Institutional investors should scrutinise value creation process to build positive impact
The investment industry needs to go beyond measuring impact, says The Thinking Ahead Institute, and instead focus on linking those metrics back to the process of creating value for stakeholders.
The group, which is a non-profit division of Willis Towers Watson, also warns that asset managers need to be more realistic about what is actually achievable in terms of delivering a more sustainable economy.
“Most investors tend to focus on the measurement of their impact but stop short when translating this into an evidence-based narrative that clearly explains how these sustainability metrics translate into value and outcomes for each stakeholder,” says Marisa Hall, co-head of the Thinking Ahead Institute. “Critically this should also include future expectations that can inform investors’ deployment and stewardship of capital.”
The Thinking Ahead Institute finds in its latest report that the purpose of investment is broadening away from solving the “two-dimensional problem” of how to maximise return and minimise risk.
As this occurs, the meaning of value creation is also shifting. Previous work from The Thinking Ahead Institute proposed a new definition of it as “an increase in the stock of monetary and non-monetary resources used to create future wealth and well-being for stakeholders”.
Hall explains: “There is no such thing as a neutral investment. The industry currently oversees around USD100 trillion of capital on behalf of 3.8 billion people, while also affecting the lives of the other 3.8 billon people. Every investment has an impact on the economy and therefore on society.”
This report comes after the annual meeting of the World Economic Forum in September, which saw a presentation of the core and expanded set of “Stakeholder Capitalism Metrics” and disclosures. These guidelines intend to align companies’ mainstream reporting on financial performance, with consistent tracking of their contributions towards the UN’s sustainable development goals.
This may not go far enough though, with The Thinking Ahead Institute warning that it is crucial for investors to communicate the link between value creation and impact metrics.
“Historically, articulation by the investment industry of value creation linked to purpose and impact has been poor. But this is changing as stakeholders increasingly expect authentic, intentional and transparent communication of the value they can expect now and prospectively.”
The report, ‘Sustainability: understanding impact and value creation’, draws on lessons from its sustainability impact working group, which includes AXA Investment Managers, Coronation Fund Managers, Dimensional Fund Advisors, Federated Hermes, First State Super, QIC, and Willis Towers Watson.
The working group has created a scorecard to monitor value creation activities across a range of stakeholder groups and a four-step self-assessment framework to identify areas of desired improvement.
This takes investors through the process, from first identifying who the key stakeholders are and understanding their expectations, to determine what is valued, through to aligning their firm’s purpose with the desired outcomes by understanding which stakeholders it prioritises.
Then, it suggests finding the gaps between current practice and desired norms, evaluating these systematically through tools such as questionnaires and scoring systems, in order to develop an internal action plan. As a fifth step, the working group recommends that the output of this impact and value creation assessment should be communicated externally.
“Investment has long been seen as a two-dimensional problem of optimising risk and return. In reality it’s always been three-dimensional: investment also impacts the world around us. We believe managing impact improves risk and return outcomes, therefore using this framework will help investment organisations address all three together and effectively communicate their overall value added,” says Hall.