THE SRI CHRONICLES

News | p.3

GLYPHOSATE: A POISONED DEBATE ?

N° 15 - february 2018

From an academic point of view | p.4 et 5

ESG CRITERIA IN EXECUTIVE COMPENSATION

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EUROPE MUST BE PRO-ACTIVE ON POLICY

Europe is at the heart of a number of debates on the environment, especially

the highly controversial glyphosate, and responsible investing. The European

Commission is expected to make ambitious decisions in coming months.

It will be advised by the High-Level Expert Group (HLEG), which was set up

in 2016 by the EU and which is expected to publish its recommendations in

the near future. The group released an intermediary report in July 20171.

Several measures in favour of sustainable finance could be unveiled, including

the integration of ESG criteria in supervisory authority mandates, the addition

of environmental and social criteria to fiduciary duties of investment compa-

nies and end investors - this is already the case in France since it features in

article 173 of the 2016 Act on Energy and Ecological transition - and reduced

capital adequacy requirements for some green investments made by banks.

We should get an overall view on March 22 when the action plan for green

finance is presented, an initiative that the European Parliament supports, at

least in principle. Euro MPs will also soon be looking endocrine disruptors, an

area which could include glyphosate. We would argue for a clearer and more

proactive stance from Europe, one that would rebalance the November 17

vote in favour of renewing the authorisation of glyphosate.

Three US researchers have given us the academic point of view. The article,

which won the Moskowitz award in 20172, justifies the significance and

materiality of including ESG criteria in the variable remuneration of senior

executives working for large groups.

We would also like to encourage readers to tread relatively unbeaten paths

and see why it is useful to quantify intangible assets and enterprise culture.

All of these factors can create value.

1. https://ec.europa.eu/info/sites/info/files/170713-sustainable-finance-report_en.pdf

2. The Moskowitz prize rewards academic research into Socially Responsible Investment (SRI). It is awarded each year by the Center for Responsible Business of the Haas School of Business at the University of California, Berkeley.

Edmond de Rothschild Asset Management is a co-sponsor of the Sustainable Finance and Responsible Investment Chair which is co-managed by Ecole Polytechnique and the Toulouse School of Economics, under the aegis of the Association Française de la Gestion financière (AFG) and is a co-sponsor of the FIR - PRI (Forum for Responsible Investment - Principles for Responsible Investment) awards.

JEAN-PHILIPPE DESMARTINHead of the Responsible Investment Team

EDITORIAL

3ASSET MANAGEMENT - THE SRI CHRONICLES

NEWS

GLYPHOSATE: A POISONED DEBATE ?

After two years of dithering and controversies over

glyphosate, EU member countries reached an agree-

ment at the end of November 2017 and renewed the herbicide’s authorisation for 5 years.

Glyphosate, which is the active substance of the famous

Round-up and included in

numerous weed killers, reporte-

dly represents 25% of the global

herbicide market1 and is the

world’s best seller. In France,

around 8,0002 tonnes were

sold in 2016. Local authorities

have been banned from using

it since January 1 2017 and the

ban will apply to individuals from

January 1 2019.

Several scientific surveys have

been conducted on glyphosate’s

effects but with different conclu-

sions. In March 2015, after exa-

mining thousands of scientific studies, the International

Agency for Research on Cancer (IARC), which reports

to the World Health Organisation, ranked glyphosate as

a “probable carcinogenic”. But in November 2015, the

European Food Safety Authority (EFSA) said it thought

it “improbable” that glyphosate could cause cancer.

And on March 15 2017, the European Chemicals Agency

(ECHA) also said the pesticide was not carcinogenic.

Nevertheless, glyphosate has been on California’s car-

cinogen list since July 7.

