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January 11, 2005
Top Five Socially Responsible Investing News Stories of 2004
    by William Baue

Shareowner engagement shifted from confrontational to collaborative, sustainability analysis fused with financial analysis, and fiduciary duty expanded to include social and environmental issues.

Socially responsible investing (SRI) and corporate social responsibility (CSR) continued to mature in 2004, making significant gains while also addressing shortcomings. Now in its sixth year, continues its tradition of ringing in the New Year by reviewing the top SRI stories of the past year.

1. Engagement between shareowners and corporations shifts from confrontation to collaboration

Things looked grim on the corporate-shareowner-relations front when the year began: in January 2004, Cintas (ticker: CTAS) filed a defamation lawsuit against SRI firm Walden Asset Management and its senior vice president, Tim Smith. The complaint centered on comments Mr. Smith made at the October 2003 annual general meeting (AGM) introducing a resolution asking for a report on the efficacy of its Code of Conduct for Vendors, which he alleged the company violated by sourcing from a Haitian "sweatshop."

In an amazing turnaround, Cintas not only settled the suit, it also recommended in its September 2004 proxy ballot that shareowners vote for a resolution filed by different shareowners but similarly asking for a report on adherence to its Code of Conduct for Vendors. Any other year, such a "yes" vote recommendation would be practically unprecedented, but in the intervening time between the filing of the suit and of the proxy ballot, three other companies had issued such landmark recommendations.

In late January 2004, Bank of Montreal (BMO) became the first company in Canadian corporate history to recommend voting for a social or environmental resolution, which in this instance asked the company to disclose how it evaluates and manages environmental risks to its business. In March 2004, Tyco (TYC) backed a similar resolution asking for a report on its corporate-wide toxic emissions and environmental management system (EMS), and Coca-Cola (KO) endorsed a resolution requesting a report on the economic effects of the HIV/AIDS pandemic on operations. These company-endorsed shareowner resolutions all received near-unanimous support (91, 92, and 98 percent respectively), and Coke had already issued its report by October 2004.

While shareowners have for years withdrawn resolutions when companies comply with their terms, 2004 saw an increasing number of such instances. Energy companies Cinergy (CIN), American Electric Power (AEP), TXU (TXU), and Southern Company (SO) agreed to prepare reports on the risks posed by climate change and company plans to mitigate such risks, and Reliant (REI) agreed to increase climate risk disclosure. In response to resolution withdrawals, Ford (F) will issue an HIV/AIDS report, JP Morgan Chase (JPM) established an office of environmental affairs, and Occidental (OXY) devised a human rights code.

Avon (AVP) is both phasing out phthalates and shifting from staggered to annual board elections, and Dover (DOV) and Masco (MAS) amended their Equal Opportunity Employment (EEO) policies to explicitly bar sexual orientation discrimination. In its proxy statement, Fifth Third Bancorp (FITB) promised to abide by the majority vote on a sexual orientation nondiscrimination resolution, but did not amend its EEO policy even after announcing 63 percent support for the measure; only upon the threat of a boycott did it finally honor its promise.

"The shift from confrontational relationships between shareowners and corporate managements to more collaborative ones has been years in the making, and 2004 saw a sea change in tangible results and innovative solutions for this new, mutually beneficial approach," said Jay Falk, president of SRI World Group, which owns and publishes the website.

However, confrontation has not disappeared from shareowner-corporate relations, as companies continued to take advantage of the non-binding nature of resolutions to disregard majority votes in 2004. For example, Raytheon (RTN) ignored 65 percent shareowner support for a resolution asking the company to expense stock options, while also flouting a 77 percent vote to repeal staggered boards in favor of annual elections. Seven other companies similarly ignored majority votes on these two issues, including Intel (INTC) and IBM (IBM) on the former and Gillette (G) and Sears (S) on the latter.

