Global perspective: is ESG paying lip service to human rights?


“In 2016, ESG investing amounted to US$ 22.8 trillion of global assets, and it is expected to more than double to reach US$53 trillion by 2025.

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The UK’s Local Authority Pension Fund Forum (LAPFF) has called for corporations to implement investment practices that promote good human rights outcomes in its response to the UN Working Group on Guiding Principles on Business and Human Rights consultation on Investors, ESG, and Human Rights.

Report summary

The Local Authority Pension Fund Forum (LAPFF) has argued in a UN consultation that the responsibility to respect human rights applies to all financial institutions, irrespective of their type of financial activity.

“This responsibility is not limited to areas of financial investment that adopt an ESG approach or offer ESG-related products and services,” the LAPFF response argues.  Its report to the UN Working Group focuses on “the strengths, weaknesses and opportunities that financial regulations, policies and practices offer to move towards a sustainable finance framework centred on a human rights approach”.

LAPFF is a voluntary association of 87 local authority pension funds and seven LGPS pools, with combined assets of over £350 billion.

It exists to promote the investment interests of member funds, and to maximise their influence as shareholders to promote high standards of corporate governance and corporate responsibility amongst the companies in which they invest.

LAPFF has long recognised the imperative to address human rights as a systemic investment concern for its members because it poses material financial risks across all asset classes with the potential for significant loss of shareholder value.

“In LAPFF’s view, there is significant room for investors to improve in implementing investment practices that promote good human rights outcomes,” it states in its response to the UN Working Group Consultation on Investors, ESG and Human Rights.

ESG gains popularity

According to LAPFF, in its stock take of the implementation of the Guiding Principles on Business and Human Rights (UNGPs) over the first decade since their adoption, the Working Group recognised that “financial actors have an unparalleled ability to influence companies and scale up on the implementation of the Guiding Principles”.1

The Working Group highlighted that this issue was to be a central part of the agenda of implementation of the UNGPs for the next decade and provided a follow-up report.2

One positive is that financial institutions are increasingly including an Environmental, Social, and Governance (ESG) approach (albeit with diverse indicators) in determining their decision-making on investments.

For example, in 2016, ESG investing amounted to US$ 22.8 trillion of global assets, and it is expected to more than double to reach US$53 trillion by 2025.3

There is an increasing use of data, indices, ratings, benchmarking and funds labelled as being ESG.

Despite this growth, the Working Group noted “a key challenge is that most financial actors fail to connect human rights standards and processes with ESG criteria and investment practices because of a prevailing lack of understanding on how human rights issues should be reflected in social criteria, environmental and governance indicators”.4

“There are also indications that, if human rights are considered to any significant extent at all, they are limited to the “S” part of ESG. A broader definition would see ‘ESG approaches’ include those as part of sustainable finance, environment and social risk management (ESRM), know your customer due diligence (KYC) and sustainability more generally.

“The financial sector, as investors in and funders of businesses across industries, has a very significant role in supporting the implementation of the UNGPs. They can do this, for example: through placing relevant human rights due diligence (HRDD) and access to remedy requirements on businesses in which they are considering as clients and those which are already clients; through undertaking their own HRDD in every instance; through acting as shareholders calling on portfolio businesses to act in accordance with their responsibility to respect human rights; by establishing board oversight of human rights risk management as directors in private businesses; and by advocating for consistent and coherent regulation of businesses and the financial sector, in regard to the implementation of the UNGPs.

Still enabling adverse impacts

“However, by investing in and supporting businesses which are not acting in conformity with the UNGPs, the financial sector can enable those businesses – across all sectors – to operate in ways that have actual and potential adverse human rights impacts.

“These impacts are connected to a wide range of financial instruments, across many stages of investment and in all sectors, for example: early-stage venture investments in surveillance technology and artificial intelligence; approving additional project financing for a client despite reasonably knowable ongoing or potential adverse human rights impacts; providing general corporate loans without human rights and environmental due diligence requirements, despite an awareness that such financing might lead to adverse human rights impacts due to the nature of the client’s business model; investing in green bonds despite an awareness that such financing might lead to adverse human rights impacts due to the nature of the client’s business model; investing in projects without ensuring meaningful consultation with all affected communities including free, prior and informed consent by Indigenous peoples; Sovereign wealth fund investments that may result in environmental, social and governance concerns and human rights abuses in host states; and providing transactional or underwriting support that enables clients’ harmful business activities.

