Voting against management is an aggressive and a public move, but talking with management behind closed doors is a more subtle way of getting what you want. “Shareholder rebellion is a high profile way of making a point,” O’Neill says. “There is a broad spectrum of engagement expertise that doesn’t necessarily make the headlines in that way.”
Directors should be open to talking with their largest shareholders. It is in their best interests to do so. “Let’s be frank, companies have an AGM every year and if you are a large shareholder then you are very important to them when you are voting,” Sadan says.
LGIM, which manages more than $1trn (£740m) of assets, has been voting against proposals that the firm has been unhappy with for years and will continue to do so. “This is why companies understand that it is very important to engage,” he adds.
ON THE NAUGHTY STEP
It is not just investors that are working to incentivise businesses to make an impact or adopt best practice. MSCI does not exclude companies that carry high climate change risk from its indices. Instead, it puts a higher weighting into companies that are working to mitigate such problems.
“So through a weighting approach you still own the company and theoretically you can engage with the board, but you incentivise them to do more and to improve,” says Veronique Menou, executive director, head of MSCI’s ESG index and portfolio research.
“This is something that we are seeing more of,” she adds. “We are not saying that divestment doesn’t exist anymore, but the investor mindset is changing towards more engagement, incentivising companies to change and to address those ESG issues.”
Menou has spotted a trend for companies willing to engage with investors. Each year MSCI reaches out to all the 6,000 companies in its coverage universe, to verify the ESG data it has collected on those businesses. In 2014, there was a 15% response rate. In 2017, it leaped to 43%.
“There is an increase from companies wanting to learn more about what investors want or care about. How can we better explain our approach and how can we mitigate ESG risk?” Menou says.
Engagement is not just for active managers. Passive funds are using it to improve their indices too.
LGIM’s Sadan prefers to use the term ‘index funds’ rather than passive, because his team did not sit on the sidelines last year; they sat down with 360 companies. Snap, the owner of social media app Snapchat, is an example of where passive funds are influencing the composition of their indices. The company listed without offering any voting shares so LGIM went to the indices to tell them that it is not acceptable to allow such a company into an index. Snap never made it onto any of the indices. “Snap is trading, but you are not forced to buy it in index funds,” Sadan says.
“If you run an index you should worry about promoting the market that you are in because you own all the constituents.
“When you put $100m (£74.4m) in Shell it shouldn’t matter if it is in an active fund or an index fund. You should care about how Shell is being run,” Sadan says.
The media and investors are pushing asset managers to engage with portfolio companies as part of their fiduciary duty. But another element has arrived to push fund managers to change companies from within: they are being rated.
“There is nothing like being rated to suddenly pull your socks up,” says Sadan, who is all for it. “I can’t ask for transparency of companies and then not ask for transparency for ourselves.”