Making your voice heard

How involved should pension funds be shareholder voting? And how much help is out there? David Adams investigates

There was a time when the idea that pension funds should be ‘active’ shareholders would have seemed a little strange. After all, these funds existed to generate maximum returns through safe investments. The only interest they took in the companies and institutions in which they had invested was based on black and white economic issues. This is still true of many pension funds today, but a growing number, representing members working in a variety of sectors in countries across Europe and elsewhere, are now engaging much more actively with the companies in which they own shares; individually, as part of collaborative ventures, or indirectly through service providers. Their motives vary, but all are connected in some way to corporate governance and/or corporate social responsibility (CSR) issues.

Not that this is any kind of moral crusade. “There’s a financial self-interest in doing this,” says Colin Melvin, CEO at Hermes Equity Ownership Services (EOS). “We firmly believe that companies doing the right thing make more money in the longer term. The task for the long-term shareholder is to engage with other shareholders of the company constructively to improve operations where it will lead to an increase in its value.

“The kinds of things we cover that are linked to the value of the company include: carbon risk, regulatory risk, energy use emissions, carbon capture, and transport,” he continues. “We might also look at things like water stores and biodiversity. In the social ethical sphere we would find labour relations, health and safety, ethics in the supply chain, and the presence of turbulent regimes.”

Hermes EOS is owned by the BT Pension Scheme (the UK’s largest), and the engagement services developed for its parent are also available to any pension fund. Clients include the BBC Pension Trust and the Lothian Pension Fund in the UK, the Irish National Pension Reserve Fund, and the Danish occupational pensions administration company Pensionskassernes Administration (PKA).

It operates in a growing market. “I think there are two drivers,” says Karina Litvack, head of governance and sustainable investment at F&C Investments, an asset management provider recently appointed to provide engagement services to the UK’s Pension Protection Fund (PPF). “One is a growing recognition that these environmental, social and governance factors actually drive value. The other is that pension funds and other institutional investors are answerable to their stakeholders. So pension funds for banks now understand that their beneficiaries are increasingly expecting these issues to be addressed. Banks likewise see their retail customers paying attention to them, for reasons to do with performance or to do with the need to ‘do what is right’.”

There have also been regulatory drivers, particularly for public sector organisations, notes Paul Hewitt, business development manager for Europe at proxy governance and voting agency Manifest. “We have seen a steady increase in interest on the part of public sector pension funds to get more engaged in equity investments,” he says. “I think what’s driven it is that public funds have to report what they’re doing so are under more scrutiny to demonstrate that their investments are doing what they should be doing.”

Some public sector funds are also among those that have collaborated to increase their influence. Ebba Schmidt is an engagement services executive at UK independent research consultancy PIRC, and corporate governance advisor to the Local Authority Pension Fund Forum (LAPFF) in the UK. It has a lengthy involvement in this area, having been created in 1990, and membership numbers have risen strongly in recent years. The forum now has 48 members, with combined assets worth more than £95 billion. “That tells you that more of these pension funds want to get involved in the whole engagement area,” says Schmidt.

Many very large pension funds have also been acting individually for some time. As David Russell, co-head of responsible investment at the UK’s second largest pension fund USS explains, towards the end of the last decade its trustees came to the conclusion that issues around corporate governance and the environment not hitherto usually built into fund management analysis can have a significant impact on share values, so all active shareholders ought to take more of an interest in them.

“It’s about both managing risk and looking for increased value and opportunities within the assets that we hold,” he says. “USS is a pension fund: our primary motivation is to make companies in which we invest better long-term performers. As part of that we will engage where we think there’s a material, reputational, or long term risk.”

At the same time a growing number of institutional investors of all kinds and sizes, including a large number of pension funds, have become much more actively engaged by adopting the United Nations’ Principles for Responsible Investment (PRI).

“That, we have found to our surprise, has been a very powerful driver,” says Litvack. Although generally, she adds, it is still the two main motives she has already outlined – a recognition that ‘better’ companies usually perform well and pressure from stakeholders – that lead to investors considering the PRI.

A number of negative factors have also encouraged funds to take steps in this direction. “Significant failures in corporate governance have helped highlight the need for shareholders to be actively encouraging good governance,” says Russell.

Indeed, the current trauma in the financial markets could be seen as a lesson of this type. “The companies that are now failing were owned by pension funds, and still are,” says Melvin. “There was an opportunity for the pension funds to engage with these companies to encourage them to perform better. If companies’ aims were aligned more closely with the long-term aims of their owners, rather than the short-term ambitions of their employees, they would not have found themselves so exposed.

The solution, in the long term, is proper scrutiny of these companies by their owners. That’s what’s meant by engagement.”

The trend towards more active engagement is visible across Europe, even though cultural factors may mean motives and methods differ. “There are some countries where there are more resources to put towards responsible investment, and where there’s a more developed culture for it,” says Hewitt, citing Sweden as an example.

Melvin is also intrigued by national differences. “The trends are visible across Europe, but concentrated in the Nordic countries, the Netherlands, Switzerland and Ireland,” he says. Litvack picks out the Netherlands and the Nordic countries as leaders in the field, but also notes progress in the UK, France, Belgium and Germany.

Yet, for all the progress made in this area during the last decade, Melvin is still frustrated by a slow pace of change overall. “The level of activity generally is very low, and this is an opportunity lost,” he says. “There seems to be willingness on behalf of pension funds, but little activity. They’re not as evolved as they should be in this respect.”

In part he puts this down to the relationship many investment managers have with pension fund clients. “The investment industry you could describe as being rather too in control of their clients,” he says. “Trustees are there part time and generally don’t have much financial expertise. Too often they are getting poor quality or self-serving advice from an industry adept at creating short-term transactions and benefiting from them.”

But, at the same time, sources of help for trustees are developing. “There are more investors asking these questions now, and that has meant there’s now more research coming out on the sell side,” says Russell.

Litvack thinks the work around the UN PRI is also invaluable. “If I were a pension fund I’d go straight to the UN PRI,” she says. “It’s been very effective at bringing pension funds to talk to one another and to asset managers. There are also other networks that existed before the PRI, particularly focused on corporate governance, where [there is] a tradition of institutions, pension funds and asset managers working together to share ideas and then act together on a point of policy.”

In the end, the big difference today appears to be that whereas in the past pension funds made investment choices and hoped they had placed safe bets, now, in part because they are being pushed to do so through active engagement from their own stakeholders, they are trying to make certain those choices pay off.

“There has been significant growth in the number of pension funds, asset owners and asset managers involved,” says Russell. “Active engagement is a growing trend among pension funds, and it isn’t just a UK thing, or just a US thing, it’s a global trend.”

Written by David Adams, a freelance writer