Harvard Business School big wigs Michael Porter, George Serafeim, and Mark Kramer point out the shortcomings of ESG investing in an op-ed in Institutional Investor; and propose shared-value investing as an alternative.
Here is an excerpt from an opinion article in Institutional Investor:
The concept of shared-value investing offers a fundamentally different approach than ESG rankings or SRI screens by directly tying social impact to competitive advantage. As Fortune’s Change the World list demonstrates, companies that create shared value can outperform their peers, delivering superior returns both to society and to their shareholders. Yet an understanding of how a shared-value approach differs from conventional corporate social responsibility thinking remains rare.
…the current siloed ESG approach, where analysis of societal impact is divorced from analysis of competitive strategy and growth, misses important sources of competitive advantage that come from some, but not all, improvements in corporate social performance. Until investors begin to consider shared value as core to investment analysis, they risk distorting corporate valuations, missing the true industry innovators and encouraging corporate managers to focus on checking ESG boxes that are not material to corporate performance or social progress.
Taking social factors into account in investment decisions when they have a direct influence on a company’s future economic performance does not violate fiduciary duty; indeed, as the EU policy has already noted, it is the failure to consider such factors that might create a risk of liability. Bringing the shared-value framework into security analysis will help both corporate leaders and investors grasp the opportunity to align social purpose with investing. It will also greatly expand the power of corporations and investors to contribute to a better world while improving shareholder returns.
Much of the investment community, however, still views social issues either as irrelevant to maximizing shareholder value or merely as a risk factor, not as an opportunity to drive alpha. Corporations will also have to implement substantial changes in practice to communicate more effectively the economic value of their social impact, and for investors to meaningfully integrate social factors into security analysis.
Regulators, NGOs, and sustainability-minded investors will, of course, continue to focus on overall ESG performance. Companies will need to continue to improve and report on their performance across the broader set of ESG factors, even though most will not confer any sustainable competitive advantage. However, the broader investment community will need much more targeted communication by companies to connect a highly selective set of social impacts with competitive advantage and economic value.