SPAC vs IPO

After more than a decade of buildup, special purpose acquisition companies (SPACs) have exploded and are gaining momentum in the US and beyond.

Special purpose acquisition companies (SPACs) were big news in 2020, breaking records and captivating markets and media alike.

SPACs raised a record US$82.4 billion in 248 US IPOs in 2020, data from Dealogic shows. This compares with US$13.5 billion for 59 IPOs in 2019. In addition, 92 SPACs announced business combinations in 2020, with a total deal value of US$151 billion, up from 27 SPACS with a total deal value of US$27.6 billion in 2019.

Despite sponsor and investor interest from around the globe, SPACs have primarily been a US phenomenon. That may be changing—the London Stock Exchange is weighing possible rule changes to encourage SPAC listings; Nasdaq updated its rules to enable SPAC listings in Stockholm, effective February 1, 2021; and SPAC offerings are in process on Euronext in various European countries.

What Is a Special Purpose Acquisition Company (SPAC)?

A special purpose acquisition company (SPAC) is a company with no commercial operations that is formed strictly to raise capital through an initial public offering (IPO) for the purpose of acquiring an existing company. Also known as “blank check companies”. SPACs have been around for decades. In recent years, they have become more popular, attracting big-name underwriters and investors and raising a record amount of IPO money in 2019. In 2020, as of the beginning of August, more than 50 SPACs have been formed in the U.S. which have raised some $21.5 billion.

What is an IPO and how does it work?

An initial public offering (IPO) refers to the process of offering shares of a private corporation to the public in a new stock issuance. Public share issuance allows a company to raise capital from public investors.

What is the purpose of an IPO?

Companies typically issue an IPO to raise capital to pay off debts, fund growth initiatives, raise their public profile, or to allow company insiders to diversify their holdings or create liquidity by selling all or a portion of their private shares as part of the IPO.

Are SPACs better than IPOs?


Private companies are flocking to SPAC deals for a few big reasons. One is that a typical SPAC comes with a 2% underwriter fee and 3.5% fee at completion compared with 7% for a traditional IPO. The timeline of a SPAC is usually three to four months versus up to a year with a traditional IPO.

How does a SPAC IPO work?


A SPAC raises capital through an initial public offering (IPO) for the purpose of acquiring an existing operating company. Subsequently, an operating company can merge with (or be acquired by) the publicly traded SPAC and become a listed company in lieu of executing its own IPO.

How does a SPAC work? 


This is the same as a SPAC IPO. SPACs are generally formed by investors, or sponsors, with expertise in a particular industry or business sector, with the intention of pursuing deals in that area. In creating a SPAC, the founders sometimes have at least one acquisition target in mind, but they do not identify that target to avoid extensive disclosures during the IPO process. (This is why they are called “blank check companies.” IPO investors have no idea what company they ultimately will be investing in.) SPACs seek underwriters and institutional investors before offering shares to the public.

The money SPACs raise in an IPO is placed in an interest-bearing trust account. These funds cannot be disbursed except to complete an acquisition or to return the money to investors if the SPAC is liquidated. A SPAC generally has two years to complete a deal or face liquidation. In some cases, some of the interest earned from the trust can be used as the SPAC’s working capital. After an acquisition, a SPAC is usually listed on one of the major stock exchanges.

Advantages of a SPAC

Selling to a SPAC can be an attractive option for the owners of a smaller company, which are often private equity funds. First, selling to a SPAC can add up to 20% to the sale price compared to a typical private equity deal. Being acquired by a SPAC can also offer business owners what is essentially a faster IPO process under the guidance of an experienced partner, with less worry about the swings in broader market sentiment.

SPACs Make a Comeback

SPACs have become more common in recent years, with their IPO fundraising hitting a record $13.6 billion in 2019—more than four times the $3.2 billion they raised in 2016. They have also attracted big-name underwriters such as Goldman Sachs, Credit Suisse, and Deutsche Bank.

Examples of High-Profile SPAC Deals

One of the most high-profile recent deals involving special purpose acquisition companies involved Richard Branson’s Virgin Galactic. Venture capitalist Chamath Palihapitiya’s SPAC Social Capital Hedosophia Holdings bought a 49% stake in Virgin Galactic for $800 million before listing the company in 2019. In 2020, Bill Ackman, founder of Pershing Square Capital Management, sponsored his own SPAC, Pershing Square Tontine Holdings, the largest-ever SPAC, raising $4 billion in its offering on 22 July.

Hot Sectors

A number of sectors in particular stood out in 2020.

Online gaming

Online gaming has been very active, with several transactions hitting the market in addition to DraftKings. These include the US$3.5 billion transaction between Flying Eagle Acquisition Corp. and Skillz Inc., the US$1.4 billion transaction between dMY Technology Group, Inc. and Rush Street Interactive, LP, and the US$800 million transaction between Landcadia Holdings II, Inc. and Golden Nugget Online Gaming, Inc.

Automotive – Electric Vehicle (EV) and Automotive Technology

The automotive sector, particularly electric vehicle manufacturers and automotive technology, has also been hot. Notable deals include Velodyne Lidar, which announced in early July its plan to merge with the SPAC Graf Industrial Corp. in a deal that valued the combined entity at US$1.8 billion. Velodyne is a supplier of lidar (light, detection and ranging) technology for developers of autonomous vehicles. The deal closed in October.

Life sciences

Life sciences has also been very active, with a number of SPACs launched by life sciences-focused investment funds.

SUMMARY

  • A special purpose acquisition company (SPAC) is formed to raise money through an initial public offering to buy another company.
  • At the time of their IPOs, SPACs have no existing business operations or even stated targets for acquisition.
  • Investors in SPACs can range from well-known private equity funds to the general public.
  • SPACs have two years to complete an acquisition or they must return their funds to investors.

ESG Investing, the Electric Vehicle (EV) Automotive industry and SPAC / IPO

Electric Car and Bus Markets

What is ESG?

ESG stands for “environment, social and governance”. 

What is ESG Investing?

ESG investing entails researching and factoring in environmental, social, and governance issues, in addition to the usual financials, when evaluating potential stocks for portfolios. Research is increasingly showing that this investing method can reduce portfolio risk, generate competitive investment returns, and help investors feel good about the stocks they own.

There are any number of ways for investors and business leaders to explore the EV or ESG conversation right now. The push for sustainable options in every sector reaches well beyond the automotive industry. The next generation consumer and market intelligence ensures you will see those trends coming and be ready to adapt (or adopt) early.

Electric Vehicles Are The Future

Until recently, mass adoption of Electric Vehicle (EV) technology has been concentrated primarily in the small vehicle category, targeted at reducing the numbers of the highly polluting two- and three-wheelers ubiquitous in Asia’s cities. Through a system of subsidies to encourage mass adoption of these EVs, China has sought to improve air quality throughout its many bustling city-centres. 

Policies encouraging adoption of more sustainable behaviours are beginning to shift from incentivising consumers to regulatory enforcement, although the economic impact of COVID-19 has resulted in countries temporarily prioritising economic recovery.  Furthermore, pressure to conform to more socially responsible practices is becoming increasingly mainstream. 

Whilst China has led adoption of EVs and battery technology in recent years, European consumers and manufacturers are now rapidly turning to EVs, catalysed by incentives seeking to boost economic activity.  EVs are generally regarded as ‘green’ technology, however the supply of mineral ingredients for batteries is likely to give rise to new sustainability challenges.

Regulations to Replace Subsidies

Regulations put in place by the Chinese government have increasingly focused on encouraging consumers and manufacturers to switch away from polluting ICEs to cleaner EV technology.  Since 2019, China’s vehicle manufacturers have been incentivised to produce and sell greater volumes of their EVs through a system of credits for each unit produced, reflecting factors such as type, energy consumption, weight and range.  Manufacturers that do not achieve agreed sales targets must either purchase credits from competitors or face financial penalties.

This subsidy system – introduced in 2012 as part of a push to reduce air pollution in China’s cities – has successfully stimulated EV adoption in the country. However, whilst the system was scheduled to be phased out in 2020, the combined impact of weaker-than-expected EV sales in 2019 and the shock of COVID-19 has meant that the withdrawal of purchase tax exemptions has been deferred until 2022. 

The European Union’s 2014 Directive required member states to set targets for public recharging infrastructure; in 2017 it established the Battery Alliance, aimed at fostering co-operation between member states, industry and the European Investment Bank. As the EU has developed its environmental and sustainability policies, a combination of strategic support and regulatory pressure has been developed; for example, in 2019 stakeholders were consulted on how to use regulations to rapidly foster a battery market that provides high quality, cost efficient and competitive products in a sustainable manner.

Adoption 

Battery technology limitations have until recently meant high uptake has been limited above all to smaller vehicles, with approximately 350 million two- and three-wheeled EVs in use worldwide, representing 25% of all vehicles in this category globally. Use of these light vehicles has been centred primarily in Chinese cities, although adoption is spreading to other highly-populated cities in India and ASEAN nations.

Electrification of urban bus fleets is also seen as an area of potential growth, as their short routes and driving cycles are compatible with contemporary battery limitations.  Globally, there are around half a million electric buses in use, about half of which are in Chinese cities.  Extra-urban buses and lorries, however, do not readily lend themselves to electrification due to long distances and charging infrastructure requirements – today’s battery technology simply do not possess the range to make uptake in this sector viable for now.

Electric car global sales in 2019 amounted to 2.1 million, taking the global stock of electric cars to 7.2 million; or 2.6% of global car sales and 1% of global car stocks. As China experienced weak demand continuing into 2020 because of the COVID-19 pandemic, sales in Europe increased significantly, up by 57% in the first half of 2020, even as the overall trend of vehicle sales volumes showed a significant dip (down 37%). This change was mainly in response to European countries introducing new economic recovery schemes targeting green technology, taking European sales volumes ahead of China for the first time.

Automakers are rapidly growing their product ranges while shifting away from plug-in hybrids (PHEVs).  In 2019, 143 new EV models were launched, while a further 450 models are expected by 2030, mostly consisting of mid-sized and large vehicles. Although the number of manufacturers and models is rapidly expanding, Tesla retains quite remarkable leadership. In the first half of 2020, global sales of the Tesla Model 3 amounted to 142,000 vehicles while the second most popular EV, the Renault Zoe, achieved a reduced 38,000 unit sales.

McKinsey estimates that by 2030 EVs could account for 20% of global vehicle sales, whereas Deloitte anticipate significant regional variations, with China making up 48% of total sales, Europe 27% and US only 14%.

One of the factors effecting adoption rates is the oil price, as consumers are highly sensitive to costs relative to ICE vehicles. The International Energy Agency calculates an oil price of US$25 per barrel will increase the payback period by 1 – 2.5 years compared to oil price of US$60. Fuel tax policy is also an influence; in countries such as Germany with 60% fuel tax, there is greater incentive to switch away from internal combustion engines than in the US where tax is around 20%.

