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Understanding the S in ESG - Part I
Guidance for asset managers and investors in a Covid-19 paradigm and beyond
4 May 2020 | Mark Uhrynuk & Alexander Burdulia

AS interest in environmental, social and governance (ESG) matters has grown among the business community globally, attention to the social aspect of ESG has lagged behind environmental and governance concerns as it is generally less understood and inherently more qualitative. Indeed, according to the UN’s Principles for Responsible Investment (UNPRI), the "social element of ESG issues can be the most difficult for investors to assess."

Despite these challenges, social changes that are rapidly occurring due to the Covid‑19 pandemic demand increased attention. Business owners, managers and employees alike must consider issues around health care, employee welfare, labour rights and supply chains. Further, it is increasingly critical for asset managers and investors to understand how to assess the operational, reputational and other risks arising in this new environment. Importantly, this approach may not only mitigate loss but actually improve investment performance when it is needed most: initial data analysed by Morningstar shows that sustainable equity funds outperformed conventional funds through the early stages of the crisis.

To help market participants navigate the social aspects of ESG in all contexts, Part I of this article draws on international standards to provide a high-level framework for understanding and assessing social issues in the investment context. Part II of this article will apply that framework to the current situation, highlighting specific points arising out of the Covid-19 pandemic to consider for asset managers and other market participants, with or without an ESG mandate.

International Standards

According to the UNPRI, social issues relevant to ESG analyses may include human rights, modern slavery, child labour, working conditions and employee relations. With these general considerations in mind, asset managers and investors must develop more precise frameworks to analyze the social performance of their investments. The global nature of many investment portfolios, which may be subject to divergent national practices and legal requirements depending on asset location, underpins the need to first look to international standards when developing such a framework.

The UN's Universal Declaration of Human Rights (UDHR) is the most widely recognized international effort to establish a universal set of human rights and the most translated document in the world. The UDHR sets out 30 different human rights and freedoms, ranging from the right to life and liberty to specific labour rights including the right to equal pay for equal work. Together with two implementing treaties, these documents are referred to as the International Bill of Human Rights (IBHR), and the concepts therein have been recognized and adopted in various forms by over 170 countries.

The International Labour Organization (ILO) has further developed international standards on labour rights in numerous labour "Conventions". Eight "core" Conventions are considered to be the fundamental principles and rights at work. These ILO Core Conventions address rights to equal remuneration and non‑discrimination, among other things, and have been ratified by 155 countries.

Finally, the global community is increasingly emphasizing the importance of promoting diversity and inclusion. According to definitions used by the UN Global Compact, factors relevant to diversity range from age and ethnicity to culture and education. The corresponding notion of inclusion is a dynamic operating state, in which diversity is leveraged to create a fair, healthy and high-performing organization.

A Framework for the "S" in ESG

Throughout the Covid-19 pandemic and beyond, these international standards provide a useful reference point for analyzing social factors within the following three categories: Human Rights, informed by the non-labour rights in the IBHR; Labour Rights, informed by the labour rights in the IBHR and the ILO Core Conventions; and Diversity and Inclusion, informed by the definitions used by the UN Global Compact.

As this framework is applied across different scenarios, investors may naturally shift their focus to a relevant subset of factors. For example, a private equity sponsor assessing an investment in the manufacturing industry may focus on efforts to create a safe working environment as described in the ILO Core Conventions, while a venture capital investor may assess the impact of a new social media product on the right to privacy as recognized in the IBHR.

Importantly, breach of any of the rights described herein may present legal, operational, reputational and other risks. In a UN study of over 320 cases of alleged corporate-related human rights abuses, companies were alleged to have breached 29 different rights arising out of the IBHR and the ILO Core Conventions. Of particular relevance to the Covid-19 situation, the alleged abuses included breaches of rights to: A safe work environment; Non-discrimination and equality at work; Life, liberty and security; Physical and mental health; and Access to medical services.

In Part II of this article, we will discuss more specific social concerns arising out of the Covid-19 pandemic.

Mark Uhrynuk is corporate & securities partner, and Alexander Burdulia is a foreign registered lawyer, Mayer Brown.

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