All these contradictory findings are only fuelling the

controversy3. But the reason for this is simple: the IARC

uses studies by experts vetted for conflicts of interest

whereas the regulatory agencies also rely on studies

funded by (unnamed) industrials. The EFSA has been

accused of copying entire sections of a study filed in

2012 by Monsanto under the heading ‘Glyphosate Task

Force’, a lobby group representing a consortium of

companies led by Monsanto, and of giving industrials a

right of review that was refused to ONGs. The EFSA and

ECHA are also said to have excluded relevant studies4.

1. Source: Le Monde Planète 2/11/2017.

2. Source: franceinfo 25/10/2017.

3. We have not covered the (major) consequences for flora, notably a reduction in the soil’s ability to absorb nutritive elements.

4.https://www.euractiv.fr/section/agriculture-alimentation/news/eu-agencies-ac-cused-of-cherry-picking-evidence-in-glyphosate-assessment/

BEWARE OF CONFUSION

The glyphosate issue has been confused with the Euro-

pean project to regulate endocrine disruptors (ED). The

European parliament is due to adopt ED identification

criteria to help withdraw them from markets, or stop

them being sold in

the first place. Bans

will first concern EDs

in pesticides and

then be extended to

other categories like

cosmetics, plastics

and toys where they

also have a strong

presence. EDs are

thought to contribute

to an increase in

diseases like inferti-

lity, some cancers,

diabetes and obesity

as well as brain deve-

lopment disorders. Theoretically, glyphosate falls under

the ED definition.

The debate is quite distinct from France’s June 2016

decision to ban insecticides from the neonicotinoid

family, the famous “bee killers”, from September

2018 (with possible exemptions up to 2020).

There has been a moratorium on them in Europe since

2013, for most crops

(sunflower, corn and

rapeseed), except

for straw cereals in

winter and beetroot.

And yet, their use has

soared. According to

France’s beekeeping

union, use of the five

main bee killers sold in

France (acetamiprid,

clothianidin, thiame-

thoxam, imidacloprid

and thiacloprid) rose

from 387 tonnes in

2013 to 508 tonnes the

following year (+31%

in a year). The EFSA

will complete its risk

assessments for bees

in February 2018.

On January 18, the European Parliament set up a special committee to look into the EU’s authorisation procedure for pesticides. The committee will decide if there were any flaws in the long procedure to renew glysophate authorisation for 5 years.

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ESG CRITERIA IN EXECUTIVE COMPENSATION

A recent development in corporate governance is the integration of corporate social responsibility (CSR) criteria in executive compensation—that is, linking executive compensation to social and environmental performance. In a recent article, co-authored with Bryan Hong and Dylan Minor, I explore this new trend in corporate governance1.

A large literature argues that stakeholders2 can be essen-

tial for sustaining a firm’s competitiveness and long-term

growth. For example, by treating their employees well,

firms can enhance employee engagement, innovative

productivity, and ultimately improve firm performance.

In addition, customers are responsive to companies’

stakeholder engagement. Indeed, stakeholder engage-

ment can serve as valuable signal of the seller’s quality

and non-opportunistic behavior, generating goodwill,

sales, and profits. Relatedly, companies’ actions pertai-

ning to communities and the natural environment have

been shown to affect financial performance. In particular,

by improving their environmental footprint, companies

can benefit from a better reputation and cleaner work

environment, enhancing the satisfaction of employees

and consumers. Conversely, eco-harmful behavior

can hurt a firm’s bottom line if, e.g., the firm lacks the

social license to operate, stricter government regula-

tions are imposed, or the firm is targeted by a boycott.

1. For the full article, see Flammer, Hong, and Minor, 2017, “Corporate governance and the rise of integrating corporate social responsibility criteria in executive compensa-tion: Effectiveness and implications for firm outcomes.” Working paper, Boston Uni-versity: Boston, MA.

2. Stakeholders are defined as “any group or individual who can affect or is affected by the achievement of an organization’s purpose” — e.g., employees, customers, the environment, and the community at large.