EV growth rates are expected to slow beyond 2030, as wealthy countries will have substantially adopted the technology as far as is practical. In poorer countries, adoption will be slower due to the significant capital requirements to construct charging infrastructure necessary to make day-to-day use feasible.

New Money

Rare earth miners and uranium producers have enjoyed the flood of new money going into electric vehicles and environmental, social, and governance investment themes as reported by Bloomberg. Lithium producers have traditionally benefited from the growth in the electric vehicle market and the broader green energy push that has raised demand for lithium-ion batteries. More recently, rare earth producers have also gained momentum amid the greater push toward electric vehicles, especially with the Biden administration targeting a zero-emission future more reliant on clean energy alternatives. 

There is an accelerating adoption of electric vehicles and electrification trends in wind turbines. Rare earth metals are incorporated in new technologies, from lithium-ion batteries to electric vehicles, wind turbines, and missile guidance systems. There is also limited global supply as only a handful of producers globally produce the metals.  

Uranium stocks are now gaining attention from ESG investors due to their low GHG footprint and quintessential role as a clean energy alternative, the set-up for incremental/new Uranium investments as opportune for greenhouse gas emissions.

Young Investors are attracted to the Electric Vehicle market

With new apps available making investing an attainable option for anyone, young investors are increasingly attracted to the electric vehicle market – and to the surrounding conversation. Capturing customer experiences analytics with social listening is critical, as their investment decisions mirror their buying habits. Next generation consumer and market intelligence is key.  Millennials love electric vehicles.

Electric Vehicles Batteries

The demand for EV batteries is expected to soar as automakers increasingly comply with emission standards and boost their production of battery electric vehicles (BEVs), according to a new report from Moody’s Investor Service. Tightening regulations and growth of BEVs are also expected to spur improvements in battery capacity. The International Energy Agency projects global battery capacity for BEVs and plug-in hybrid vehicles will grow by 24% on a compounded annual basis between 2020 and 2030.

Top makers of EV batteries, including Contemporary Amperex Technology, LG Chem, Panasonic Corporation and SK Innovation are set to benefit from rising demand. These four account for more than half of global production. However, a sharp rise in production will pose operational risks and increase the challenge of keeping leverage ratios stable, according to the report. As battery makers invest in emerging technology, strong relationships with automakers will be critical for their credit quality.

Makers of EV batteries who maintain solid relationships with automakers that have a clear strategy to expand BEV sales will see their revenue and profit stay stable. Among the four rated battery makers, Amperex Technology’s margin will remain the highest and stay around low double-digits over next 12 to 18 months, thanks to high-capacity utilization and China’s EV subsidies. In comparison, other battery makers’ margins are single-digit or less, according to the report.

Battery Technology

McKinsey estimate the cost of an EV to be made up primarily of the battery pack, accounting for a full 40%-50% of the price while the power train represents another 20%.  Lithium-ion (Li-ion) batteries commonly used in EVs presently use cathodes (a negatively charged electrode that’s the source of electrons generating the electrical charge) made from three mineral mixtures, with nickel cobalt aluminium oxide (NCA), nickel manganese cobalt oxide (NMC) and lithium iron phosphate (LFP) being the most prominent. 

NMC, however, is the most widely used type due to its energy density properties. Energy density, or the amount of energy held in the battery per unit weight, is highly prized in many EV markets and is largely defined by the nickel content of the battery; this will likely represent one of the ways in which performance will be improved over coming years. On the other hand, it is worth noting that not all batteries are manufactured to optimise energy density. Other considerations such as cost or size constraints may be more important so that usage specifications vary; small battery packs are most common in Asia, whilst in Europe and US batteries are larger.

In the years since 2010, battery costs have fallen from US$1,000 kWh to US$147 kWh. Bloomberg New Energy Finance expects these will fall to around US$100 in 2023/4 and US$61 by 2030. It has been reported that Tesla is now working with Chinese battery manufacturer CATL on LPF battery technology which could reduce costs below the US$100 per kWh mark, helping to achieve cost parity with ICEs.

Sustainability

Recycling regulations primarily focus on making battery manufacturers responsible for waste through the entire life-cycle until scrapped, referred to as Extended Producer Responsibility (EPR).  Batteries are also recycled by converting used packs for lower specification EVs, or reconfigured as part of electrical storage facilities.

In China, companies are mainly focused on recycling materials in preference to repurposing used batteries, in response to regulations and shortages in supply of lithium, 85% of which is imported. In 2020 the EU brought forward new regulations intended to protect and improve the environment by minimising adverse impacts of batteries through prohibiting certain materials and requiring battery producers to take responsibility for end collection and recycling. In the US, waste regulation is primarily set at the state level, with certain states having introduced battery recycling and disposal laws, while others have applied EPR principles. 

While EVs are effective in reducing harmful air pollutants, large scale use of minerals such as cobalt and nickel bring their own challenges. High quality nickel, one of the main components of modern batteries, is extracted from rock containing just 1% of usable material.  Such high quantities of waste product are potentially a major environmental concern; with increased demand its expected production will shift from Canada and Australia to Indonesia, where mining firms will have to sustainably dispose of large volumes of waste to ensure Indonesia’s seas with their rich coral reefs and turtles are not endangered.

Regulation, Technology and Investments

Impressive statistics on the rollout of electric vehicles (EVs) are the result of regulation, technological improvements, and greater investment in EV supply chains. But accessible, efficient, and low-cost charging infrastructure remains a prerequisite for widespread EV adoption; deploying this infrastructure efficiently and achieving target return rates will be more complex than immediately apparent.

Highlighting the magnitude of the transformation required to manage climate change, there is a commitment to cut net carbon emissions to zero within the next few decades. Zero-carbon transport is just one of the requirements for achieving this goal. Immense changes to power generation, heating, agriculture, and manufacturing will also be required.

Biggest Tech Breakthrough in a Generation

The early investors in the new type of device that experts say could impact society as much as the discovery of electricity. Current technology will soon be outdated and replaced by new devices. In the process, it is expected to create 22 million jobs and generate $12.3 trillion in activity.

Charging points

Charging points are a vital aspect of the overall shift towards the electrification of transport. Various forecasts put the number of EVs on UK roads at between two and six million by 2030. EV drivers will seek to have residential chargers installed in their homes wherever that is an option: around 57% of UK households currently park on a driveway or in a domestic garage. Technical guidance from the EU recommends one public charger per 10 electric vehicles. This means hundreds of thousands of public chargers will be needed to enable the expected deployment of EVs, an exponential rise from the current level of roughly 20,000.

Competition to install the charging points is already intensifying as early entrants seek to gain advantage and capture market share. Car makers increasingly see the provision of ancillary services as paving the way for vehicle sales growth. Energy companies are increasingly looking to diversify their fossil-fuel exposure too, while utilities see synergies with their traditional energy-supply businesses. Finally, independent specialists have emerged who are seeking to capture market share and provide solutions for corporate clients such as shopping malls, supermarkets, fleet operators, and large employers.

The residential charging market is attractive to EV installers due to its large size and growth prospects. It is becoming increasingly commoditised, though, with low barriers to entry enabling increased competition and pressuring margins. Achieving economies of scale will be the key challenge for developers in this market segment.

On the other hand, public charging networks – particularly rapid charging – feature higher barriers to entry and potentially more stable revenues in the future. Location is crucial for this: some places, such as motorway service stations, have a more stable base of captive users than others like carparks or retail and leisure locations. Low utilisation is the main challenge for these assets, as preliminary data suggest around 80-90% of charging is conducted at home. Rapid chargers are seldom used even in markets such as Norway, where the EV transition is well under way. Furthermore, fast public charging can require significant upfront investment, not least in power network upgrades.

The good news for investors is that EV adoption is intensifying and creating a large market for the build out of ancillary infrastructure. Clarity on user behaviour and competitive dynamics will develop over the next five to 10 years. In the meantime, investors in charging infrastructure will need the patience to develop an in-depth understanding of consumer behaviour, the interaction between location and utilisation, and a tolerance for risk.

Electric Bus and Public Transportation Market

The electric bus market size exceeded $28 billion in 2020 and is expected to grow at 11% compound annual growth rate (CAGR) between 2021 and 2027. The market is forecast to grow at an exponential rate due to the rapid increase in uptake of electric buses as a sustainable mode of transport according to a new report by Global Market Insights (GMI). 

Electric buses are primarily operated by the integrated electric batteries. This also includes plug-in hybrid buses and fuel-cell electric buses. The report says stringent emission regulations and directives imposed by governments across the globe will propel the adoption of electric buses. In 2019, France announced its 100% zero-emission vehicle target for 2040. As a part of the Paris Climate agreement, the country passed a law to ban ICE vehicle sales by 2040.

Electric buses are 100% eco-friendly as they operate on electrically-powered engines. They do not release smoke or toxic gases into the environment as they operate on a clean energy obtained from battery packs. Several benefits of electric buses, such as low maintenance costs and reduced pollution by emissions, are augmenting their representation in the market.

The increasing focus of several countries, such as India, China, and Canada, on promoting electrification of public transport is providing lucrative growth opportunities, according to GMI. Initiatives undertaken by several governments to reduce the carbon footprint of public transportation are boosting the electric bus market size through 2027.

The electric bus industry alongside every other industry has been impacted by the prevailing situations of COVID-19. The manufacturing of electric buses has been affected and sales numbers also decreased because of mass quarantines and lockdown during the first two quarters of 2020. Industry players have faced challenges on account of shortage of capital and financial insecurities caused by the decline in revenues. However, the market is expected to witness steady growth subject to the revival of global economic conditions in 2021, supported by policy changes and government support.

SPAC Merger Became the Trendiest EV IPO Route of 2020

The demand for electric vehicles (EVs) is fueling on the back of climate change concerns, favourable government policies and superior technologies. Investors are intrigued by automakers that look for solutions to lower global carbon emissions for providing a cleaner energy future. With green vehicles striking the right chord with investors, it has been raining IPOs in the EV market during the past year. Seemingly, merger with special purpose acquisition companies (SPACs) turned out to be the most popular course of action for an EV IPO in 2020. 

What is a SPAC?

SPACs, or blank-check companies, are shell vehicles that raise money to take a private company public via a reverse merger. Unlike traditional initial public offerings (IPOs), SPAC deals allow listing candidates to market financial projections to investors, a perk for earlier stage companies that have yet to prove their business model. 

SPACs have changed the traditional IPO market. SPACs are flourishing in the EV market, helping startups to avoid the complexity and strenuous paperwork associated with the traditional IPO. Many EV companies chose to go public in 2020 via reverse mergers with SPACs, a faster, simpler and less demanding process than the conventional means of making a debut on the stock market.

Electric-vehicle companies, many of which are yet to launch commercial products, have taken advantage of that. Nikola Corp was the first high profile one to go public via a SPAC listing, followed by others including Lordstown Motors Corp, Fisker Inc and Canoo Inc. U.S. listings have dominated the SPAC boom, but Europe’s stock exchanges are now catching up.  The IPOX SPAC Index tracks the performance of a broad group of blank-check companies. 

