Annebeth Roor-Wubs: What gets measured, gets managed?

July 25, 2023

^{This column was written in Dutch. This article is an English translation.}

By Annebeth Roor-Wubs, Sustainable Finance Senior Consultant at EY and parttime PhD student at Rotterdam School of Management

What is measured, is managed. That motto is often used in sustainability information, to emphasize the importance of good data being available. But is it true that measuring always leads to managing? And what if it isn't?

Two interesting scientific articles form the basis for this column, so let's start there.

The first concerns an experiment conducted among members of the Vereniging van Effectenbezitters, the results of which were published in a top finance journal[1]. The experiment compares the preference of private investors for funds that avoid CO2 emissions and thus contribute to climate change mitigation.

An interesting finding of this experiment is that investors do have a preference for these more sustainable funds, but that their choice depends much less on how many emissions are saved. So measurement shows that something is more sustainable, but investors seem to care less about how sustainable a fund is.

This insensitivity to the magnitude of environmental impact has also been demonstrated, for example, when giving money to charities and when expressing the value of nature (the value of 10,000 birds versus 100,000 birds).

The second article also concerns an experiment, published in a top management journal[2] and conducted among a large group of general participants. Here it was concluded that the participants do not make the most efficient choices when choosing between investments with different financial and positive social returns. This study also shows that participants mainly see that something is more sustainable, but less in terms of how much more sustainable.

Admittedly, the experiments have not been conducted among professional investors, but they do make you think.

Valuing impact

To manage sustainability information, it is necessary that investors not only see whether there is a positive or negative impact, but also how large this impact is and what this means. Because how exactly do you value a ton of CO2 equivalent?

There are methods to monetize impacts: via a life cycle assessment or the Impact-Weighted Accounts Framework. In this, impacts such as a ton of CO2 or child labor are expressed in euros. The advantage of this is that impacts become comparable, the disadvantage is that the uniqueness of an impact can disappear in the bigger picture. In addition, there are certain negative impacts that investors want to exclude on principle and/or from a risk attitude, regardless of prevention or recovery costs.

It can also be valued by comparing impacts against a benchmark. In investment practice, an average of a benchmark is often used for this purpose. With emissions, for example, below the benchmark is good and above it is bad. So a little less polluting than the average is green? This justifies the established order of listed companies in particular and does not provide any prospects for a sustainable economy.

It is therefore better to take a benchmark that relates to a sustainable and inclusive economy as a basis. These are, for example, the Paris Agreement on Climate Change and the Biodiversity Agreement, signed by the UN member states in December 2022. These agreements make it clear that there is still a long way to go towards a sustainable economy. It would therefore also make sense for investors to compare a company against these agreements and not against what the current average is.

In the social field, for example, you can think of threshold values for a gender pay gap and a CEO-to-worker ratio that can be expected from a good company.

Biologist on the investment case

Valuing impacts also requires an understanding of processes in nature and in society. Nature and climate are about tipping points, feedback loops and various factors that jointly influence biodiversity loss and climate change. Sustainability figures come to life when you understand how a company influences these processes.

An average investment analyst did not get (and will not) get this in a Business Administration or Economics course. Therefore, different capabilities are needed on the work floor. Various colleagues who are trained as biologists, chemists or political scientists have been working for years on sustainability audits within our organization. For a good investment case for a nature-based solution, for example, the knowledge of a biologist is only logical. And for a good understanding of processes in nature, it is not so bad to put your feet in the ground yourself.

Value is appreciated
There are several ways to ensure that sustainability information is understood and managed, but one thing is clear: this requires more than just measuring. It requires integration in processes and a separate weighting of sustainability performance in investment decisions. And above all: learning together to understand what that information really means.