Acting on impacts

Environment Business asks whether the 2000 amendment to the Pensions Act has led trustees to change their investment behaviour - and if sustainable industries will benefit

In June 2000 an amendment to the Pensions Act came into force that requires pension fund trustees to publish a Statement of Investment Principles and included a requirement that they “cover the extent to which social, environmental or ethical considerations are taken into account in investment decision making”.

Then pensions minister Stephen Timms made it clear that the amendment was not “a requirement on trustees to invest in a socially responsible way”. However, he said at the time he believed it would “stimulate the debate on issues of social responsibility and corporate governance” and “increase transparency in investment planning and to encourage trustees to consider carefully the wider implications of their investment decisions”.

Virtually every pension fund has met the requirement and published a SIP, but observers say the legislation has failed to achieve what it set out to. Janet Barber has recently completed research for Severn Trent into the potential of the amendment to positively influence the way companies manage natural resources through investor pressure. She is scathing about the sector’s attitude.

“What is very attractive about the Pensions Act amendment is that it is a low key but very adroit instrument. But when it was announced I have never seen a more flat, disagreeable response to a ministerial statement in my life, despite the fact Timms had introduced an excellent lever to get pension fund trustees thinking about the performance of companies in a different way.”

“Trustees don’t have to do much. I think it’s pathetic. Their behaviour has not gone along with the spirit of what the government wanted,” says Barber.
Awareness but little action
Research by Just Pensions suggests trustee awareness of environmental issues is at an all-time high. The majority of trustees believe that in the next five to ten years effective environmental management, good employment practice, customer relations and increasing transparency on social and environmental performance will make a positive impact on the market value of companies.

Peter Montagnon, head of investment affairs at the Association of British Insurers says: “There is a growing recognition that social, environmental and ethical matters have an impact on the financial health of companies. Mismanaged, they can lead to reputational damage, which undermines business prospects. Handled well, they can enhance both reputation and the quality of earnings.”

However, four years after its introduction, it is clear that the action the government hoped the amendment would stimulate has been far from forthcoming. Barber says the main barrier is a rudimentary one. “There was not much evidence of activity at anything like an appropriate level, as trustees haven’t even thought about what ‘social, ethical and environmental’ means. They are preoccupied with the financial performance of pensions and the expectations of beneficiaries and client organisations.”

For Barber, this as a weakness: “Trustees are constantly saying that it is their fiduciary duty to get the best returns for their beneficiaries, but they don’t think it’s their fiduciary duty to look at how companies are performing by anything other than strictly financial criteria.”

Intimidated by activism

Rory Sullivan is director of investor responsibility at Insight Investment. He believes there are a number of reasons trustees have paid little more than lip service to the spirit of the amendment. “There are a couple of reasons why implementation has been very poor,” he explains. “One is that pension funds have been quite intimidated by activism. There is a fear it means committing to a lot more work, or a lot more resources. That has been a barrier.

“The second has been that with the stock market doing so badly over the past three or four years, most pension funds have a large deficit. The longer term benefits of activism, compared to the short term problems they need to address, is a luxury they don’t have time to deal with.”

Scepticism on CSR

Sullivan also believes there is scepticism about the benefits of improved corporate governance and corporate
responsibility. Certainly there are many in the business world who happily to praise CSR in public but still do not see it as a material business issue. Barber says that while researching her report, she talked to a lot of people who “scoffed a bit at the Pensions Bill and said ‘who really cares about social and environmental issues’?”

This has led to a general lack of engagement and to trustees delegating responsibility for activism to fund managers. Sullivan says: “A couple of fund managers have geared up and really developed their investments to encourage better corporate governance and responsibility. But most fund managers have really sold their clients a story, saying ‘oh yeah we do this’ – but haven’t really done what their clients have asked them to.

“I think there’s a real problem of free riding. The activist fund managers – of which there are a few – are doing all the work, and everyone else is sitting back saying we don’t need to do this, but they’re pretending to their clients that they are actively committed.”

Threat of regulation

This has led to a rumbling from the DTI that regulation may be necessary, the suggestion being funds could be required not only to publish a SIP, but also to disclose how it has been implemented, forcing trustees to ask fund managers awkward questions regarding their performance.

While this is very much on the horizon, Sullivan is concerned it could in fact be a negative outcome, for much the same reasons that threats of compulsory environmental reporting have been condemned.

“It could end up being the worst thing, because you’d just end up with box ticking. It depends on how it would be structured. It may end up being the impetus for everybody
to start taking it seriously, or you could end up with disclosure for disclosure’s sake. It doesn’t necessarily answer the core questions.”

Changing company behaviour

Pension funds holdings were £220bn in 2003, representing 16.1% of the UK stock market, and Barber believes this means they have a key role to play in changing company behaviour on key environmental issues such as fisheries, climate change, rainforest protection and food production.

For this to happen, she says there is a need for increased trustee engagement and education, as well as improved instruments for measuring the value of natural resources and the costs to business of environmental degradation.

Sullivan says: “The pension funds have to put their money where their mouths are and there are a number of ways they can do that. They need to demand a competence in the environmental area when fund managers are being appointed, or tie fees to delivery of activism. At the very least they need to start challenging fund managers on how they’ve implemented funds’ SIPs.”

But one thing is clear, as Sullivan says: “The amendment has been in place long enough for everybody to review its progress. The reviews have said it has worked in that everyone now has a SIP, but it hasn’t worked in terms of people taking it seriously and implementing it properly.”

But awareness is on the rise, and there is evidence that traditionally conservative financial institutions are starting to take the claims of the faithful that improved environmental and social performance means better long-term financial performance seriously. Whether this pushes pension fund trustees from awareness to action remains to be seen.

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