Conclusion

The early stages of adoption by users of medium and large cars has commenced, with higher sales volumes shifting from China to Europe.  At present, volumes of battery-powered EV sales are small as a proportion of global vehicle sales, although rapidly rising; Tesla retains leadership and dominates the mid- and large-sized EV market. Higher levels of adoption are expected in wealthier nations where the significant cost of recharging infrastructure can be financed.  

Governments around the world are embracing EVs as a green technology that reduces harmful air pollutants and are putting regulations in place which make battery manufacturers responsible for their products throughout their entire lifecycle.  As consumers become more aware of the environmental impact of their actions and governments face growing liabilities from air pollution, adaption in many countries is now regarded as a necessity rather than a lifestyle choice. 

Additionally, merger with special purpose acquisition companies (SPACs) has good prospects to continue with the 2020 popularity course of action for an EV IPO. 

With the election of President Biden, who has signalled his commitment to sustainability by rapidly moving to re-join the Paris Agreement and appointing John Kerry as the special envoy on climate change, there is now the prospect the US will join China and Europe in forcing further change.

SFDR – New ESG challenges for the UK

What is SFDR?

The Sustainable Finance Disclosure Regulation (SFDR) is part of the European Commission’s package of reforms to implement its sustainable finance strategy. The strategy focuses on three areas:

  1. Strengthening the foundations for sustainable investment by creating an enabling framework. The Commission believes many financial (and non-financial) companies still focus excessively on short term financial performance instead of long-term development and sustainability-related challenges and opportunities. 
  2. Increasing opportunities to have a positive impact on sustainability for citizens, financial institutions and corporates – enabling them to “finance green”.
  3. Integrating climate, environmental, and social risks into financial institutions and the financial system as a whole. 

To that end SDFR introduces a series of disclosure requirements for investment firms to address environmental, social and governance (ESG) concerns. It applies to asset and fund managers (e.g. MiFID investment managers, alternative investment fund managers (AIFMs), and UCITS managers), and investment firms, as well as credit institutions and insurers. The SFDR entered into force in December 2019 and its implementation date is on 10 March 2021.

How does it apply to UK firms?

The UK government has opted not to implement the SFDR into UK domestic law following the end of the UK’s Brexit transition period. However, SFDR will most likely still be relevant for UK firms either as a requirement under the regulation or in practical terms. For example, if a UK-based private equity firm wants to market into the EU or manage EU-based funds, it will be subject to the SFDR in its capacity as an Alternative Investment Fund Manager (AIFM). Additionally, we are likely to see firms complying with the SFDR for commercial reasons, particularly due to client or investor pressure

Even if a UK firm does not have to comply with the SFDR, the UK government plan to put green finance high on its agenda. In November 2020, UK Chancellor Rishi Sunak announced the government’s plans for the financial services sector ahead of the end of the Brexit transition period. The plans included the introduction of “more robust environmental disclosure standards so that investors and businesses can better understand the material financial impacts of their exposure to climate change, price climate-related risks more accurately, and support the greening of the UK economy”.

A HM Treasury spokesperson said: “[Last] year the Chancellor announced the UK’s intention to be the first G20 country to make disclosures that are aligned with the recommendations of the Task Force on Climate Related Financial Disclosures fully mandatory across the economy by 2025, going beyond the “comply or explain” approach adopted under the SFDR.  We are considering the requirements for legislation relating to the SFDR and will set out further details in due course.

For asset managers, the Financial Conduct Authority (FCA) is consulting in H1 2021 on potential TCFD-aligned client disclosure rules, aimed at providing ESG information at the firm, fund, and portfolio level to aid decision-making for investors. The UK regime is therefore likely to overlap substantially with SFDR.

What changes will SFDR bring?

The SFDR disclosure requirements involve a number of potentially challenging compliance hurdles for firms to overcome. There is a requirement to disclose “principal adverse impacts” (PAIs) of investment decisions on sustainability factors on a “comply or explain” basis. PAIs are defined as impacts of investment decisions and advice that result in negative effects on sustainability factors. The key challenge will be the collection of data. Firms will need to collect data from various sources, then map that data into a singular and robust data model. Data quality checks and transparency will be important compliance factors. Challenges like these will be costly and time consuming.

At the very least, firms now should be getting up to speed with the SFDR and the related Taxonomy Regulation and understanding where they fall within the scope of the regulation and what changes that will entail to their current practice. In light of the requirements, firms should start reviewing marketing materials and website disclosures. Firms should prepare their position on PAIs. If PAIs are voluntary then firms may wish to implement a phased approach, whereby they explain in March 2021 that they are not ready to disclose against the rules but will be reporting later in the year.

Firms should not wait to start making implementation plans. Client and investor demand remains a key developing driver of ESG changes and firms need to make headway in this area or risk being left behind.

The text of the SFDR can be viewed here.

Summary

The EU’s regulation on sustainability disclosures in the financial services sector, also known as the SFDR, came into effect on 10 March 2021. The UK government has elected not to implement the regulation in legislation since Britain left the EU’s regulatory umbrella at the beginning of 2021. However, the UK government is considering implementing similar rules. Advisers should also consider following SFDR regulation as good practice, even if it is not UK law because the regulation could be an example of good practice and a competitive advantage. 

It will be key to understand clients’ ESG requirements and to research innovative solutions. While the government chose not to implement the SFDR, the regulation would apply to advisers if they have clients living in Europe, according to adviser trade body Pimfa. Those with only UK clients, meanwhile, would not have to apply the regulation.

The UK government is due to introduce its own version of the SFDR but there is currently no information on when that will be, whether it will simply mirror the SFDR or if it will differ in certain ways.

The expectation is that it will be at least one year before the UK will launch its own version of the SFDR so the requirement(s) around sustainable finance is still some way off. 

The rules would have required advisers to ask clients about sustainability preferences in their suitability checks as part of the advice process. They also require financial advisers to publish on their websites information about how they integrate sustainability risks into their investment or insurance advice.

TCFD recommendations

The Climate-related Financial Disclosures (TCFD or Task Force) recommendations are designed to solicit consistent, decision-useful, forward-looking information on the material financial impacts of climate-related risks and opportunities, including those related to the global transition to a lower-carbon economy.

Governance

Disclose the organisation’s governance around climate-related risks and opportunities.

Strategy

Disclose the actual and potential impacts of climate-related risks and opportunities on the organisation’s businesses, strategy, and financial planning where such information is material.

Risk Management

Disclose how the organisation identifies, assesses, and manages climate-related risks.

Metrics and Targets

Disclose the metrics and targets used to assess and manage relevant climate-related risks and opportunities where such information is material.

ESG and SDG Investing in Latin America and the Caribbean

Latin America and the Caribbean are increasingly relying on environmental, social and governance, or ESG, investments to help address their financial needs. The region faces an infrastructure gap and has recently seen financial institutions withdraw, in part due to the region’s vulnerability to natural disasters and climate change. While some financial institutions have withdrawn from the region, according to the Climate Bond Initiative, Latin America and the Caribbean saw an increase in the green bond markets in 2019, contributing to 2 percent of green bonds issued globally. With oil and gas markets hitting record lows, the region and global investors may use this opportunity to shift their focus to sustainable and green investments. 


With the arrival of the Covid-19 pandemic, ESG in Latin America and the Caribbean is needed now more than ever, offering a potential growing market for investors looking at the space. Specifically, Covid-19 revealed gaps in infrastructure globally, including in Latin America and the Caribbean. Pandemic-response bonds are already emerging and are designed to deal with the social and economic repercussions of Covid-19. It would seem that at this point in time, Latin America and the Caribbean present a unique market for ESG investment. Indeed, the region, once heavily associated with corruption, has increased anti-corruption efforts, in part to increase global investment and make the region more inviting to investment dollars on projects other than the exploitation of natural resources. Companies are eager to boast ethically conscious and socially responsible investments in an effort to differentiate themselves and receive attention from international investors.

Latin America, like anywhere else, has companies that care about ESG issues and others that do not. It is important to understand what lens you are looking at ESG through: are you an investor or asset manager, or are you the company’s board and c-suite overseeing and implementing an ESG strategy? Any way you look at it, ESG has arrived globally—especially in the investor community—and cannot be ignored locally or regionally by any company. ESG is here to stay and even more so because of the global disruption Covid-19 has wreaked. 


There are two key factors in whether a company is ESG responsive: 1.) how enlightened and responsible leadership and the board are on these issues, or how superficial, greenwashing-oriented or downright irresponsible they are; and 2.) how committed, proactive or outright activist key stakeholders are—especially investors but also communities, customers, NGOs, suppliers, regulators and employees. Additionally, the seriousness with which ESG is taken also depends on the sector and how immediately exposed that sector is to ESG. 

Latin America

Thus, a company in the mining and extractive industry will or should be much more attuned to environmental and social issues than most (though these also interconnect directly with good, mediocre or poor governance, as we have seen in several notorious scandals in Latin America—Petrobras, Odebrecht, Vale). While other sectors may think they do not have a strong ESG remit or profile, they should think again—for example, the rise of ESG awareness is especially strong in the investor and asset management community globally. Add to the mix we already had pre-Covid-19 (for example, climate change), additional pandemic-induced systemic changes such as supply chain disruption, social and racial inequality, popular unrest, health care and economic failures potentially on a massive scale.

Now more than ever is the time for both investors and issuers in Latin America to adopt and fully integrate an ESG agenda as part of their daily business, long-term strategy for value creation, resilience and sustainability. It is a matter of survival, not just competitive advantage, to do so.
ESG has been a growing theme for private capital investors in Latin America over the last decade, with fund managers dedicating new resources to monitor and measure the social and environmental impact of their investments.

Since 2014, LAVCA has been tracking deal cases with important environmental, social, governance and gender outcomes. These examples are wide-reaching and range from traditional impact sectors such as financial inclusion and renewable energy to businesses in consumer/retail, IT, agribusiness, financial services, health care, education, real estate and infrastructure. In addition, there have been a number of traditional fund managers co-investing alongside those with an impact-only mandate in Latin America, indicating that there is an appetite and opportunity to invest in companies and projects that yield tangible social and environmental objectives across sectors and countries. Correlated to an increasing limited partner/general partner focus on climate change, investment in clean tech, alternative and renewable energies in Latin America has gone from $470 million invested across 35 deals in 2014-2016 to $2 billion across 63 deals in 2017-2019, according to LAVCA Industry Data.

Climate change and environmental considerations have never been more prominent in investment conversations across emerging markets. More than three-quarters of commercial limited partners (LPs) participating in the latest EMPEA LP survey on emerging markets private capital cited taking such factors into account when making investment decisions. While most LPs do not yet face specific restrictions on their allocation choices, a multitude of factors—including pressure from boards and beneficiaries and increasing evidence of ESG’s role in positive investment outcomes—has generated significant momentum behind sustainable investing. One family office said, “In recent years, we have been actively divesting our public stock portfolio in developed markets to increasingly focus on private capital in emerging markets for social/charitable purposes.’ With a shift in priorities becoming even more obvious in the current world scenario, we are seeing investors better understand their role in maintaining the long-term sustainability of global markets by way of responsible investing.”

