported Principles for Responsible Investment (‘PRI’) and is committed to incorporating the principles into our investment process. We seek to collaborate with other investors on environmental, social and governance (‘ESG’) issues, to engage with policymakers (primarily via the AIC) and are members of the Institutional Investors Group on Climate Change.
Witan takes its fiduciary responsibilities seriously and our membership of these organisations complements our portfolio which is largely comprised of well-managed businesses with sustainable cash flows. In addition to the clear social and environmental benefits of good corporate behaviour, we believe that incorporation of sound ESG policies benefits Witan’s shareholders financially. The Company has a broad investment universe and aims to increase the potential for long-term success by minimising exposure to companies which are at risk of disruption, litigation, regulation, or loss of business as a result of poor ESG practices.
The Witan Executive team monitors the characteristics of Witan’s portfolio to identify, among other things, any ESG risks which may arise. The Executive team also scrutinises the ESG policies of our managers, reviews and assesses the implementation of these policies at annual ESG-focused meetings with investment managers and reports to the Board on its findings.
Witan does not preclude managers from owning specific companies or those in certain sectors, although some managers may choose not to invest in a sector for ESG and/or financial reasons. We believe these investment choices are best left to our managers, with our role being to ensure that they work within a proper ESG framework and have a clear rationale for owning any company. Typically, our portfolio will consist of high-quality companies with sustainable cash flows, those with underestimated growth prospects and some businesses which are more cyclical in nature. These companies tend to exhibit superior or improving ESG characteristics even though there is no guarantee that ESG incidents will be avoided entirely. Where negative ESG issues do occur, managers should engage with the company concerned, encourage positive change, and vote shares accordingly. Managers should not own companies if they conclude that management has failed to take ESG factors into consideration.
STEWARDSHIP AND THE EXERCISE OF VOTING POWERS
Under our multi-manager structure, the fiduciary duty for the maintenance of high standards of corporate governance falls, in the first instance, to the Company’s appointed investment managers. Furthermore, under Principle 2 of the PRI, Witan has committed to be an ‘active owner and incorporate ESG issues into our ownership policies and practices’. The Board therefore expects its managers to engage with investee companies and to vote shares. Voting and engagement records are reported to the Board at regular intervals. Managers who fail to meet these high standards are unlikely to be appointed or retained to invest money on behalf of Witan shareholders.
Witan monitors the stewardship policies of its investment managers including specifically in respect of the UK Stewardship Code, where applicable. Whilst the Company’s investment managers are apprised of the Company’s approach to the stewardship of its assets and the importance of sound corporate governance, they use their discretion according to their knowledge of the relevant circumstances. The investment managers report their compliance with the UK Stewardship Code, or equivalent legislation, to the Witan Audit Committee each year.
The Company’s Executive management maintains regular contact with the management of the investment companies held in the Direct Holdings portfolio. Aside from regular updates, engagement has included, but is not limited to, specific issues with underlying portfolio companies, the manager’s ESG policy and its integration into the investment company’s ESG framework, discount or premium management, distribution/dividend policy and other balance sheet management issues. Witan will engage with management and boards where it identifies issues which it considers fall short of best practice and will vote according to the interests of Witan shareholders and considering all factors including ESG issues. Witan’s Executive management provides an annual report to the Audit Committee in compliance with the UK Stewardship Code.
The Witan Executive assesses each of the Company’s external managers’ ESG credentials and reports its findings to the Board as part of a standing agenda item at least annually, through the following:
- Annual ESG-focused due diligence meetings with the investment managers.
- Monitoring the portfolio and investigating any ESG incidents.
- Encouraging manager engagement with investee companies which fall short of best practice.
- Periodic reporting of ESG compliance by the investment managers.
- Review of manager voting and engagement records.
- Engagement with management of collective investments within the Direct Holdings portfolio.
Witan delegates authority to our managers to vote our shareholdings. In 2020, our managers voted at 553 meetings which represented 98.4% of applicable meetings and on 98.2% of agenda items. The breakdown of votes can be found below:
Categorisation of Votes Against Management
Witan’s Executive team monitors the ESG characteristics of the portfolio(1) on an ongoing basis. One measure of a portfolio’s environmental characteristics is its asset-weighted average Carbon Intensity, measured in metric tonnes of CO2 per million US dollars of revenue. Witan’s portfolio Carbon Intensity score is 156 compared with 165 for the benchmark. Witan’s portfolio has also achieved a Low Carbon Designation according to Morningstar analysis. To receive this designation, the portfolio must demonstrate low carbon-risk scores (indicating low levels of risk from the transition to a low-carbon economy) and low levels of fossil-fuel exposure as measured by Sustainalytics/Morningstar.
The chart below shows the portfolio (and benchmark) weightings in companies which are classified by Sustainalytics as having varying levels of carbon risk. The portfolio is overweight companies with negligible and low carbon-risk scores which together make up c.73% of Witan’s portfolio relative to 69% of the benchmark. Companies considered of medium risk represent 27% of Witan’s portfolio versus 29% for the benchmark. The portfolio has virtually no exposure to companies designated as high risk.