“Judicial and non-judicial mechanisms have shown increasing interest in holding a range of financial institutions to account for the adverse human rights impacts of their actions. For example, National Contact Points (NCPs) operating under the OECD Guidelines for Multinational Enterprises (OECD Guidelines) – of which its human rights elements are expressly based on the UNGPs – have found that investors have acted contrary to the OECD Guidelines.5

Communications (complaints) to the Working Group have increasingly been directed to investors.6

Defining ESG

The LAPFF’s response offers the following explanation of the meaning of ESG investing: “…it is understood to mean that factors not traditionally considered financially material, including human rights and decarbonisation for example, are financially material in some cases. To this end, from a financial perspective, as responsible investors, and to meet increasing regulatory requirements, investors must consider these factors in their financial analyses to determine the extent to which they are material.

“However, to date there is little consistency in how investors undertake this consideration. It is LAPFF’s policy that LAPFF itself and the investee companies of its members should adhere to the UN Guiding Principles on Business and Human Rights. It is also LAPFF’s policy that any voluntary ESG standard should be interpreted and implemented in line with international human rights and environmental law. However, it is not LAPFF’s experience that this approach is the norm within the investment industry.”

Almost all types of investors are now using some sort of ESG approach, according to the LAPFF:

“Investment decisions on human rights, climate change, and other ESG matters generally appear to be made on the basis of whether positive impacts on these issues will negatively affect financial performance. In short, ESG factors appear to be retrofitted onto financial analyses rather than dealt with as a fundamental basis for financial decision-making,” it said.

Whilst mining companies, for example, might be constrained by attempting to apply ESG approaches, the LAPFF has argued that “if ESG approaches are used to re-think business cultures, strategies, and models, they can open opportunities for businesses to re-orient in a more efficient, sustainable way consistent with appropriate access to natural resources and in line with current views of engagement with all types of stakeholders, including workers and communities”.

Transparency problem

According to the LAPFF, it has seen first-hand examples where asset managers who invest in indices for asset owners cannot identify assets owners’ holdings in the companies on the index.

“Therefore, a transparency problem exists that leads to an accountability problem with this approach to ESG.

“Even if an index and/or data provider states that it employs an ESG approach, this is not necessarily the case. Because of the transparency problem mentioned, it can be hard to hold them to account. These shortcomings create significant risks of green- and blue-washing.

“LAPFF’s experience is that data providers collect only publicly available information and have bespoke methodologies that yield radically different ESG advice. Therefore, data quality does not currently appear to be sufficient to enable a consistent and reliable approach to the application of ESG criteria to investment decision-making.”

The LAPFF argued that existing laws are inadequate because they allow investors and businesses to determine the content of the ESG disclosure, rely heavily on self-assessment by investors and businesses, and use a ‘comply or explain’ regime.

“It would be helpful for States to require companies and investors to include statements and/or views from groups critical of their ESG practices in their required reporting materials. This approach would require appropriate multistakeholder consultation to set appropriate criteria for inclusion,” it recommends as a remedy to improve transparency and accountability.

“In LAPFF’s experience, if a State does not allow, or creates impediments for, investors to take ESG-related investment decisions in relation to acts of its home companies, this omission can result in a lack of accountability for human rights abuses committed abroad by their business partners and subsidiaries.

“States must ensure alignment between corporate law and human rights and environmental law. LAPFF is particularly concerned about corporate law and joint ventures, which appear to allow for poor ESG practices by non-operating joint venture partners due to accountability problems with these structures.

“Asset owners are generally more aware and are acting more on their responsibilities to respect human rights than are asset managers. However, all types of investors still have a long way to go to align their practices meaningfully with the UNGPs.”

LAPFF is a member of Principles for Responsible Investment (PRI) and the Investor Alliance for Human Rights (IAHR). Its human rights policy commits to the UNGPs. LAPFF is part of the PRI’s Advance human rights initiative and participates in IAHR working groups related to human rights, including those on ICT and Uyghur issues. “While these initiatives can be helpful in raising awareness among investors of human rights impacts, they are voluntary so often lack the power to achieve desired outcomes.”

Taking action

LAPFF reports that its members increasingly file or co-file shareholder resolutions on ESG issues, including human rights, with investee companies to promote improved corporate practices in these areas.

“Investors in a range of asset classes can undertake company engagements,” it says.

“For LAPFF, appropriate investor action entails holding engagement meetings with companies to determine what actions companies have taken or are taking to rectify adverse impacts. If LAPFF does not have comfort that appropriate action is being taken, it will escalate engagement by issuing voting alerts, issuing press releases, joining investor coalitions to gain leverage, and filing or co-filing shareholder resolutions. The press release approach was successful with Rio Tinto in relation to Juukan Gorge but for various reasons has been less successful with BHP and Vale and their involvement in tailings dam collapses in Brazil but work with all three companies is ongoing.

“When LAPFF can approach a company and explain that, for example, 69 LAPFF members hold two percent of a company, investee companies understand that LAPFF has leverage in relation to how companies approach human rights and climate change,” it said.

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