Caribbean

Good governance is a major concern in the Caribbean. Indeed, the issue of corruption is an ongoing point of discussion in some countries and a topic that tends to arise during elections. This was amply evident during 2020 voting in the Dominican Republic, Guyana, Suriname, and Trinidad and Tobago. In each case, campaign narratives included citizens’ concerns over governance, which impact their day-to-day lives in the form of quality of public services, accountability of government finances, and law and order.

While the need for better governance is an issue in the Caribbean, the region is hardly unique in dealing with such challenges. Caribbean governments are finding themselves increasingly brought into a broader international system of governance accountability. While at times this may be perceived as external interference, the creation of such a global accountability regime generally functions as a force for positive change, especially if it contributes to the creation of more robust civil societies.

The Caribbean is hardly unique in facing governance issues. According to the World Economic Forum, the global cost of corruption in 2018 was estimated to be $2.6 trillion. In recent years, international news has been rife with headlines of corruption in high places. In Malaysia, the 1MDB scandal helped bring down the government and put its former prime minister on trial for corruption.

Moreover, in 2020 the U.S. investment bank, Goldman Sachs, reached a settlement of $3.9 billion with the Malaysian government for its part in the scandal. In Brazil, the 2010s were rocked by Operation Car Wash (Lava Jato), which revealed extensive money laundering and bribery involving the state-owned oil company, Petrobras. The ripples from that scandal ultimately sent one former president to prison, helped impeach another, ruined the reputation of one of the country’s largest and best-known companies, Odebrecht, and snared high-ranking political figures in other parts of Latin America.

The United States also saw its share of public corruption. It is often forgotten but it was only in 1883 that the U.S. officially did away with the spoils system with the Pendleton Act. Even since then there have been many financial scandals—not necessarily involving the government—but nonetheless causing damage to the public faith, including the Savings and Loans scandal, Enron, and Bernie Madoff.

Another governance rating database is the World Bank’s Worldwide Governance Indicators (WGI). This covers a wide range of indicators related to governance and corruption. The World Bank’s program includes items such as “control of corruption” and “voice and accountability”. Under the first are considerations like corruption among public officers, public trust of politicians and transparency, accountability, and corruption in the public sector. Under “voice and accountability” are items such as press freedom, human rights, the role of the military in politics, and openness of the budget process. Another part of the global accountability regime is ESG standards.

Private investors use ESG to gauge how a company or project meets these standards, either through green bonds or direct investment. ESG now accounts for billions of investment dollars and, in the post-COVID-19 environment, is projected to expand further. Moreover, many of the world’s leading companies—a number of them active in the Caribbean—are adopting ESG standards.

According to a KPMG survey, 75 percent of the largest 100 companies across 49 countries indicated that they are employing ESG business models or incorporating aspects of sustainability approaches. This 2017 number indicates substantial growth from just 12 percent in 1993. For Caribbean governments, ESG’s importance is abundantly clear. Investors may shy away from investing in companies operating in countries that have poor track records with environmental compliance, governance, and transparency. This is particularly critical for companies operating in the extractive industry sectors, which have encouraged the adoption of Blue Economic policies that tap the potential of the local ecosystems to add to a widening ESG investment menu.

Considering the competition for international capital, this trend could provide Caribbean countries a wider platform to attract foreign and domestic investment.There are other ways that Caribbean countries and territories are rated. These include organizations like the Organization for Economic Cooperation and Development (OECD), the Financial Action Task Force, and other multinational groups. These create “blacklists” and “greylists” for jurisdictions that are regarded as facilitating financial crimes or tax evasion. The European Union’s Economic and Financial Affairs Council maintains a list of “non-cooperative” jurisdictions for tax evasion.

The last revision, in February 2020 included the following Caribbean countries: the Cayman Islands, Panama, Trinidad and Tobago, and the U.S. Virgin Islands. Jurisdictions that were previously on the EU blacklist were Aruba, Barbados, Belize, Bermuda, and Dominica, but they were removed as they worked with the EU to improve their tax compliance standards.The stakes for the Caribbean are high in terms of governance, especially because the COVID-19 pandemic highly affected the region. The Caribbean already has a number of reasonably well-developed organizations, including CARICOM, the Caribbean Court of Justice, the Caribbean Development Bank, and Caribbean Financial Task Force.

Although there are often complaints over their value, the region would be much poorer without these organizations. They provide important forums for discussion, technical expertise, and the creation of regional standards. Moreover, they reinforce ideas about the need for robust civil societies and their projects help promote civic organizations throughout the region.Looking ahead, good governance and tackling corruption are important to the Caribbean. This comes in many shapes and forms, but for governments in the region to deliver the package of goods their citizens expect—law and order, functioning public utilities, and working healthcare and educational systems—there has to be a commitment to maintaining systems that promote the public good.

This means not just having laws on the books, but enforcing them. At the same time, Caribbean governments have to be aware that as citizens hold them to a higher standard, they are also being held to international standards. Accountability to both domestic and international constituencies may add to an already long list of pressures, but the results are more inclusive and equitable societies—a goal to which all citizens can aspire. 

Caribbean economies, which have struggled to recover from the 2008 – 2010 financial crisis, have been particularly hard hit by Covid-19 and the resulting economic fallout.Increasing focus on the region by the U.S. due to its economic, social and security significance is heightened by major oil discoveries and Chinese interest in the region.

Massive flows of ESG capital could aid in remaking the region, financing a new economic model built on technology and improved infrastructure.An old-fashioned oil boom will also contribute significantly to growth, particularly in Guyana, Suriname and Trinidad & Tobago.With all of these powerful economic drivers converging in the Caribbean, it is time for investors to take note of the region.

While there remain challenges, the nations of the Caribbean understand that embracing technology, such as blockchain, along with upgraded communication infrastructure are essential keys to catching up with the rest of the world.  This presents both opportunity for international investors and will itself be a significant driver of future economic growth in the Caribbean. 

ESG & SDG Investment

Investing in accord with “environmental, social and governance” (“ESG”) principals and “sustainable development goals” (“SDG”) of the United Nations is here to stay.  According to an article by the Chief Economist of the Inter-American Development Bank ESG dedicated investment funds account for more than $20 trillion, or one-quarter, of professionally managed assets world-wide.This includes the Caribbean as part of a larger discussion of Latin America and is convincing in its argument that the focus of major international development institutions in facilitating ESG and SDG investment in both the Caribbean and Latin America represents an entrenched, long-term trend.

ESG and Impact Investing in Africa

FOCUS ON NIGERIA AND SOUTH AFRICA

A strong end to 2020 was boosted by factors including the US’ announcement of a further $1.9trn of Covid-19 related stimulus, the challenge for emerging markets investors now is to focus on five years of real change across economies.

On a global scale, emerging and frontier markets account for the largest share of the world’s population, land and mineral resources. They are the drivers of global growth and consumption. Sustainability is a function of their development, and it is therefore essential to promote responsible business practices, enforce human rights and environmental protection.

These are also high impact markets where a minor change can have major global consequences. Stopping deforestation in Brazil, reducing emissions in China, eliminating poverty in India, or finding a solution to water scarcity in Africa, for example, could change the entire planet. Environmental, Social and Governance (ESG) considerations are vital when investing in developing countries, and if the next five years are to be the years of emerging and frontier markets, they will also be the years of ESG.

Emerging markets funds must use the next five years to ensure ESG is at the centre of investment philosophies, with the biggest environmental and social challenges located in the countries they invest in. Sustainability is a function of emerging markets development, and it is therefore essential to promote responsible business practices, enforce human rights and environmental protection.

NIGERIA

Nigeria is leading the way in impact investing in West Africa where twenty-eight impact investors are active in the country. Over the last few years, impact investments have continued to grow in Nigeria.

TYPES OF IMPACT INVESTMENT

The opportunity for impact investments varies and investors may choose to put their money into emerging markets or developed economies. There is no hard and fast rule on the delineation as to what is and what is not impact investment.

However, Impact Investments span across number of industries including:

  1. Healthcare e.g., developing and providing technology that will enhance good health of humans, telemedicine/telehealth/e-health
  2. Education e.g., emerging online education and schools especially during and post-COVID
  3. Energy, especially clean and renewable energy
  4. Agriculture
  5. Microfinancing e.g., digital microfinance banking platforms.
  6. Housing

LEGAL FRAMEWORK/REGULATORY REGIME FOR IMPACT INVESTMENT IN NIGERIA

In Nigeria, there is no law whose sole purpose is to particularly regulate impact investments. However, there are several laws with implications for impact investment and investors. They include:

  1. The Companies and Allied Matters Act
  2. The Nigerian Investment Promotion Act
  3. The Investments and Securities Act
  4. Consolidated Rules and Regulations of the Securities and Exchange Commission
  5. The Finance Act
  6. The Foreign Exchange (Monitoring and Miscellaneous Provisions) Act
  7. The Industrial Inspectorate Act
  8. The Industrial Development (Income Tax Relief) Act
  9. The National Office for Technology Acquisition and Promotion Act
  10. The Rulebook of The Nigerian Stock Exchange 2015
  11. The Immigration Act

Considering the many government institutions that one will have to deal with towards obtaining relevant certifications, permits and or licences, the Nigerian Government, through the Nigerian Investment Promotion Commission (NIPC), created a One-Stop Investment Centre (OSIC) to help bring together all the relevant regulatory bodies and institutions that one may need to relate with for the purpose of obtaining the relevant certifications and or licenses before commencing operations in Nigeria.

The idea behind the creation of OSIC is to help investors (including impact investors) conveniently set up their businesses in Nigeria. How well this aim has been achieved is in doubt.

A CONSIDERATION OF THE CONCEPT FROM THE NIGERIAN PERSPECTIVE

Nigeria, being a developing country in the third world, has its fair share of socio-economic challenges ranging from poverty, hunger, unemployment, illiteracy, lack of (and sometimes, inadequate) social amenities, security, etc. Issues of climate change (being a general problem world-over) also pose a challenge to the country. These challenges are natural attractors of impact investors both within and outside Nigeria.

Hence, the obvious intervention being carried out by some of these impact investors in some of Nigeria’s sectors. Examples of such investors are Uber, Bolt, Gokada, Oride (all car and bike hailing services mostly operational Nigeria), Learners Corner International Limited (a Nigerian Company that uses technology to deliver education to Nigerian Children especially as a result of COVID), LifeBank (a startup that works with hospitals round the clock to find lifesaving medical products and deliver same to the hospitals in the right condition across Africa), Wecyclers, (a company that offers convenient household recycling services using a fleet of low-cost cargo bikes), Andela(a technology company that recruits and trains local software developers at little or no cost, who in turn work remotely for them for various international companies, thereby generating employment opportunities for thousands of the unemployed populace in Nigeria), and the many Agritech Firms (e.g., Farmcrowdy) that use technology and crowdfunding in furthering their existence and objectives.