In sum,  a    large literature suggests that stakeholder engagement (or the lack thereof) influences firms’ competitiveness and long-term value creation.

While managers may well perceive the relevance of

stakeholder engagement for long-term value creation,

they may be reluctant to address all stakeholder claims.

First, stakeholder interests are heterogenous and

may conflict with each other. For example, customers

may have short-term claims about pricing, while local

communities have long-term claims about the firm’s

social engagement. In this example, the interests of the

“customer” stakeholder collide against the interests

of the “community” stakeholder. Managers have to

balance these conflicting interests (in terms of allocating

financial, cognitive, and other resources) and may give

preferences to some stakeholders over others.

AN EXCESSIVE PREFERENCE FOR THE PRESENT

A large literature in psychology and economics exa-

mines individuals’ intertemporal decision-making. This

literature finds that individuals are so-called “hyperbolic

discounters,” that is, individuals have an excessive pre-

ference for the present, preferring short-term rewards

over long-term rewards, even if the latter are substan-

tially higher.

For executives, this preference for short-term results

is reinforced by short-term pressures - such as career

concerns, the provision of short-term executive com-

pensation, and pressures to meet or beat analysts’ quar-

terly earnings expectations - leading managers to favor

investments that pay off in the short run at the expense

of long-term investments.

In this vein, perhaps the most striking evidence is

provided in a survey by Graham et al. (2005), who find

that 78% of the surveyed executives would sacrifice pro-

jects with positive net present value (NPV) if adopting

them resulted in the firm missing quarterly earnings

expectations. Accordingly, managers are likely to focus

their attention on those stakeholder claims that help in

meeting managers’ short-term earnings targets. Taken

together, the above arguments suggest that managers

have a propensity to give priority to salient stakeholders

that contribute to short-term financial performance

FROM AN ACADEMIC POINT OF VIEW

CAROLINE FLAMMERPhD, is an assistant professor of strategy and innovation at Boston University’s Questrom School of Business.

5ASSET MANAGEMENT - THE SRI CHRONICLES

goals, as opposed to stakeholders that might be less

salient but financially material to the firm in the long run.

To redirect managers’ attention towards stakeholders

that contribute to long-term value creation, we argue

that boards of directors need to provide proper incen-

tives to their managers.

As we highlight in Flammer, Hong, and Minor (2017), one

such corporate governance practice is the integration of

CSR criteria in executive compensation. Yet, whether or

not the adoption of CSR criteria in executive compen-

sation serves as an effective governance tool - that is, a

tool that influences corporate actions and contributes to

value creation - is far from obvious. Indeed, the extant

literature suggests that some governance mechanisms

are ineffective as they lack substance and are merely

symbolic. Moreover, CSR-based compensation may only

represent a very small fraction of the overall compensa-

tion a manager receives and hence be too incremental to

effectively shape managerial incentives.

While financial measures can serve as a reasonable

measure of competence in managing a firm’s current

operations, they do not reflect the benefits of many lon-

ger-term strategies, such as investments in new growth

opportunities or new product development. In contrast,

nonfinancial performance measures (e.g. customer satis-

faction, employee satisfaction, environmental footprint)

are likely indicative of longer-term benefits.

A STRONG TREND TOWARDS MORE “CSR CONTRACTING”

In Flammer, Hong, and Minor (2017), we construct an

innovative database of “CSR contracting”3 and docu-

ment that “CSR contracting” has become more prevalent

over time. Our sample covers all S&P 500 firms during a

10-year period (2004-2013).

In the empirical analysis, we start by documenting a series

of stylized facts pertaining to CSR contracting. First, we

show that the integration of CSR criteria in executive

compensation is more prevalent in emission-intensive

3. Practitioners commonly refer to this incentive provision as “CSR contracting” or “pay for social and environmental performance” (as opposed to the traditional “pay for (financial) performance”).

industries (e.g., mining, oil extraction, transportation).

