Twenty years ago, socially responsible fund managers just avoided certain companies. Today they can have a direct influence on future corporate direction
Twenty years ago, ethical investment was merely a matter of avoidance ' tobacco, pornography, alcohol and nuclear.
Avoid these and you had an ethical fund. However, by the early nineties, the appeal of this purely negative approach was waning.
With investors keen to invest in companies that were environmentally and socially aware, a new breed of socially responsible investment (SRI) funds was born.
Now, as we roll forward to 2001, are we in the middle of another fundamental shift in attitudes to ethical/SRI investing? I believe we are, as fund managers and investors begin to appreciate the value of using SRI screening as an integral part of day-to-day stock analysis.
Ethical investment is evolving into a subtler attempt to influence company behaviour. Fund managers are conducting regular dialogue with companies, aiming to encourage these companies to behave in a more environmentally or socially responsible manner.
The shift has been reinforced by the UK pensions disclosure government legislation.
Environmental legislation and its possible effect on companies' future fortunes is an area where SRI research teams can feed their expertise through to the mainstream fund managers.
The UK Government has stated its intention to tax environmentally damaging activities in line with the 'polluter pays' principle.
Industrial sectors can be identified that will suffer extra costs as a result. By the same token, changes in the legislation can also present excellent investment opportunities.
One key sector set to benefit is the waste management industry. Although the Government and the EC are still struggling to define the exact details of the Landfill Directive, waste management operations are seeing that they will have to change if they are to help their customers meet these legislative expectations and win new mandates.
Their environmental performance is inextricably tied up with their ability to offer sustainable waste management solutions.
In the UK, the situation is critical, because recycling remains at stubbornly low levels. Only 9% of our waste is recycled, one of the worst rates in the developed world.
In contrast, our neighbours in Switzerland, Germany, Austria and the Netherlands all recycle more than 50% of their household waste. While the rate of recycling has increased, it is still failing to keep pace with the growth in waste production.
That will have to change in 2005, when 25% of the UK's biodegradable waste ' kitchen and garden refuse ' will need to be recycled by local authorities. The target represents about 4.4m tonnes annually.
All the major waste management companies are ramping up front-end recycling facilities at their landfill operations to help meet the 25% target for biodegradable waste and are offering total waste management solutions for their commercial customers' sites.
Total waste management offers a number of competitive advantages, notwithstanding that recent fuel prices hikes have reduced the profitability of collection and transfer component of the business.
Managing waste at the customers' site offers the opportunity for improved recycling of both non-hazardous and hazardous wastes, associated reduction in the costs of disposal (including Landfill Tax) and the peace of mind of full environmental compliance for their customers.
While the length of contracts is typically much shorter than the municipal tenders, the margins are superior.
The move away from landfill is in line with the theory of Best Practicable Environmental Option, which indicates that certain waste streams are better disposed of by alternative means, liquids and hazardous organic chemicals are two examples.
The Directive will serve this transfer and provide an incentive for novel waste reduction or treatment technologies as well as the established options like high temperature incineration.
The high start up costs of technologically advanced treatment technologies will act as a barrier to the market entry of many new starts.
It is not only the waste management companies who have found that new or impending waste legislation can add value to their business.
Many of the larger logistics operators have tapped into a new income stream by undertaking the packaging recycling obligations for their biggest retail clients, thus reducing the volume of cardboard and polythene going to landfill.
Some now offer their customers rental of re-useable transit equipment, which eliminates substantial quantities of packaging from the supply chain.
One operator has established a division concerned exclusively with the rental of re-useable transit handling systems to its clients and third parties. SRI research teams at the fund management groups are able to alert managers of mainstream funds to these new opportunities.
The final example concerns the nuisance and pollution caused by abandoned motor vehicles. The UK generates a startling 1.8m scrap vehicles annually, and the End of Life Vehicle Directive is an attempt to tackle this problem. The Directive states that the last holder or owner of a vehicle can deliver it to an authorised treatment facility. Vehicle manufacturers are to bear most of the cost of this exercise, which could be up to £312m over the next five years.
The Directive will become UK law in April 2002 and established players are beginning to anticipate the opportunities that the legislation presents.
While the market is fragmented at present, it is fair to anticipate a period of rapid consolidation as vehicle manufacturers are unlikely to be willing or able to deal with the estimated 3000 to 4000 breakers (many of which are unlicensed) that currently exist.
At present, the only company involved exclusively in this area is Universal
Salvage, a FTSE 250 listed company, whose principal operation at present is managing written-off vehicles for the insurance industry. However, it will be one of the few to have the required waste management licences in place prior to the Directive.
Second, it has been proactive in establishing relationships with motor manufacturers like Vauxhall and Toyota in an attempt to address the issues that the Directive raises and develop one-stop shop recycling programs.
Considering issues such as these give a different perspective to the traditional perception that ethical and SRI research is all about avoidance.
It is certainly used to identify anti-social corporate behaviour by the adoption of negative ethical criteria. But it is also used to identify opportunities arising as a result of the changes in social attitudes as we move into the new millennium.
This will potentially serve to benefit not just the specialist ethical and SRI funds but all funds and all investors.
In the past, ethical investment was primarily about avoidance.
Fund managers are now beginning to use SRI screening as an integral part of stock analysis.
SRI investing also identifies excellent investment opportunities.
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