Values to valuation

The need to investigate the linkages between human rights and corporate financial performance (CFP) was explored through events held in Geneva, Switzerland, and Berkeley, California, the end of last year. The events were supported by a discussion paper, and research will be commissioned, entitled ‘Values to Valuation,’ that addresses the questions that were raised.

Alongside the PRI, researchers from the University of California, Berkeley, and Alliance Manchester Business School – University of Manchester, will study the impact of corporate human rights policies, due diligence processes, and external human rightsrelated issues and events on company valuations. They will consider a range of quantitative and qualitative factors that have the potential to influence investment decisions and outcomes.

This has attracted support from 50 investors with $8 trillion in assets under management.

At the PRI, while social issues have historically received somewhat less attention from investors than governance and environmental issues, there has been growing interest from signatories along with requests to expand work on human rights, inequality and labour standards. This reflects the growing prominence of social issues and the evolution of international standards, such as the UN Guiding Principles and regulatory initiatives such as the UK Modern Slavery Act. It is demonstrated by the significant investor interest in initiatives such as the UN Guiding Principles Reporting Framework, the Corporate Human Rights Benchmark, and participation in the PRIcoordinated engagement on human rights in the extractives sector.

That said, the outlook isn’t wholly positive – perceptions remain that it’s difficult to measure or assess human rights issues, or to link human rights to risk and return, or that social issues may not be material and could be a digression from investors’ fiduciary duties. These concerns underline the need for wider and deeper research into the subject.

The perception that social issues may not be material underlines the need for wider research into the subject.

The discussion paper that the PRI has produced with UC Berkeley and Alliance Manchester Business School reveals the salience of human rights risk has been established, but as yet there has been little attempt made to engage in in-depth empirical or qualitative analysis to establish materiality. Through the testing of financial and investment materiality, the researchers hope that the study will push the issue of human rights risk further into investor considerations.

The paper also highlights several challenges, including the problem of establishing the nature of the link between human rights policies, practice and performance.

Identifying metrics which are publicly available and gauge how embedded companies’ human rights policies or practices are will pose a challenge.

Another issue that will require some attention is that ‘given assumptions’ aren’t necessarily correct. The paper argues that market-based studies typically work on the basis that the market is ‘efficient,’ with stock prices reflecting all available information about the present value of a firm’s future cash flow. Experience suggests however, that the market is often slow to price in information. The report’s authors have therefore proposed to distinguish between two levels of materiality in terms of the relation to CFP first and secondly, to the company’s market valuation as reflected in its stock price. It is hoped this will offer a potentially important distinction, enabling the researchers to explore the ‘dynamics’ of human rights materiality at varying levels.

Key questions

The event in Geneva saw discussion of other key issues that the researchers will need to address.

Speaking at the event, Jelena Stamenkova van Rumpt, RI advisor from PGGM, outlined the challenges in making a case for engagement on human rights to both her colleagues as well as a business case when engaging with companies. Stamenkova van Rumpt also highlighted the challenge of integrating ESG issues across the whole investment chain; the commonly held perception that human rights is a nuanced area around which it is difficult to work out a common focus, and the need to find a way to quantify the risks arising from poor management of human rights.

Stamenkova van Rumpt questioned whether differences can be shown between salient and material to provide a better understanding, asking: “Can we explain the business case of managing the impact to rightholders?”

There were a number of issues that Stamenkova van Rumpt hopes to discover as a result of the Values to Valuation project. Top among these were whether a relationship can be developed between human rights impact and management systems. Also of interest is whether companies with human rights policies and good scores based on service provider analysis exhibit better long-term performance. Additionally, she highlighted that a key step that will help investors is if researchers can bridge the language of investors, which includes materiality and due diligence, with the language of the UNGP and OECD, which consider and define salience.

Participants at the Geneva and Berkeley events highlighted several ‘wish list’ items they would like to see as outcomes of the study – while it will not be possible to address all of these, ideas on useful outputs or outcomes included:

• metrics-based analysis that is impactful for analysts and can influence buy/sell decisions;
• a better understanding of the efficiency with which human rights issues and metrics are integrated to markets;
• a prospective study able to identify factors which may be material in the future - recognising that what is material changes over Time Horizon, and that changing consumer and societal trends will also influence the materiality of human rights issues in the future;
• clear identification of the lowest cost human rights risk avoidance measures – this would then guide engagement priorities for passive or index investors seeking to minimise risk in their portfolio;
• a matrix of issues likely to be salient and material for different sectors, identifying where they overlap;
• understanding of what factors may influence or mediate the impact of human rights issues on financial performance – for example market location (developed vs. emerging, regional variations); a company’s position as a relative leader or laggard as compared to peers; the quality of a company fs human rights policy.

These ideas will be considered by the research team and explored further, perhaps through future events with portfolio analysts. On the back of this, we and our project partners will look to launch the research at PRI in Person in 2018.