Furthermore, a good number of impact investing funds have been made available by some foreign development institutions and bodies. For instance, the African Development Bank invested in the Africa Food Security Fund (AFSF) to boost agribusiness SMEs and enhance food security in some African countries like Nigeria. Also, the International Finance Corporation made an investment in Hygeia Nigeria Limited to improve the healthcare infrastructure in Nigeria and to facilitate access to quality healthcare services.

Locally, the Nigerian Capital Development Fund (NCDF) launched an Impact Investment Note and Fairshares investment platform to enable impact investors make investments and become stakeholders in NCDF with the aim of driving sustainable impact projects in the country.

Notable Points

  1. Nigeria is a country faced with an avalanche of socio-economic challenges like hunger, poverty, unemployment, poor healthcare, poor/inadequate infrastructural facilities, illiteracy, among others, which largely affects its growth and development.
  2. Data from the National Bureau of Statistics reveals Nigeria’s unemployment rate as at the second quarter of 2020 to be 27.1 per cent indicating that about 21.7 million Nigerians remain unemployed.
  3. In 2019, The National Bureau of Statistics (NBS) released its “2019 Poverty and Inequality in Nigeria” report, which highlighted that 40 percent of the total population, or almost 83 million people, live below the country’s poverty line of 137,430 naira ($381.75) per year.
  4. However, these challenges create an opportunity for impact funds and impact investment.
  5. Over the last few years, impact investments have continued to grow in Nigeria. Its impact, however, might not be significant amidst the plethora of challenges faced across the country. This myriad of challenges impedes the expansion and maximum realisation of its potential to deliver social, economic and environmental returns at scale.
  6. Nevertheless, these perceived challenges should not serve as an excuse to bury the idea of impact investment. On the contrary, it is a time for stakeholders to re-evaluate guiding principles and collaborate to build a strong socio-economic society.
  7. For investors willing to bear the risks and challenges, Nigeria holds enormous promise. Its sheer size and strong growth prospects position it well to continue its role as a leading economic powerhouse on the African Continent. Moreover, the large proportion of its citizens underserved by basic goods and services provide a wide variety of opportunities for both financial and social/environmental impact.

LIMITING FACTORS/CHALLENGES TO IMPACT INVESTING IN NIGERIA

While it is clear that impact investments have helped to strengthen Nigeria economically and social wise, several challenges still militate against the continued growth of impact investment. Highlights of some of such militating factors are as follows:

  1. Difficulty while sourcing for viable investments: Meeting both financial and environmental/social objectives are proving difficult. This is as a result of limited capacity of sustainable social enterprises in Nigeria. Low deal flow is partly due to the limited number of sustainable social enterprises or impact investees able to demonstrate a sufficient track record and capacity development following the risk appetite of impact investors. This is coupled with limited ability to measure and report adequately on impact performance where such capacities do exist.
  2. Difficulty Exiting Investments: Value in private equity investments in the traditional financial markets is sought and realised through an exit point at which the investor sells their stake in a firm. This can be done through Initial Public Offerings (IPOs) as the endpoint of the funding value chain. The challenge of finding profitable and varied exit options stems from the fact that most African capital markets are still at a relatively early stage of development.
  3. Unclear Policies and Regulatory Environment: While Nigeria was reported by the World Bank to have improved its ease of doing business in the World Bank Report of October 2019, the issue of uncertainty in policies (almost always a consequence of state politics) and regulations has hampered the development of impact investments. Currently, Nigerian enterprises are generally challenged by a poor environment for doing business, and investors constrained by our developing financial markets.
  4. Lack of Ecosystem Synergy: There is a poor synergy between sustainable social enterprises, entrepreneurs, investors and innovation networks. The majority of Nigeria’s sustainable social enterprises are not members of professional associations or other formal networks, which makes finding investible enterprises and entrepreneurs a challenge for investors. Furthermore, sustainable social enterprises may have limited access to academic and research institutions focusing on research and development (R&D) that can be developed into goods and services for markets.
  5. Negative perception: about the unprofitability of impact investing.

THE WAY FORWARD/SOLUTIONS

It is proposed that the following be adopted as solutions towards some of the problems identified above:

  1. Enacting of an all-inclusive and targeted legislation for impact investors and investment.
  2. Setting up modalities for proper integration of social enterprises into one umbrella body for easy identification of investors.
  3. Setting up avenues (like associations and a regulatory body) for education and disabuse of negative and untrue mindset pertaining to impact investment.
  4. Establishing a central data system to provide information on impact measurement and tracking and other indices emanating from impact investment. This will enable impact investors and other stakeholders make informed decisions and choices.
  5. Enable and continue to enhance the ease of business operations through means such as adopting tax free regimes or reduced tax obligations for impact investors.

With the great human capital that Nigeria possesses and the numerous economic social challenges, it can be argued that the country is a fertile ground for impact investors and investments. Impact investment is indeed a goldmine whose potential remains largely untapped. Therefore, government and other stakeholders should endeavour to do the needful towards establishing the apparatus needed.

SOUTH AFRICA

Four trends have emerged as South African companies contemplate post-pandemic recovery: new thinking on talent and skills retention, embracing technology, incorporating sustainability in business models, and investing more in employee well-being, benefits and engagement. These were the findings from the South African edition of Mercer’s Global Talent Trends 2020-2021 report, released in March 2021.

The four trends that South Africa companies should adopt are embracing a new multi-stakeholder model that encompasses transparency and empathy; reskilling to transform the workforce for a new world economy; harnessing the power of data and redesigning the work experience to inspire and invigorate employees.


According to the report, 75% of HR leaders in South Africa who participated in the survey expected Covid-19 to negatively affect their businesses. Defining future workforce needs and sustainably restructuring and reinventing should be top priorities for 2021, if companies and organisations are to navigate through the economic crisis sustainably and cost-effectively.


Many South African companies have realised that life will never be the same again post Covid-19. Business survival will, to a large extent, depend on how companies and organisations embrace the future, use technology, invest in skilling and re-skilling employees, develop tailor-made employee benefits, incorporate mental well-being into HR models, develop sustainable working models, and embed Environmental, Social and Governance (ESG) practices in business models.

Up to 67% of the companies surveyed are already building ESG goals into their broader transformation agendas, significantly more than the global average (45%); while one in five organisations (20%) are embedding ESG metrics into executive scorecards.

As a result, companies and organisations have started deeper conversations on such issues as developing people practices that will endure post the pandemic, finding sustainable flexible employee models which can be used as foundations for growth, or for reinventing the future. Companies are now confronted with unavoidable conversations on how they can use the lessons of the pandemic and use innovation, born out of necessity, to develop a new way of working and plan for reinvention and innovation which will include impact investing.

ESG Regulations in the Middle East

In the Middle East, there is a growing maturity and understanding of Corporate Social Responsibility as encompassing economic aspects of an organisation, as well as environmental and social.

National initiatives like the ‘Year of Giving’ and the ‘Year of Tolerance’ in the UAE, organisations are starting to think about the wider context and implications of social responsibility. More than a potential ‘nice-to-have marketing stunt’, it is recognised as a responsibility monitored by regulatory authority.  Environmental, social and governance (ESG) may have played a big part in enabling this shift in perspective. 

In January 2004, then UN Secretary-General Kofi Annan wrote to the CEOs of significant financial institutions to take part in an initiative to integrate ESG into capital markets. Since then, ESG has evolved and moved from the sidelines to the forefront of decision-making.

In the last decade, various governments worldwide, including those of Switzerland, France, the UK, Italy and Germany, have enacted over 500 new measures to promote this approach, and players from governments and regulators to capital markets, from businesses to consumers are becoming involved.

ESG disclosures gain momentum

Direct and indirect pressure on corporates and other types of enterprises to make more detailed ESG-related disclosures are increasing, and companies are acting now to establish these.

With ESG, organisations are subject to a set of non-financial reporting. Coupled with increasing investor demands, these new rules could have a profound social and economic impact on companies.

Regulatory authorities, for example, are establishing standards and frameworks to ensure mandatory sustainability reporting. Abu Dhabi Financial Services Regulatory Authority (FSRA) plans to introduce ESG criteria for entities at Abu Dhabi Global Market (ADGM).

Furthermore, as stakeholder expectations increase, companies may be faced with growing pressure to manage risks and are expected to be more responsive. Many of these issues are also partly driven by consumer and market demand, such as the need for energy efficiency.  

Engagement with stakeholders is therefore central to an organisation’s sustainability, whether shareholders, customers, employees, the community or non-governmental organisations (NGOs).

Many companies only think about human stakeholders, but they have to consider representing the rights and interests of non-human entities as well, including our natural habitat, which is facing unprecedented risks today.

ESG in the wake of crisis

According to the Global Risks Report 2020, which offers a ten-year outlook of some of the biggest challenges facing us, the top five global risks in terms of likelihood are all related to environmental concerns (the report was published before the COVID-19 pandemic).

The publication sounds the alarm on extreme weather events with major damage to property, infrastructure and loss of human life, failure of climate-change mitigation by governments and businesses, and major biodiversity loss and ecosystem collapse.

These may result in irreversible consequences for the environment and severely depleted resources for humankind, as well as industries.

There could also be several interlinked consequences, as witnessed with COVID-19, which has far-reaching social, economic and environmental impacts. The stock markets have taken a hit, and as productions units are shut down, business activity has slowed tremendously.

Now is the time for organisations to listen to what stakeholders want and to implement relevant policies that will safeguard their interests.

Leading banks such as Emirates NBD, Dubai Islamic Bank, Mashreq Bank, Emirates Islamic and Commercial Bank of Dubai announced relief measures for their individual and corporate customers to deal with the impact of the outbreak .

Food delivery platform Talabat announced contactless delivery to safeguard its customers and prevent the spread of the virus. The UAE government has also announced an AED 126bn stimulus package to reduce the impact on both individuals and businesses in the country.

The emirates of Dubai and Abu Dhabi are also implementing a number of measures to counter the economic impact of COVID-19. These actions aim to reduce the cost of doing business and simplifying business procedures, especially in the commercial, retail, external trade, tourism, and energy sectors.

Al Futtaim Group has said it will make substantial contributions to ease the financial burden of its retail tenants by offering a fund of AED 100m to help affected retail businesses as a result of the slowdown. 

Meanwhile, Majid Al Futtaim-owned Carrefour has seen a spike in online grocery orders, which has prompted the company to transform many of its supermarkets and hypermarkets into fulfillment centres to cope with the demand.

Sound leadership can make a big difference at times like this, by giving stakeholders confidence that the company will be resilient through crisis. Regionally, many CEOs have conducted virtual sessions with their employees to convey messages of strength and resilience during this difficult time.

