Climate-oriented investors are often faced with a challenge when constructing portfolios: how to balance financial risk and return, while also reaching their own net-zero targets and driving a low-carbon transition in the real economy.
While reallocating capital is one option, investors will likely need other levers as well, in particular engagement. When shareholders actively engage with companies on climate-related issues, it sends a clear message that sustainability is a top priority. This engagement may encourage companies to adopt more sustainable practices, reduce carbon emissions and publicly commit to net-zero targets.
Investors have many options how to engage with companies, any of which can be used to address concerns around a company’s climate strategy or performance. These range from emailing a company’s investor relations team through to winning control of a board in a proxy contest. Engagement usually begins with less intensive methods and escalates as necessary to more intensive and sometimes more confrontational options.
Mechanisms for investor engagement
Engagement tools can be classified into those that involve only dialogue and those that rely on formal governance mechanisms to encourage or compel change. In general, the latter actions are only available to shareholders.
Dialogue: The most fundamental form of climate engagement is sharing expectations on greenhouse gas (GHG) emissions reporting, carbon transition strategies and other elements of net-zero alignment as part of normal communications with companies. Regularly exchanging views helps to ensure that a company’s board and management understand investor expectations around issues like GHG reduction targets and climate-risk management. As investors identify potential concerns or opportunities in a company’s climate strategy, ongoing dialogue may allow those issues to be raised before they reach a crisis point.
Where ongoing dialogue does not generate the desired results, more focused and intensive conversations can help set expectations and timelines around climate strategies. Dialogue-based engagement can be further escalated by bringing private conversations into the public forum, including an open letter to the company or addressing the board at the company’s annual general meeting. In cases of prolonged or severe dissatisfaction, investors may also raise the possibility of divestment to influence behavior.
Voting against management: Shareholders usually have the right to vote on the election of directors as well as on a wide range of other resolutions. Most management-sponsored proposals tend to receive overwhelming shareholder support. Proposals that receive significant opposition are, therefore, notable events that can push companies to (re)engage with shareholders. Where investors consider a company’s climate strategy or disclosures to be insufficient, and where dialogue-based engagement has failed to yield the desired results, voting against management resolutions represents one way to voice concerns.
Shareholder proposals: Voting against a management proposal is an inherently confrontational act. A more intensive — but potentially more collaborative — engagement mechanism is to put forward a shareholder proposal. Shareholder proposals are formal resolutions drafted by investors and presented at shareholder meetings. Unlike voting against management proposals, putting forward a shareholder proposal can lead to compromise without significant public confrontation between a company and its investors, especially as many companies will attempt to engage in dialogue before the proposal reaches a vote.
Proxy contests: Proxy contests, also known as “proxy fights” or “dissident proxy solicitations,” are the most intensive engagement mechanism available to investors. At a contested director election, investors nominate candidates for election to the board who are not part of the management- and board-backed slate of nominees. By changing the board, investors hope to change the company’s behavior from the top down.
Engagement — a critical catalyst
Investor engagement is a critical catalyst for advancing climate action and achieving net-zero targets. With the right data sets and metrics, shareholders have the power to potentially influence corporate behavior, enhance long-term value, foster transparency, promote innovation and shape policy in ways that are beneficial for both the environment and their portfolios. As the urgency of addressing climate change continues to grow, investors have a pivotal role to play in driving positive change and ensuring a sustainable future for all.