Shareowner action-related articles:
Ford HIV Report Exemplifies New Shareowner Action Strategy
About Face: Cintas Settles Lawsuit and Supports Vendor Standards Resolution
Companies Ignore Majority Votes on Shareowner Resolutions
Tyco Recommends Vote in Favor of Shareowner Resolution, Joining Three Others
Five Companies Comply with Terms of Shareowner Resolutions in One Week

2. Sustainability gains increasing acceptance in corporate and investment communities

The notion of sustainability, which grew out of the term "sustainable development" coined in the 1987 Brundtland Commission Report to define the curbing of present resource use to ensure future resource availability, has been gaining increasing credence since then. In 2004, the corporate and investment communities made strides in embracing sustainability, which attempts to reconcile economic growth with environmental conservation and social equity.

One such stride bridged the gap separating sustainability research from financial research, as former US Vice President Al Gore and former Goldman Sachs CEO David Blood launched Generation Investment Management in November 2004. The new firm grafts sustainability research directly into its fundamental equity analysis, creating a new hybrid by tearing down the wall ghettoizing social and environmental research from traditional financial research.

Another similar stride crossed the chasm between buy-side investment analysts, who are more likely to be aware of sustainability issues, and sell-side analysts, whose fixation on short-term financial performance typically excludes longer-term sustainability considerations. In July 2004, the United Nations Environment Programme (UNEP) released an important report compiling 11 sector studies prepared by sell-side analysts from mainstream brokerage houses examining the materiality of sustainability issues on financial performance. Piggybacking the shift of sustainability analysis to the sell side, European institutional investors launched the Enhanced Analytics Initiative (EAI), which encourages sell-side analysts to cover sustainability issues by promising them five percent of EAI-member broker commissions.

The linking of sustainability performance to financial performance gained support from the 2004 Moskowitz Prize winning study, awarded annually by the Social Investment Forum (SIF) to the best empirical research on SRI. This "study of studies" (all 52 published between 1972 and 1997) analyzing the link between sustainability performance and financial performance finds a "positive association . . . across industries and across study contexts."

"Before 2004, sustainability was lower on the radar screens of mainstream investors, but with increasing empirical evidence that sustainability factors impact financial performance, companies and investors now ignore sustainability at their own risk," said Mr. Falk.

Sustainability-related articles:
Al Gore and David Blood Graft Sustainability Research into Traditional Investing Analysis
Sell-Side Analysts Confirm the Materiality of Sustainability Issues in UN Report
Enhanced Analytics Initiative Offers Sell-Side Analysts Cash to Cover Intangibles
Moskowitz Prize Study Removes Doubt Over Link Between Strong Corporate Social and Financial Performance

3. The definition of fiduciary duty expands to encompass social and environmental issues

The traditional interpretation of fiduciary duty, which requires acting "solely in the [financial] interest of the beneficiary" and precludes SRI on the assumption it underperforms, strains under the weight of the growing body of empirical evidence of competitive SRI performance. Moreover, the August 2004 implementation of a new Securities and Exchange Commission (SEC) rule requiring mutual funds to disclose their proxy voting records and policies introduces an even more fundamental shift in the definition of fiduciary duty (a similar rule went into force in Canada in December 2004). In addition to illuminating whether funds' votes on social, environmental, and corporate governance issues match fund shareowners' values, the rule also highlights mutual fund managers' and directors' fiduciary accountability on such issues extending beyond the financial realm.

Peter Kinder, founding president of SRI research firm KLD Research & Analytics, argues that this expanded definition of fiduciary duty is bound to cross-pollinate to other institutional investors, such as pension fund trustees, ultimately creating "a new concept of fiduciary duty."

"Simply put, the SEC's redefinition of fiduciary duties as to equities will become the general rule" despite the fact that "pension schemes are not subject to SEC jurisdiction," states Mr. Kinder in a paper presented in July 2004 at the American Enterprise Institute (AEI), a conservative think tank.

A December 2004 SustainAbility report underscores the shifting definition of fiduciary duty, arguing that trustees, directors, and managers can no longer afford to address strictly legal liabilities, but rather must expand their scope to encompass moral liabilities. Alien Tort Claims Act (ATCA) cases illustrate how companies can sometimes evade prosecution through legal acrobatics but still be held morally accountable in the court of the marketplace. The out-of-court settlement by Unocal (UCL) of its ATCA case in December 2004 sets a practical precedent making it even harder for companies to rely on judge or jury to shield them from legal and moral liability.