These challenging times prompt societies to better understand organisations’ social responsibility towards employees, customers, and other key stakeholders, based on how well they engage and help them cope in such situations.

In the unprecedented times we live in, ESG is perhaps more relevant than ever. While the regulatory developments in the region are a positive step, there is still room for organisations to better understand and recognise the all-round advantages of environmental and social governance. 

What is Sustainable Investing?

Sustainable investing is about investing in progress, and recognising that companies solving the world’s biggest challenges can be best positioned to grow. It is about pioneering better ways of doing business, and creating the momentum to encourage more and more people to opt in to the future.

Over the last decade, sustainability has become increasingly important in the investment world. More and more investors now want to know where their money is going and what it is being used for. They believe it is important to know that their investments are comfortably aligned with their values.

In response, more and more governments, corporations and investors are adopting the principles of sustainable investing. In effect, increasing demand is driving the mass growth of these types of investments. There is now more than $21.4 trillion invested sustainably in global assets, with $13 trillion of this in Europe alone.

More than half of UK investors have increased their sustainable investments over the past five years. This includes over 85% of people aged 18 to 36, who consider sustainable investing as being important to them.

Definitions for sustainable investing, environmental, social and governance (ESG) investing, ethical investing, impact investing, socially responsible investing (SRI), values-based investing, conscious investing and green investing.

Sustainable investing is the aim to generate long-term financial returns while contributing positively to society. As well as sustainable investing, you will come across lots of other different terms. There is ethical investing, environmental, social and governance (ESG) investing, impact investing, socially responsible investing (SRI), values-based investing, conscious investing and green investing.

While they broadly mean the same, there are some key differences in the way they work which are important to know before you choose how to invest.

Sustainable investing is an investment discipline that considers environmental, social and corporate governance (ESG) criteria to generate long-term competitive financial returns and positive societal impact.

Sustainable investing actively selects companies that have a positive impact on the world. This could be anything from green technology to social initiatives in developing countries/regions. It’s less restrictive than ethical investing as it allows for the fact that companies are often neither all good or all bad – such as oil companies that invest in clean energy.

ESG investing refers to a wide range of environmental, social and governance topics. It is commonly used interchangeably with the term “sustainability”. ESG is embedded within the businesses itself and has great importance in terms of sustainability of the business. Investors are increasingly considering these ESG factors in their investment decisions.

For instance, under the environmental pillar, while greenhouse gas emissions (and their impact on climate change) are the most common metrics reported – and climate change was a major theme at the World Economic Forum this year, investors might also want to know about how much electronic waste or packaging and material waste a company produces and how the company plans on reducing that waste.

From a social perspective, an example includes a company’s workforce diversity and inclusion policies. Investors want to know the percentage of gender and racial/ethnic group representation for management and all other employees.

In terms of governance, investors are paying greater attention to the risks and opportunities associated with business ethics, anti-corruption, systemic and regulatory risk management and data protection to name a few among other governance related facets.

Ethical investing actively avoids companies or industries that have a negative impact on society and the environment. This is called negative screening. You can expect sectors such as tobacco, animal testing, gambling and oil & gas to be excluded from this type of investing.

Impact investments are investments made with the intention to generate positive, measurable social and environmental impact alongside a financial return. Impact investments can be made in both emerging and developed markets and target a range of returns from below market to market rate, depending on investors’ strategic goals.

The growing impact investment market provides capital to address pressing challenges in sectors such as sustainable agriculture, renewable energy, conservation, microfinance and affordable and accessible basic services including housing, healthcare and education.

Impact investment can attract a wide variety of investors, both individual and institutional. Impact investing actively selects companies whose positive impact on the world can be measured. This can be anything from generating a specific amount of recycling or saving a certain amount of water.

Socially responsible investing, social investment, sustainable socially conscious, “green” or ethical investing, is any investment strategy which seeks to consider both financial return and social/environmental good to bring about social change regarded as positive by proponents.

Values-based investing is an investment approach that looks at the environmental and social impact of a company’s actions, products and leaders.

Conscious investing is investing with a conscious by putting principles before profit-the environment, animal rights, or fair treatment of employees. It is becoming more popular, specifically with millennials.

Green investing is putting your money where your mouth is by investing in companies which champion clean energy, have strong carbon neutral targets and follow sustainable practices. An example is the rise in popularity of green bonds. The move towards green investing is a global shift.

2020 marked the first year that investment in ESG-oriented funds topped US$1 trillion according to FT Advisor 2020. Far from being an ‘investment fad’, ESG investment is here to stay.

US and the EU’s New Sustainable Investing Regulations

New EU regulations for administrators of sustainable funds, or those that invest based on environmental, social, or governance (ESG) considerations are now effective as of 10th March 2021. These portfolio managers must also reveal specifics on how they spend. The EU’s Sustainable Finance Disclosure Regulation (SFDR) extends to all asset managers that collect funds in the EU, regardless of where they are based. As a result, these rules would have an effect on funds available to US investors.

Capital administrators would have to report how they evaluate their firms across a variety of metrics, which will necessitate revisions to disclosures and publicity materials. Beginning in 2022, comprehensive disclosures must be given.

It is no longer all about disclosing ESG data; it is also about how you use it to accomplish unique ESG goals. 

The Securities and Exchange Commission (SEC) has announced that it will expand its examinations of fund managers to ensure that their shareholder statements are consistent with their strategies. It also examines how ESG funds vote in shareholder proxies on environmental issues to see if they are compliant with environmentally sustainable policies.

Morningstar said that beginning April 2021, it would begin collecting information on funds that describe themselves as green and making it available to consumers. Since several multinational investment managers sell almost equal portfolios in the United States and Europe, US clients can check Morningstar data on the European equivalent of their fund to see how well it adheres to the ESG mandate. 

Investors have been concerned about greenwashing in the mutual fund sector, particularly given the rapid rise in sustainable investments. The category has seen a surge in funding. According to US SIF, the trade body for the sustainable investing sector, U.S.-domiciled sustainable investments totalled $17.1 trillion at the start of 2020, up 42 percent from two years prior. This equates to about a third of all funds under administration in the United States.

Firms will aim to set themselves apart by making more comprehensive disclosures on how they use ESG investing. Since too many businesses in the United States still provide funds in Europe, this could increase sustainable investment efficiency in the United States, comparable to how automakers increased their emissions when California implemented tougher standards than the federal government.

More U.S.-based investment managers are now publishing impact reports that outline proxy voting and participation, as well as the net impact of their portfolios.

Aside from the SEC, the Labor Department is trying to make the climate more favourable to long-term investing. The department also stated that it would not implement two Trump-era guidelines that would have slowed the introduction of renewable funds, including one that would make it more difficult to incorporate them in 401(k) accounts. Since it administers and enforces the Employee Retirement Income Security Act of 1974, or Erisa, which protects the needs of employee benefit plan members and their beneficiaries, the DOL is critical to America’s retirement programs. According to analysts, the flurry of new legislation allows fund managers to tread carefully. 

ESG Products in Asia

Asia has been gaining pace in its progress within the realm of ESG and sustainability. The heterogeneous nature of different fund markets in Asia implies that the adoption of ESG in these markets has been quite diverse. The common positive thread, however, is the increasing awareness and importance of ESG in asset and wealth management over the past few years.

The People’s Bank of China in its latest green bond standard consultation paper removed clean coal projects from the list of green bond financing targets, reversing its previous decision to categorise coal pollution mitigation enterprises as green assets. The removal has garnered positive responses from foreign investors given that China is the largest carbon emitter and the second largest green bond issuer after the U.S.

A range of factors have contributed to this increased ESG interest in Asia. Regulatory developments have been a key push to bolster the ongoing ESG momentum. These include stewardship codes, ESG risk management guidelines, forming of steering committee and cross-collaborations among industry players. Not only are regulations and asset and wealth managers driving the ESG agenda, so too are the investors themselves.

Pressure of EU and US investors making investments into Asia markets has exerted influence in this area for many years. Institutional investors in Asia have also been forthcoming in increasing allocations to ESG assets and awarding ESG mandates.

On the distribution front, questions on ESG are slowly becoming a part of the due diligence process for onboarding funds on distributors’ platform. Increased information disclosures and availability of ESG analytics tools are other contributing factor as the data and methodologies for risk and opportunity assessment are available.

In Asia, while some asset managers have become UN PRI signatories, others are still in the process of setting up ESG teams and ramping up their talent pool in the form of sustainability or stewardship teams. There are also varied ESG adoption approaches observed with some managers having gone the ‘process route’ of broader ESG integration into their overall investment process as compared to the ‘product route’ of launching specific ESG labelled funds.

From an asset managers’ perspective, challenges remain to increase the adoption of ESG investing in Asia. These include lack of data availability, lack of standardised regulations and absence of suitable benchmarks to measure fund performance. Clients have been reaching out, looking for guidance and education in this area – either in relation to the changing regulations and their disclosure obligations, or else in relation to how they can integrate ESG within their business.

As ESG continues its rise to the mainstream, regulators are responding with new rules, with both the EU and MAS recently issuing new rules and guidelines that should be adhered to.

With sustainability now at the leading edge of global concerns, regulators are responding with a raft of new rules, regulations and guidance that apply both to the investment community and to the underlying businesses themselves.

Monetary Authority Singapore (MAS) issued Guidelines on Environmental Risk Management for the asset management industry covering environmental risks, including materiality and associated responsibilities to ensure resilience of customers’ assets against environmental risk. Asset managers should implement robust environmental risk management policies and procedures and channel capital flows through ‘green’ investment activities.

The guidelines:

  • apply to Capital Market License Holders for Fund Management (LFMC), Real Estate Investment Trust Management (REIT), Fund Management Companies (RFMC) under 5(a)(i) of the Second Schedule of the SF (Licensing and Conduct of Business) Regulation (Rg. 10.);
  • address proposed duties on boards and senior management with regards to environmental risk;
  • address matters of portfolio construction, investment research and investment monitoring;
  • highlight stewardship responsibilities, including to investee companies.

The Monetary Authority of Singapore wants asset managers to launch more ESG products in Singapore. 22 ESG-related funds were authorised by the regulator in 2020. Singapore’s regulator has introduced general environmental risk management guidelines however some have commented that the lack of standardised ESG regulations and reporting in Singapore leaves local investors at greater risk of being exposed to so-called greenwashing. 

There is a demand for a common standard that brings clarity and communication about how sustainability has played a role in the selection process.  According to Broadridge data, cross-border ESG fund sales reached $1.2bn from January to November 2020.  Clients would like more detailed descriptions and reporting transparency. 


In 2020, Hong Kong’s Securities and Futures Commission began compiling a list of verified ESG products that have at least 70 per cent of their total net asset value in green or ESG-related investments. There are currently 37 mutual funds and exchange traded funds on the list. 