Second, we document a strong trend towards more CSR

contracting over time. While only 12% of the S&P 500

companies had adopted CSR contracting by 2004, this

ratio increased to 37% by 2013. We then examine how

“CSR contracting” affects firm-level outcomes.

We find that the adoption of “CSR contracting” leads to

i) an increase in long-term orientation ;

ii) an increase in firm value ;

iii) an increase in social and environmental performance,

especially with respect to less salient stakeholders such

as the natural environment and communities;

iv) a reduction in emissions ;

v) an increase in green patents.

These findings support our theoretical arguments

that “CSR contracting” enhances the governance of a

company by incentivizing managers to adopt a longer

time horizon and shift their attention towards stakehol-

ders that are less salient, but contribute to long-term

value creation.

Moreover, we explore the role of the substantiveness of

“CSR contracting”. We find that our results are stronger

i) when companies specify the amount of CSR-based

compensation (i.e., when they are specific instead of

vague), and ii) when the share of CSR-based compen-

sation is larger.

This suggests that CSR contracting is a more effective governance tool if it is substantive.

Further information on : https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2831694

LARS REBIEN SØRENSENCEO of Novo Nordisk and named the “Best-Performing CEO of the World” in 2016 by Harvard Business Review- stated: “corporate social responsibility is nothing but maximizing the value of your company over a long period of time, because in the long term, social and environmental issues become financial issues” (Harvard Business Review, 2015).

6

NOVO NORDISK

Denmark’s Novo Nordisk, the world N°1 in diabetes treat-ments, was set up in 1923 and is controlled by the Novo Nordisk Foundation. It is also present in haemophilia management and growth hormone therapy.

THE END OF ACCOUNTING and the Path Forward for Investors and ManagersBaruch Lev, Feng GuJohn Wiley & Sons, Inc., 2016 (288pp, $49.95)

CAPITALISM WITHOUT CAPITAL The Rise of the Intangible EconomyJonathan Haskel, Stian WestlakePrinceton University Press, 2017(288pp, $29.95)

In the 1970s, the group incorporated sustainable develop-

ment principles into its strategy, making it a core feature of its

triple bottom line efforts to find a balance between financial,

social and environmental considerations. Novo Nordisk is a

pioneer in integrated reporting procedures. The foundation

underpins this long-term bias but grants the board of direc-

tors independence.

The group boasts a strong culture of innovation and has

launched the GLP-1 hormone, which stimulates weekly, rather

than daily, insulin production and should improve patient

comfort. Marketing will soon start on an oral version of the

GLP-1. The group is also developing treatments for obesity,

a condition which has strong links with diabetes. In January

2015, it started marketing Saxenda, an appetite suppressant

based on an antidiabetic molecule.

Like all pharma groups, Novo Nordisk faces pricing challen-

ges and the risk of product recalls. The group wants to make

its treatments more accessible by applying different pricing

in less developed countries.

The information about the companies cannot be assimilated to an opinion of Edmond de Rothschild Asset Management (France) on the expected evolution of the securities and on the foreseeable evolution of the price of the financial instruments they issue. This informa-tion cannot be interpreted as a recommendation to buy or sell such securities.

COMPANY MEETINGS RECOMMENDED READING

TANGIBLE READING MATERIAL ON AN INTANGIBLE SUBJECT?

We have two recommendations. Two books

tackle the subject of how to improve analysis

and measurement of company’s intangible

assets like data, training courses, software,

brands, R&D and know-how both as regards

investment and management. The accoun-

ting systems devised 600 years ago by the

Venetians is proving less and less adapted to

the task.

The End of Accounting and the Path Forward for Investors and Managers is pri-

marily aimed at investors to help them better

account for an increasing stock of intangible

assets in a company’s worth.

The equally provocative and original Capita-lism without Capital takes a microeconomic

approach to the challenging task of assessing

GDP and economic policies (property rights,

infrastructure and inequality, etc.).

