On Tuesday, Larry Fink, founder and chief executive at BlackRock, did something that has asset owners “applauding in ovation.” He sent a letter to the business leaders who are part of BlackRock’s $6.3 trillion assets under management, and asked them to contribute to society, be aware of their environmental impact, diversify and communicate growth plans to their boards, and step up their ESG management.
“A company’s ability to manage environmental, social, and governance matters demonstrates the leadership and good governance that is so essential to sustainable growth, which is why we are increasingly integrating these issues into our investment process,” wrote Fink.
The chief executive of the world’s largest asset manager penned that companies need to communicate a firm purpose to their shareholders prior to proxy fights, and establish ways in which they plan to contribute to greater society. “Without a sense of purpose, no company, either public or private, can achieve its full potential. It will ultimately lose the license to operate from key stakeholders. It will succumb to short-term pressures to distribute earnings, and, in the process, sacrifice investments in employee development, innovation, and capital expenditures that are necessary for long-term growth. It will remain exposed to activist campaigns that articulate a clearer goal, even if that goal serves only the shortest and narrowest of objectives. And ultimately, that company will provide subpar returns to the investors who depend on it to finance their retirement, home purchases, or higher education.”
He said US companies should explain to investors how the significant changes to tax law fit into their long-term strategy, and answering questions such as, “what will you do with increased after-tax cash flow, and how will you use it to create long-term value?” He added that companies without a direct plan can be left vulnerable to short-term activist campaigns. “It is your responsibility to explain to shareholders how major legislative or regulatory changes will impact not just next year’s balance sheet, but also your long-term strategy for growth.”
The letter was quite unusual for an asset manager, but increasingly common for asset owners. Fink’s letter rang true to Christopher J. Ailman, CIO of the $221 billion CalSTRS.
“As always, Larry is a thoughtful leader and [I applaud with a standing ovation] his focus on corporate governance engagement and board diversity,” Ailman told CIO. “It is very much in line with CalSTRS’ own philosophy as patient, long-term capital investors with a large passive equity portfolio.”
The pension fund has been making strong waves in the industry, using its investment power to leverage influence. CalSTRS and Jana Partners recently asked Apple to take steps to mitigate cell phone addiction in the young, by adding parental, time-limiting controls to iPhones. The two own about $2 billion in Apple shares, according The Wall Street Journal.
In June, the fund decided to divest from all thermal coal holdings. It also joined forces with New York City and State comptrollers and held Epipen maker Mylan’s feet to the fire, calling for board reform. CalSTRS voiced strong opinions about Netflix corporate governance, bought the first social bond that invests in low-income and women-owned enterprises in emerging markets, called for board and asset manager diversification, and seeded State Street’s SHE ETF. The list continues.
Ailman has noted that strong diversification on asset management teams leads to better returns on investments, and is known for citing the “pale male” culture as a “stale” one that lacks innovation.
Fink echoed his sentiments, penning, “We also will continue to emphasize the importance of a diverse board. Boards with a diverse mix of genders, ethnicities, career experiences, and ways of thinking have, as a result, a more diverse and aware mindset. They are less likely to succumb to groupthink or miss new threats to a company’s business model. And they are better able to identify opportunities that promote long-term growth.”
It’s in line with a growing pool of research. Applying ESG investing to emerging markets “can help investment managers avoid companies that have embedded risks in their business model or operations that may not be entirely visible to the market,” according to researchers Jamieson Odell and
Usman Ali, authors of “ESG Investing in Emerging and Frontier Markets,” published in the Journal of Applied Corporate Finance.
And upon studying 366 companies, McKinsey & Company found that “companies in the top quartile for racial and ethnic diversity are 35% more likely to have financial returns above their respective national industry medians,” and “companies in the bottom quartile both for gender and for ethnicity and race are statistically less likely to achieve above-average financial returns than the average companies in the data set.”
The McKinsey study showed for every 10% increase in racial and ethnic diversity on the senior-executive team, earnings before interest and taxes rise 0.8%.
Said Ailman, “We’re passive investors, but active owners in corporate governance, which we believe adds long-term value to the portfolio. We want our companies to think in terms of decades, not days. Companies need to stop thinking short-term, 91 days is nothing to a long-term investor like CalSTRS.”
Because of the growth of indexing, Fink said, over the next three years, he will double the size of the investment firm’s stewardship team that works with businesses to improve their sustainability and ESG methods.
Tags: BlackRock, CalSTRS, Christopher Ailman, ESG, Larry Fink, letter