The European Commission’s sustainability agenda is another example that Singapore could look towards. The agenda’s three key principles are focused on differentiating products with “different shades of green”, mandating the disclosure of the adverse impacts of their investments and forcing a rethinking of fund naming conventions such as the use of the terms “sustainable” and “ESG”. 

Taiwan is also setting up its Green Finance Action Plan 2.0, which was launched in 2020 and includes establishing a unified ESG classification standard. 

Securing broad-based adoption of ESG fund labelling standards across markets in the region would be key to future market development and the emergence of competing local ESG fund labels would be something to watch out for in Asia. The introduction of an ESG fund label would be an important ingredient in Singapore’s plan as Asia’s green financing centre. 

In June 2020, the MAS addressed some of the gaps in local ESG standards by releasing consultation papers that proposed a set of environmental risk management guidelines for financial institutions, including fund firms. This included having asset managers develop risk management tools and metrics such as scenario analysis and stress testing, as well as disclosure requirements on risk management and the impact of material environmental risk. The new rules do not cover standardised labelling for sustainable investment products. 

There is a growing consensus around the world that ESG factors are a key determinant factor in the corporate performance of companies, and would become even more important in the near future, exacerbated in the wake of Covid-19 with increased scrutiny on how companies treat their employees and customers, coupled with the rise of carbon taxes.

According to a report by the Chartered Financial Analyst [CFA] Institute that studies ESG Integration among companies in Asia [CFA Report], among the 3 ESG factors, corporate governance was the main driver of share prices in listed companies in 2017. More importantly however, the report also indicated that social and environmental issues will have an even greater impact on share prices moving forward.

It is worth noting that Singapore listed companies, while ranking amongst the highest in Asia for ESG, surprisingly rank amongst the lowest when rankings are adjusted to only reflect Environmental and Social factors [E/S] as compared to companies in other highly developed economies in Asia such as Hong Kong, Korea, Taiwan and Japan. While this is a testament to the long-standing reputation of Singapore’s good corporate governance, it also highlights how comparatively, environmental and social factors are lacking.

With the rise of institutional shareholding in listed companies all around the world, institutional investors’ portfolio selection of companies can have a very large impact on a company’s share price performance due to the enormous amount of funds they have at their disposal for investment.  Importantly, institutional funds are increasingly screening for E/S factors when making their investment decisions. Taken together, a company that winds up on the negative list of a large international institutional fund such as Blackrock or Vanguard could see its share price drop.

However, one might argue that the impact of a low E/S score in the Singapore context is less pronounced. Afterall, Singapore’s shareholder landscape is dominated by government linked and family-owned companies, where institutional investors do not have a substantial shareholding. Consequently, the impact of an institutional fund’s perception of companies listed in Singapore might not be as pronounced as in the West.

Be that as it may, the implications of having a low E/S score would go beyond altering the perception of institutional investors, to also affecting a company’s reputation amongst their consumers and employees as well. This is especially so in the wake of the Covid-19 pandemic. Also, with the introduction of carbon taxes in Singapore,  the cost of non-compliance by companies would be higher, since companies would have to pay more taxes if they are less fuel efficient and this would in turn negatively affect the financial performance of such companies.

In addition to the financial implications for companies, the stakes are even higher for Singapore, which markets itself an International Financial Centre [IFC]. Scoring significantly lower than the other developed economies in the Asia-Pacific region on environmental and social factors is not beneficial to Singapore’s reputation.


As of 2016, the Singapore Exchange [SGX] has introduced a regime requiring listed companies to publish annual reports on a “comply or explain” basis. However, these sustainability reports issued by companies have been criticised for box-ticking. Critically, companies are seen to be publishing these reports “without a clear sense of what it means for their future”, and whether environmental issues such as climate change would force them to alter their business model in the long term. 

Furthermore, there is no body that serves the function of an independent auditor/regulator monitoring the accuracy and the extent to which these companies actually follow through with the E/S plans they publish in their sustainability reports. In contrast, in Japan, the top ranked economy for E/S factors in the CG Watch Report 2018, most of the corporate disclosures with regard to environmental and social issues have to be sent “to the national regulators for monitoring and compliance purposes”.


There are suggestions as to whether the government should follow the European Union, “which is debating whether to deploy a stick and become a lot more prescriptive in its approach”. In the European Union and the UK where awareness of sustainability issues is high, hard law provisions regulating these issues make sense because compliance is likely to be high.

However, in Asia, where many companies are still trying to grapple with E/S concepts, either due to a strong profit maximisation mindset or simply a lack of information, a softer regulatory regime that focuses on education rather than penalties could be more appropriate. Arguably Singapore is in the latter scenario, and in a phase where companies are still trying to grapple with E/S concepts. However, once E/S factors have gained a stronger traction in Singapore, more can be done to ensure companies continuously look for ways integrate E/S concepts into their business practices such as through instituting harsher penalties for failing to comply with E/S laws and guidelines.

On the other hand, the results have shown that the current approach might not be sufficient on its own to achieve the desired results. At the very least, SGX could improve the current regulatory regime by issuing clearer guidelines on what companies should report on, so that companies will publish useful data that others can reference to make their own E/S related decisions. 

Stewardship is another area of focus which the government could look into to help companies better integrate E/S factors into their businesses. The Singapore Stewardship Code and Family Stewardship Code were Singapore’s unique response to the UK’s Stewardship Code, which itself was enacted in response to the rise of institutional investors as the largest investor group in listed companies in the United Kingdom [UK] and to compel them to play a supervisory role to alleviate the shareholder-management agency problem.

Unlike the UK, institutional ownership of listed Companies in Singapore continue to be small, and Singapore’s shareholder landscape is dominated by family owned and government-linked companies [GLCs]. Singapore’s stewardship codes were designed to signal good corporate governance in the country by keeping up with developments in “Anglo-American-cum global standards of good corporate governance”.

The Singapore Stewardship and Family Stewardship code do “not articulate a singular model of stewardship with which investors should comply”. Secondly, the codes do not employ a “comply or explain” approach, and it operates purely on a voluntary basis. Thirdly, there is no mechanism/metric to determine if institutional investors have complied with the codes. Finally, there is no regulatory agency in Singapore that is responsible for the administration of the codes.

Stewardship Asia, the organisation tasked with drafting the stewardship codes, is only responsible for promoting the code, and does not perform any regulatory function. 

Based on a textual analysis of the Family Stewardship Code, it does not seem to have a huge focus on ESG. ESG factors seem to be implied rather than expressly mentioned in the code, and there are no guidelines on what E/S actually means. For example, Principle 6 of the family stewardship code appears to reflect environmental, social and governance concerns. It states, “Do well, do good, do right; contributing to community”. 

The objective of stewardship codes should go beyond signalling good corporate governance to also aid in the integration of E/S factors into company’s business practices. For example, stewardship codes can help to spread best practice and have an educative effect on companies, preparing companies for the “potential strengthening of hard law provisions” on sustainability in Singapore. Unlike the area of corporate governance, which is predicated on shareholders having a specific amount of corporate control, institutional investors could play an integral role in educating companies on ESG best practices, regardless of the size of their stake in the company.

These institutional investors have better knowledge and experience on how best to integrate E/S practices to boost corporate performance. Also, the presence of clear and fixed metrics in stewardship codes when determining whether stewards have done enough to assist companies on E/S factors would provide the necessary incentives for institutional investors to engage in adequate stewardship since falling short would be detrimental to their reputation, on which they rely on predominantly to attract investors. More importantly, there should be a regulator monitoring stewardship activity in Singapore. 

While every European policy and regulation would have to be tailored to suit Asia’s needs, there is much to be learnt from observing other economies, especially economies which have done better in the E/S sphere. For now, the priority should be to ensure that Asia’s companies are keeping up with global developments in the E/S sphere. While the current arrangement of maintaining the status quo has worked well in the area of corporate governance as evidenced for example by Singapore’s high score in this area, this approach has to be tweaked to facilitate greater integration of E/S factors by listed companies across Asia including Singapore.

Alongside digitalisation, ESG issues are changing the face of infrastructure investment. ESG disclosures represent a different way of gauging the performance of an organisation beyond its balance sheet, focusing instead on its impact on society in general.

And when asked about key considerations for future-proofing their projects, investors reveal that an increased focus on sustainability and the green credentials of projects was the most important.

Recent surveys show that there is a renewed focus on the importance of strong corporate governance and sustainable and diverse supply chains, as well as on the need to finally address the climate crisis.

Sustainable development is the key theme in 2021.

Environmental principles are being closely monitored by investors, and authorities in many regions are giving more importance to environmental regulations.

Other key issues around ESG concern reputational risk which can be mitigated by increased transparency and stronger reporting. Business ethics and transparency are also important for determining the value of a project in the long term.

In line with this need for greater transparency, ESG-specific reporting is becoming fundamental for managers. Indeed, a 2020 survey by Russell Investment of 400 global asset managers found that 49% claimed to offer this type of reporting to clients. The pandemic and climate change concerns among investors can only grow this number.

Awareness grows

Large institutional investors are increasingly aware of pressure to ensure that investments are made in accordance with sustainable principles, and this is as much to do with future-proofing reputations as it is returns. Almost three quarters (74 per cent) cited ESG considerations as being important when contemplating investing in an Asia-Pacific infrastructure project.

Awareness in the region of the power of sustainable finance has been slow to develop and lags behind EMEA and the Americas. This is partly due to the short-term view historically taken by many Asian investors who have understandably been preoccupied with rapid economic development. However, the need for change has become increasingly apparent, with growing levels of pollution and social inequality in the region.

Although the pandemic has reinforced the need to consider the social impact of a project and enhance internal governance processes, ESG principles were becoming better understood in Asia even before COVID-19. In Japan, for example, a leading financial services group announced in 2019 that it would reverse its policy of investing in coal-fired power generation projects.

Environmental issues

Fifty-five per cent of survey respondents cited energy efficiency as the most important consideration when thinking about the environmental impact of their investments. Greenhouse gas emissions and energy efficiency are most important for infrastructure projects. Setting benchmark standards is important as well as putting an emphasis on green development plans.

Controlling deforestation levels was cited as a main environmental objective by some investors. Some investors will ascertain that there are no biodiversity issues when contemplating an investment. If the construction process affects marine or wildlife, organisations has said that they will provide suggestions and alternatives.

Social issues

Forty per cent of survey respondents confirmed that labour standards were the most important consideration when thinking about the social impact of their investments. Human rights, community relations and labour standards are very important for nurturing talent and avoiding social conflicts where projects are being conducted.

Governance issues

More than half (51 per cent) of survey respondents said that political influence was the most important governance consideration when contemplating an investment.

Regulators can play a hugely important role in helping to support sustainable investing and, in this regard, Asia has been something of a pioneer. Hong Kong’s Securities and Futures Commission (SFC) has made it compulsory for listed companies to disclose all of their sustainability credentials while mainland China now requires all listed companies to report their ESG risks.

