In his original thesis of 1949, Benjamin Graham, the father of Value investing, described the Intelligent Investor as a Business Owner. Graham advocated for exercising equal care and judgement in being a shareholder as becoming a shareholder. At the time however he was discouraged, stating
“The only way to inspire the average (American) shareholder to take any independently intelligent action would be by exploding a firecracker under him”1.
Governance practices have significantly evolved in the decades since, materialising as a central tenet of Value investing. With the growing implications of social challenges and environmental issues however, the parameters continue to shift. Here we explore this evolution, with our role as both investor and owner in mind.
Becoming a Shareholder
As investors focused on undervalued stocks, poor sentiment and low valuation typically pique our interest. It is not unusual for us to invest in industries with tangible assets and these include sectors such as energy and aviation. In recent years therefore, our evaluation of risk, particularly related to stranded assets has evolved. 2015 marked a critical moment with two defining catalysts: the Paris agreement and the dislocation of the oil price. In the five years that followed, the energy sector continued to cheapen, however we exercised caution, evaluating the likelihood of a recovery from this cyclical low point in the broader context of structural change.
The outcome of our analysis eventually led to an investment in the global energy service company NOV Inc. This allowed access to the sector, without the direct stranded asset risk. Our interest in NOV was driven by a cyclical recovery in the underinvestment in oil and gas development globally and an important part of the thesis was NOV’s ability to leverage core engineering competencies to provide solutions for renewable technologies in partnership with their existing client base. In this way, we recognise that oil and gas play a role in the energy transition, however our expectation is that companies now have a decarbonisation plan that is transparent, measurable, and embedded within a robust governance framework.
2015 was a significant year not just for the catalysts described, but for an enabler that would eventually support change. The launch of the Task Force on Climate-related Financial Disclosures (TCFD) established a framework to facilitate oversight of climate risk on a company-by-company basis that allows us to better assess our portfolio companies. Subsequent membership to industry groups such as Climate Action 100+ and the Net Zero Asset Managers initiative (NZAM) provide us with further tools and insight.
Being a Shareholder
In our Global strategy, although we didn’t add to our direct exposure to the energy sector, we didn’t divest from it either. Instead, through research and engagement, we established a more comprehensive understanding of long-term holding Eni and their contribution to fostering the energy transition. Shifting investor expectations in more recent years have largely encouraged this evolution, balancing a short-term desire to reduce portfolio emissions with the primary objective of reducing real world emissions in line with the transition to net zero by 2050.
We favour engagement with companies over near-term divestment and therefore encourage a strengthening mandate from our clients to engage on material environmental and social, as well as governance issues on their behalf. When becoming a shareholder in an undervalued company, we often see an improvement in these issues playing a part in the recovery of results and investor perception. As a Value investor, with exposure to industries whose decarbonisation play a critical role in the energy transition, both our responsibility and opportunity are heightened. Our role as an active owner through voting and engagement, can therefore be an important part of our approach and value add for clients.
Our experience suggests that initiating an investment during a more challenging period for a company can in fact help to foster relationships with management, shaped by a sense of loyalty and enhanced by our longer-term investment horizon and patient capital to support change. Our experience in Japan for example highlights this. Consistent dialogue with senior executives at Mitsubishi UFJ Financial Group, a leading financial services group for example, facilitated the evolution of discussions from a focus on reducing cross shareholdings, to those on the decarbonisation trajectory of scope 3 emissions, and the improvement of board diversity.
Lessons as a Shareholder
There are circumstances where shareholders voice an early call to action, whilst in other examples our interactions as an investor enhance momentum already building on a topic. Our engagements over time have illustrated that progress is most effectively achieved through the interests of multiple stakeholders converging and understanding our role in this broader context helps us to frame and to prioritise each engagement.
This interaction between multiple stakeholders on key issues has been an important point of reflection. Whilst environmental issues have been a central focus, social factors have been significant in driving outcomes. Our investment in Kansai Electric Power for example, illustrated that despite a national need for nuclear energy, it’s extremely unpopular position with the electorate influenced the political tone, regulatory response and ultimately the financial outcome of the investment. This was an important lesson in understanding that policy and regulation can often follow, rather than lead public sentiment.
Our investment in the aviation sector is another example of balancing a multi-stakeholder view. As we engage with our airline investments on their decarbonisation commitments, our longer-term view must integrate feedback from actors throughout the value chain. As Airbus cut their 20-year passenger growth forecast reflecting in part higher energy costs, easyJet themselves suggest that society may not accept the longer term burning of hydrocarbons of any type. Once more, the role of policy will be crucial to the future direction of the industry and this again influences both our evaluation of risk, as well as our engagement efforts.
Environmental and social considerations have provided an additional lens through which to assess a company and the long-term potential for creating value. Moreover, we navigate a strengthening client mandate to return to the role of business owner with the objective of acting as a responsible shareholder. Our concentrated portfolios and longer-term investment horizon support this.
1Graham (As cited in Graham, B., The Intelligent Investor, p. 498)