25. The number of cities which are committed to ensuring carbon neutrality by 2050. The list, which represents 150 million inhabitants, includes Los Angeles, Johannesburg, Barcelona and Dakar. The cities will present detailed action plans before 2020. Source: Novethic.

€62BN. This is the cost of wage inequality in France. According to the independent think tank Fondation Concorde, paying male and female employees the same amount would mean an extra €33.7bn for the French government from increased VAT, income tax and social contributions alone.

© istockphoto.

The International Corporate Governance Network

(ICGN), a think tank, was in Paris last December for its

annual conference. Edmond de Rothschild Asset Mana-

gement’s responsible investment team joined a round

table on corporate governance along with representa-

tives from the Board Agenda, the Mazars consultancy

firm and the pharmaceutical company Novartis.

A survey1 conducted by Board Agenda at the end of

2017 with Mazars and research students from the Insead

business school, helped us appraise actual conditions.

The picture is both simple and complicated. The survey,

which polled more than 400 European company

directors, showed that both companies and long-term

investors thought enterprise culture was an important

issue. It was ranked the third most important priority

for company boards, after strategy and financial results.

Enterprise culture factors like client satisfaction,

business ethics, risk control, respect for employees

and employee responsibility, quality culture, innovative

capacity and successful integration of acquisitions

all play a pivotal role in success or failure and value

creation/destruction across stakeholders, including

shareholders. Last year’s quality-related scandals in

Japanese companies with insufficient enterprise culture

like Nissan, Kobe and Toray are good examples.

1. https://www.mazars.com/Home/News/Our-publications/Surveys-and-studies/Board-Leadership-of-Corporate-Culture-in-Europe

FULLY GRASPING ENTERPRISE CULTURE PRINCIPLES IS STILL A CHALLENGE

In practice, enterprise culture is rarely discussed at

board level. Only 20% of directors in the survey said they

were really aware of how companies where they sat on

the board approached the issue. Two-thirds of boards

do not include enterprise culture in risk management

procedures. The fact is that understanding and ana-

lysing enterprise culture remains a challenge because

it is a complex issue with qualitative aspects. The

challenge is even greater for outsiders, i.e. independent

directors and minority investors. They have three main

information sources: employee questionnaires, client

satisfaction surveys and risk reports on subjects like

non-compliance with codes of good behaviour, health

or safety accidents and quality issues.

Our team’s main contribution to the round table was

to present various examples of criteria used by our

proprietary ESG model to analyse enterprise culture

issues like management, quality, human resources

and client satisfaction. We also covered actual cases

where our enterprise culture influenced our decision to

invest (employee shareholders, innovative capacity and

responsive organisation, etc.) as for Novo Nordisk and

others where we decided against investment on the

grounds of culture shocks in mergers between equals,

management methods which relied on fear, quality

problems and social risks, etc.

THE RESPONSIBLE INVESTMENT TEAM IN ACTION

THE ENTERPRISE CULTURE AND GOVERNANCE COCKTAIL IS WORTH EXPLORING

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January 2018. Non-binding document. This document is for information only.

Disclaimer: The data, comments and analysis in this bulletin reflect the opinion of Ed-mond de Rothschild Asset Management (France) and its affiliates with respect to the markets and their trends, their regulation and tax treatment, on the basis of its own expertise, economic analysis and information currently known to it. However, they shall not under any circumstances be construed as comprising any sort of undertak-ing or guarantee whatsoever on the part of Edmond de Rothschild Asset Manage-ment (France). All potential investors should consult their service provider or advisor and exercise their own judgement independently of Edmond de Rothschild Asset Management (France) on the risks inherent to each investment and its suitability to their own personal and financial circumstances. To this end, investors must acquaint themselves with the key investor information document (KIID) that is provided before any subscription and available at http://funds.edram. com or on request from the head office of Edmond de Rothschild Asset Management (France).

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