Supply chain management was cited by 36 per cent of firms as the next most important governance consideration when contemplating an investment. Supply chains have become understandably unstable during the pandemic, while many large global manufacturers previously diversified some of their supply chains out of China to cheaper countries in the region (South Korean conglomerate Samsung shifted its mobile phone manufacturing to Vietnam).

With rising regulatory pressure, emerging focus on reputational risk and increasingly complex supply chains, respondents said it was now vital that organisations take third-party risk management seriously.

The future

ESG and technology will be central to the success of all infrastructure projects in the coming years. Investors and project leaders can meet their environmental requirements through the use of renewables and hydrogen.

The future of renewables – Renewable energy trends are catching on in Asia-Pacific and are increasingly supported by governments in the region. It is hoped that renewable energy zones and the adoption of solar energy practices will open up new opportunities for investors in the future. Sixty-four per cent of survey respondents agree that the financial closure of a significant number of renewable energy projects in Asia-Pacific in 2021 will have a positive influence on other infrastructure investments across the region.

Renewable energy projects will increase because countries have set targets to be met within the next few years to reduce their carbon emissions. Since announcements have been made, they will have to think about the means to fulfil these targets. Nearly three-quarters agree that the generally lower capital cost of renewable energy projects compared to social and transport infrastructure makes them a relatively more attractive asset class in emerging Asian economies. Renewables trends will catch on as more investors are focused on adopting strong ESG principles.

Meanwhile, a pointer to where the market is headed can be seen by how quickly the oil majors are looking to make the transition into renewable and low-carbon projects. For example, in October 2020, Shell announced it would increase its spending on low-carbon energy to 25 per cent expenditure by 2025; around the same time, its rival BP vowed to grow its investment in low-carbon energy tenfold to US$5 billion per year by 2030.

Hydrogen: The wave of the future – Given the potential to reduce the cost of energy generation and usage in Asia, 16 per cent of survey respondents intend to invest in hydrogen as a non-carbon transportation fuel. For a region that is still largely dependent on oil imports and is struggling to quit its addiction to coal, hydrogen offers Asian countries a ‘clean’ alternative and a crucial boost in their transition towards developing sustainable economies.

China and Japan are the two largest net importers of fossil fuels in the region. But the Japanese government has set an ambitious target to have a complete hydrogen society by 2050. This includes reducing the price of hydrogen by 90 per cent, which would make it cheaper than natural gas. Meanwhile, South Korea unveiled its ‘roadmap for a hydrogen economy’ in 2019, with a vision to sharply increase production of hydrogen-powered vehicles and electricity generation by hydrogen. Like Japan, it has made clear its intention to import clean hydrogen from countries that can produce it competitively and reliably. Investors have realised the higher value there is to gain from renewable energy generation practices. The use of battery and hydrogen storage will form a major part of renewables projects.

Sustainable Investing – EU Regulations

The Sustainable Finance Disclosure Regulation (SFDR):

This article serves to help investors understand the SFDR and why it is important as at 10 March 2021 with update as at 17 March 2021.

What do Investors want?

Investors increasingly want to take a more environmentally and socially conscious – or sustainable – approach to investing. The good news is that the choice of sustainable products is growing; however, the wide range of products and a lack of common standards across the sustainable finance industry can make it difficult to compare sustainable investing options.

What is the purpose of the SFDR?

The European Union Sustainable Finance Disclosure Regulation (SFDR) is designed to make it easier for investors to distinguish and compare between the many strategies that are now available, and by extension, to support the move to sustainable investing. The SFDR helps investors by providing more transparency on the degree to which financial products have environmental or social characteristics, invest in sustainable investments, or have sustainable objectives. This information will now be presented in a more standardised way.

The SFDR requires specific firm-level disclosures from asset managers and investment advisers regarding how they address two key considerations: Sustainability Risks and Principal Adverse Impacts. In addition, it helps investors to choose between products by classifying funds into three distinct groups, according to the degree that sustainability is a consideration and binding investment criteria, with specific disclosures required for each. These disclosures are determined based on the type of fund:

  • “Article 6” strategies either integrate environmental, social or governance (ESG) considerations or explain why sustainability risk is not relevant, but do not meet the additional criteria of Article 8 or Article 9 strategies.
  • “Article 8” strategies promote social and/or environmental characteristics, and may invest in sustainable investments, but do not have sustainable investing as a core objective.
  • “Article 9” strategies have a sustainable investment objective.

This post explains the SFDR and the importance of this new regulation and how it will impact asset managers, advisers and investors alike. The disclosures, effective from 10 March 2021, apply to many financial products, including UCITS, AIFs and segregated mandates.

Why important?

Re-orienting capital towards sustainable growth

European Union (EU) governments and business leaders realise that one of the best ways to achieve the sustainability goals is to encourage capital to flow towards efforts that promote a more sustainable economy. Many investors also want to support a more sustainable economy, but often lack enough information to assess and compare investment options on the basis of standards. To that end, the EU has put together a sustainable finance action plan (EU Action Plan on Sustainable Finance).

This action plan is a major step towards redirecting capital to the sustainable economy. The plan features a series of interlinking regulations designed to encourage sustainable investing, including the SFDR.

Helping clients make better sustainable investing choices

The primary goals of the SFDR are to provide greater transparency on sustainability within the financial markets and create standards for reporting and disclosing information related to sustainable investing.

Increasing transparency and introducing standards promotes two important additional effects. First, it makes it hard for private banks and asset managers to “greenwash” their products – in other words, they cannot simply brand a product with an ESG or sustainable label, without actually having the process and portfolio to back it up.

Second, investors enjoy a significantly improved ability to compare investment options in terms of sustainability and ESG factors, which helps them make informed decisions that align with their investing goals.

Who is affected and what types of products and services does it apply to?

The SFDR applies to all financial market participants and financial advisers based in the EU. A financial market participant is any firm creating investment products, or generally, an asset manager. Financial advisers are individuals providing investment or insurance advice.

Investment managers or advisers based outside of the EU, who wish to market their products to clients in the EU under Art. 42 AIFMD, will also need to follow the SFDR disclosures.

Disclosures will apply to UCITS, AIFs, separately-managed portfolios, sub-advisory mandates and financial advice.

The UK is currently out of the scope of the SFDR and the UK as yet does not intend to adhere to the regulation as set out by the EU. In time, the UK may decide on a different set of sustainability disclosure rules for UK legal entities and products, or elect to replicate the SFDR requirements. We will need to wait and see.

What are the new sustainability and ESG product categories and disclosures?

Investors are navigating record-breaking growth in assets and product choices

Sustainable and ESG investing are among the fastest growing types of investment strategies. 2020 was a record-breaking year: assets under management in European sustainable funds rose over 50% to reach EUR 1.1 trillion; meanwhile over 500 new sustainable funds were launched and over 250 repurposed or rebranded, bringing the total number of European sustainable funds to almost 3,200 at year end according to Morningstar, European Sustainable Funds Landscape: 2020 in Review, 3 February 2021.

The tremendous growth in products spans all asset classes and product ranges – from equities to bonds and from ETFs to separately managed accounts. Even more critical for investors is the wide range of how sustainability and ESG strategies are managed. Some strategies are explicitly focused on sustainability and have specific impact goals. At the other end of the spectrum are passive ESG ETFs. In between are thousands of strategies with widely varying levels of sustainability or ESG integration into their investment processes.

Differentiating between Article 6, Article 8 and Article 9 products

One of the goals of the SFDR is to help investors better differentiate between the many sustainability and ESG products by creating classifications and disclosures. The SFDR specifies three distinct categories for investment products with regards to sustainable and ESG considerations:

Article 6 products are “other” investment products that either integrate considerations or explain why sustainability risk is not relevant, but do not meet the additional criteria of Article 8 or Article 9 strategies. Article 6 products will need to disclose the manner in which sustainability risks are integrated into their investment decisions as well as an assessment of the likely impacts of sustainability risks on the returns of the financial products.

Article 8 products promote environmental and/or social characteristics, and may invest in sustainable investmentsbut do not have sustainable investing as a core objective.

Article 9 products have sustainable investment as their core objective. The SFDR defines sustainable investment as an investment in an economic activity that contributes to an environmental or social objective, provided that the investment does not significantly harm any environmental or social objective and that the investee companies follow good governance practices. Article 9 products must invest primarily in sustainable companies or companies that demonstrate improving sustainable characteristics that contribute positively to a particular outcome, such as a low carbon economy.


Principal adverse impacts of investment decisions and investment advice on sustainability factors

The EU’s Sustainable Finance Disclosure Regulation (“SFDR”) requires financial market participants and financial advisers to publish and maintain on their websites a statement on whether they consider principal adverse impacts of investment decisions and investment advice respectively on sustainability factors. Principal adverse impacts are not currently considered in relation to investment decisions or advice in accordance with SFDR as the corresponding regulatory technical standards have not yet been finalised. Ongoing monitoring for further regulatory guidance and the development of industry and market practice is in place and it is expected to consider such adverse impacts from 30 June 2021.

Outstanding points regarding SFDR

The first set of SFDR disclosures are effective 10 March 2021. There remain a few areas for investors to watch, where the guidance is not finalised:

  • The draft Level 2 regulatory technical standards (RTS) disclosures were released 4 February 2021. Approval for these proposed standards remains outstanding but is expected in the medium term.
  • Following the completion of Brexit, it is not yet known whether the UK will adopt the SFDR or a different set of regulations for UK-based asset managers and advisers.
  • Third party data providers, such as MSCI, which are not directly covered under the SFDR, will need to clarify how they will incorporate the new SFDR disclosures into their sustainability-related data, research and rankings.
  • Third party ESG related industry standards will need to the reviewed as they get updated to align with SFDR and the EU Taxonomy Regulation.
  • The adoption of amendments to the delegated acts (DAs) under the UCITS, AIFMD, MiFID II, IDD and Solvency II frameworks on the integration of ESG considerations remains outstanding, but is expected to be confirmed in the medium term.  Guidance for handling data requests from individual clients, such as insurance and sub-advised business, is not yet finalised.

Next Steps

The SFDR is a positive step in the growth and development of sustainable investing. As investor interest in sustainable investing continues to grow, the regulation offers clients clear comparisons and advice on sustainable investments, encouraging private banks, asset managers and advisers to help capital flow towards sustainable investment products. Commencing January 2022, this regulation will be followed by the EU Taxonomy Regulation. More information on this regulation, and how it interacts with the SFDR will made available in due course.

ESAs consult on bringing Taxonomy disclosures and SFDR disclosures together into one ‘rulebook’

On 17 March 2021, the European Supervisory Authorities (ESAs) published a consultation paper with an updated version of the draft SFDR RTS (updated from the version included in the previous 4 February SFDR Final Report) – but this time to include Level 2 provisions proposed under the Taxonomy Regulation.

I have been helping clients achieve their sustainable investing goals. If you would like further information or have questions about the SFDR, sustainable investing and/or ESG in general, please contact me at info@mirandabrawn.com.