Fiduciary duty-related articles:
Fiduciary Duty, Undivided Loyalty, and Socially Responsible Investment Performance
Disclosure: How SEC Proxy Voting Rules May Shift the Definition of Fiduciary Duty
Bhopal, Climate Change Require Shift From Legal Liability to Moral Accountability
Unocal Alien Tort Claims Act Case Settlement Boosts Corporate Accountability
Moving From the Business Case for SRI and CSR to the Fiduciary Case

4. Criticisms and improvements in SRI transparency and standards

An Australian survey of over 400 current or prospective social investors worldwide conducted in April and May 2004 found over half of the respondents consider SRI funds' social and environmental information insufficient, too complex, or not credible, a shortcoming leading to significant sell-off. Similarly, an October 2004 report published by Natural Capitalism Institute founder Paul Hawken and his NCI staff finds significant disclosure and standards gaps in SRI funds, and recommends increased transparency on portfolio selection and screening procedures

European SRI advocates have taken a lead in developing standards to help inform consumers about how SRI firms and funds function. In November 2004, the European Social Investment Forum (Eurosif) released SRI Transparency Guidelines designed for mutual funds. In a related move, the Association of Independent Corporate Sustainability and Responsibility Research (AI CSRR) was founded by European SRI research firms to promote standards for their practice, which provides key CSR information used by professional investment managers.

On the operational side of SRI businesses, the Calvert Group became the first US-based SRI firm to publish a Global Reporting Initiative-based sustainability report, providing additional transparency into how it conducts its business. Calvert was one of 17 SRI firms to sign a joint statement in October 2004 urging publicly-traded companies to report their social and environmental performance using GRI Sustainability Reporting Guidelines.

SRI transparency- and standards-related articles:
Global Survey of Socially Responsible Investment Finds Information Lacking
Paul Hawken Critiques Socially Responsible Investment: Is He On Target or Off Base?
European Socially Responsible Investment Firms Let the Sun Shine In
Calvert First SRI Firm to Issue Global Reporting Initiative-Based Sustainability Report
Memo From: SRI Analysts To: Companies--Use GRI Sustainability Reporting Platform!

5. Watering down of Community Reinvestment Act adversely affects community investment

The Federal Deposit Insurance Corporation (FDIC) and other divisions of the federal government have passed rules that weaken the Community Reinvestment Act (CRA), the 1977 law requiring banks to support small businesses and individuals in disadvantaged communities. While the CRA examination traditionally requires banks to provide development loans, investments, and support services to low- and middle-income communities, the rule change allows 879 medium-sized banks to choose one of these three services.

The federal Office of Thrift Supervision (OTS) has proposed new rules further eroding CRA's effectiveness by extending similar changes to large banks. The proposed rule change also expands the scope of CRA coverage in rural communities beyond low- and middle-income categories, diverting support from these economically disadvantaged communities. OTS is soliciting public commentary on the proposal through January 25, 2005, and community investment advocates such as the National Community Capital Association (NCCA) urge CRA supporters to weigh in.

"While changes may be required to relieve banks' burden of current CRA compliance, the federal government's proposed and enacted changes counteract CRA's original intention of assisting disadvantaged communities, effectively throwing the baby out with the bathwater," said Mr. Falk.

"Balancing out these negative developments for community investment in 2004 were several positive trends," Mr. Falk added. "The CRA Fund, formerly available only to institutional investors, is now offered through retail channels, and the Grameen Foundation USA issued a $40 million bond, the first and largest international microfinance bond ever."

Community investment-related articles:
FDIC Proposes Rule Watering Down Community Reinvestment Act Requirements
Is CRA the Right Remedy for Race-Based Disparity in Mortgage Lending?
First and Largest International Microfinance Bond Issued
CRAFund Goes Retail


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