Growing movement of investors, impact investors taking environmental, social, and governance factors into investment decision-making

Posted on Friday, March 29, 2019

Blog Post

When thinking about sustainability, it is essential to look at the underlying infrastructure on which our economy depends. Roads, buildings, energy grids, sewers, airports, telecommunications are all vital components of a sustainable economy going forward. Yet everywhere our infrastructure is crumbling. It has been estimated that $94-trillion will be needed in infrastructure investment by 2040 to meet our global needs. In Canada alone, that number has been pinned at $800-billion over the next ten years. Clearly governments acting alone do not have the necessary resources to meet these needs. Private investment will be required. But how can private investment be directed to infrastructure projects that meet the high environmental, social, and governance (ESG) standards that we need to ensure sustainability and resilience going forward?

Institute of the Environment

New innovative financing mechanisms are increasingly directing capital investment into much needed sustainable infrastructure projects around the world. Photograph courtesy Pixabay.

Until very recently, infrastructure has been delivered as a public good. Citizenry often react negatively to the incursion of user fees and private ownership in realms that in the past were provided freely via the tax system. Private investors seek out the strongest financial returns for their investment, leaving whole swaths of the economy unserved. Such a shift can exacerbate the growing inequality in our societies, favouring those who have access to capital to pay for much needed services. Conflicts between the rights of one group versus another are hard to settle without recourse to democratic institutions.

Given the magnitude of many of our current infrastructure projects, such as pipelines, energy grids and transportation systems, it is little wonder that societal pressures are are aimed at raising the standards embedded in these projects. Communities large and small are demanding greater consultation in how infrastructure projects are built and managed. One need only to think about the public reaction to ill thought out hydroelectric dams or pipeline construction to see the role community engagement now plays in these massive projects.

But these negative forces can be mitigated when infrastructure projects are embedded with high environmental, social and governance standards. Such standards can reduce conflicts through community consultation, sustainable practices, and sensitivity to all stakeholders including the environment. When investors use a sustainability lens in their infrastructure investments they reduce risk and may even add to their financial return.

There is a growing movement of both responsible investors and impact investors who have pledged to take environmental, social and governance (ESG) factors into account in their investment decision making. In fact, the UN-backed Principles for Responsible Investing (PRI) represents signatories with over $60-trillion of assets under management including most of Canada’s largest institutional investors. Increasingly these large mainstream asset owners and asset managers are applying ESG considerations to their ever growing infrastructure portfolios.

New innovative financing mechanisms are increasingly directing capital investment into much needed sustainable infrastructure projects around the world. This includes the burgeoning field of green bonds, growing from a $4-billion market in 2010 to $200-billion in 2019. Green bonds are explicitly directed at environmentally beneficial infrastructure offerings. These often include renewable energy projects, transportation, and climate change adaptation. Green bonds have been issued by countries, regions, cities, and financial institutions. In 2018, our largest institutional investor, CPPIB, issued its own green bond valued at $1.5-billion.

But integrating ESG in infrastructure investment is not without its challenges. There are significant hurdles to overcome in order to integrate high ESG in infrastructure portfolios. Institutional investors face tensions imbedded in the fiduciary duty they owe to their beneficiaries. In the past this duty was interpreted to mean simply maximizing profits. Increasingly integrating higher environmental, social and governance standards that reduce risk in investment is recognized as a core component of fiduciary duty. This allows institutional investors to take into account short term higher costs that pay off over time.

Other challenges have also been identified in sustainable infrastructure investment. Pension funds and other institutional investors tend to be risk averse, and shy away from investment in risky and uncertain alternative assets. There is a lack of a transparent and bankable project pipeline. In many cases project originators tend to be small, local governments that lack the capacity to develop and structure investment opportunities that would be attractive to large institutional investors. As a result, these deals often tend to be too small to be of interest to institutional investors. Investors also face unfavourable and/or uncertain regulatory environments that create perceptions of undue risk in these projects. A final barrier to investment in sustainable infrastructure projects is the political risks these projects face. All these risks have been an impediment to private investment in sustainable infrastructure in Canada.

Designing the supports to overcome these challenges will be key to unleashing the potential of private capital to deliver the much-needed infrastructure our businesses, communities, country and indeed planet will need going forward. To achieve its desired ends these investments must incorporate high environmental, social and governance standards in the long run if they are to serve all our needs and help build the country we all want to live in.

Originally posted in The Hill Times by Tessa Hebb

Dr. Tessa Hebb is a distinguished research fellow and the past-director of the Carleton Centre for Community Innovation at Carleton University. She is also the Canadian representative for CERES, an organization dedicated to transforming the economy to build a sustainable future for people and the planet.

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