(1) Excludes holdings in Investment Companies where the data is not readily available
Sector: Consumer services
Witan had minimal exposure to Tesco before an inspirational new CEO was appointed in 2014. Under previous management, the company had become bloated and complacent following years of expansion. It had experienced an accounting scandal, was being criticised for exploiting its dominant market share and was regularly condemned for its environmental impact and for poor working practices, especially in its supply chain. These ESG issues were chipping away at the fabric of the business with customer satisfaction and brand value in decline, allowing discount retailers, such as Aldi and Lidl, to eat away at Tesco’s margins and negatively impacting the value of the company.
Witan’s managers identified an opportunity to invest as Tesco’s new management launched a turnaround plan in 2015 to regain competitiveness and rebuild trust with a focus on strong corporate governance. Tesco also set out a bold scheme to address issues in the competitive landscape, the workforce, environmental management, packaging and food waste and supply chain management, with notable targets:
- To achieve zero wastage of food safe for human consumption
- Reduce excess packaging via its Remove, Reduce, Reuse or Recycle initiative
- Demand sustainable farming and fishing standards from its supply chain
- Pledge to respect Human Rights across the supply chain
- Reduce carbon emission by 60% by 2025 and 100% by 2050
- Promote diversity and inclusion so that management better reflects the diversity of the workforce
- Address health, safety and wellbeing of staff
- Offer greater healthy choices in its affordable own brand ranges
- Price matching to remain competitive and to reinforce customer loyalty
Since the investment was made, our managers have monitored the company’s performance against these targets by regular engagement with management.
To date, Tesco is successfully progressing towards these targets. Non-financial key performance indicators including staff, customer and supplier satisfaction levels, have increased materially over the last five years, while the financial position has improved markedly.
Company: LG Chem
Country: South Korea
LG Chem’s products are used in a variety of applications including plastics and polymers as well as technological solutions such as semiconductors, mobile devices, energy storage solutions, electric vehicle batteries and OLED screens which are all critical to the transition to a low-carbon economy.
- Three health and safety accidents in May 2020 at plants in India and South Korea
- Witan Executive was alerted to these incidents by RepRisk and by the manager responsible for this investment, as part of its monthly compliance reporting
Witan engaged with the investment manager on each occasion and sought details of their engagement with LG Chem. We requested their analysis of the likely impact on the company’s reputational standing, the measures it was taking to eradicate such incidents and their assessment of the long-term investment case for the company.
The manager has engaged with LG Chem on numerous occasions this year either directly or in coordination with other investors. The manager is satisfied that the company, which has publicly committed to expand its environmental safety ‘Global Standard’ worldwide, has taken steps to address safety issues. The manager continues to engage with LG Chem and describes the company as “one of the key enablers for the global electric vehicle industry, thanks to its industry-leading EV battery capability, and the stock is still very much undervalued against its growth potential”.
Witan is satisfied that the manager reacted swiftly to engage with the company, which has reassessed health and safety policy at all its facilities. There has been senior level management commitment to focus on and improve ESG matters. The company remains well regarded by the investment manager and the unfortunate events of 2020 appear to be at odds with the long-term track record of a company which is at the forefront of the transition to a low-carbon economy.
Interviewee: Polyana da Costa, Partner, Senior Investment Analyst
Mandate: Emerging markets
"We have a team of 15 traditional and non-traditional analysts. Within the investment team, amongst others we have former journalists. We have at least two pairs of eyes on any portfolio company and often that includes one of our non-traditional team members with a background in investigative journalism. Both teams obviously consider the long-term risks in their analysis, including ESG risks, but the non-traditional analysts focus on digging deeper on specific issues. This capacity for targeted investigation is well suited to ESG research as it can add much-needed context to the selective sustainability disclosures published by companies."
ANALYSIS OF ESG FACTORS
"We see ESG analysis as a natural part of the risk assessment process of investing. We have always focused on forward-looking quality, so naturally we have to understand the long-term sustainability of earnings in a business and the potential threats to that sustainability. We view the assessment of ESG risks as a material component of that process and therefore chose not to have a separate ESG team working in a silo. Instead, both our traditional and non-traditional analysts work together to identify potential ESG risks and weigh their materiality to the investment thesis. This approach integrates ESG into our long-term risk assessment for a company, but also lets the non-traditional team retain a focus on what we view as a key part of ESG, the culture and management of a company."
COMPANY CULTURE AND ESG
"We have found that when the quality of the management is strong, the social and environmental standing of the company tends to be positive and sincere. In our experience, a healthy corporate culture goes beyond just ESG issues and is a good indicator of a company’s quality and earnings potential. We dig into each aspect of ESG to identify potential issues to inform our assessment of the materiality of short, medium and long-term risks. We feel that companies with strong cultures do better in the long run. How is a strong culture defined? Well, that varies by company and sector. For example, an aggressive culture may not be ideal for a bank but it can be a positive for a tech company competing in an innovative environment. The other part is the quality of the management. Can you trust what management is telling you? Are there any red flags, unethical or illegal behaviour? These are all factors we consider and naturally they are key to ESG risks."
"I can’t name the company, but in one particular case our research revealed a serious lack of checks and balances within the governance of a company. The management had somehow gained credibility with investors because it had once partnered with Amazon. We heard reports of employees going months without pay and that employees had been posing as customers when investors toured the company. It was mind-blowing. We stayed away from the investment and the stock subsequently lost 95% of its value."