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On Twitter, Sesquimateriality, & Climate Risks
Greetings System Stewardship Community. We hope this newsletter finds you well.

We’re approaching the end of proxy season’s heaviest time, and we plan to share our results, observations, lessons, and reflections on the future once we’ve finished moving our proposals and had a chance to reflect. For now, we have other important and interesting developments to share regarding diversified shareholders’ interests.
An Open Letter to Elon Musk

TSC recently wrote an open letter to Elon Musk in which we showed that Twitter shareholders have an interest in safeguarding the integrity of the platform before they vote on the deal. We explained that for diversified shareholders, the value in protecting the public square (the quality of which can affect the economy and thus portfolios) may be more important than the premium paid in the transaction. Reuters covered the story here.

If you’d like to explore how you might work with your advisors on this question, please contact Rick
From Financial Materiality to Sesquimateriality
Rick argued in a piece at The Harvard Governance Forum that the International Sustainability Standards Board (“ISSB”) ought to widen its aperture to prevent its own obsolescence. He also coined a new word. Here’s an excerpt:
Corporate social responsibility. Socially responsible investing. Environmental, social and governance (ESG) integration. Sustainable investing. These phrases refer to the need for investors to pay more attention to the environmental and social impacts of the businesses in which they invest.

The growing importance of this field is evident in the creation of the [ISSB] to establish uniform social and environmental disclosure standards that companies around the world will use to report to investors. But the current ISSB structure omits a category of information that is very important to investors: the costs that companies externalize to the economy and that affect overall securities market returns (“beta”), and thus the returns of other companies in an investor’s portfolio.

The current plan for the ISSB only includes information that implicates a single issue: future cash flows from the company to investors that provide the value of the enterprise (often called “financial materiality.”) The ISSB documentation expressly rejects “double materiality,” which couples financial materiality with information relevant to the impact companies have on civil society and stakeholders other than investors. The ISSB documentation does not address—or even acknowledge—the possibility of providing information that describes the impact companies have on beta, and thus other companies in an investment portfolio. This data might best be described as “sesquimaterial,” because it resides between enterprise-only value and double materiality.  

The failure of the ISSB to even address beta-oriented disclosure is surprising because there is a growing recognition of the need for diversified investors to monitor and steward the beta impact of portfolio company activity. The omission seems to be an artifact of the hesitancy of some in the ESG community to acknowledge an uncomfortable economic fact: that the best financial outcome for a company is not always the best financial outcome for its diversified shareholders.   

The final documentation of the ISSB standards should acknowledge that most investors have significant, largely uniform interests in beta impacts. The law governing investment fiduciaries is evolving to make it clear that fiduciary obligations permit—or even require—beta management. This is a critically important public policy development, not simply because it will improve investment returns, but because it will lead to better social and environmental outcomes on the ground, as many of the most serious threats to beta are also the most serious threats to people and the planet on which we live. At a time when regulation alone seems increasingly inadequate to the task of addressing threats to the environment and our social fabric, an apparent retreat from a market-based solution in a document as influential as the ISSB standards would be a serious setback. 
Climate-related Risk & Diversified Shareholders' Interests
In February, the U.S. Department of Labor (DOL) asked for public input on steps the Employee Benefits Security Administration (EBSA) could take “to protect the life savings and pensions of U.S. workers and families from the threats of climate-related financial risk.” TSC and B Lab U.S. and Canada submitted a response urging the ESBA to ensure that the plans it oversees are managed not just to account for the effect of climate-related risk on portfolio companies, but also the effect portfolio companies have on climate change. Our letter focused on two axes of investor-centered climate concern:
  • Alpha v. beta: Investors’ climate-related financial risk can be divided between two value perspectives: (1) company-specific risks that potentially affect the relative performance of individual companies (“alpha”) and (2) systematic risks that potentially affect the performance of the markets as a whole, chiefly by threatening the performance of the global economy (“beta.”)
  • Security selection v. stewardship: Investors have two primary methods by which to mitigate investment risk. Security selection helps to reduce alpha risk, whereas stewardship—when deployed correctly—helps to minimize beta risk. TSC favors the latter as a better tool for addressing diversified shareholders’ interests. 
EBSA (and other investors) can deploy combinations of the two types of risk and two types of mitigation above to address climate-related threats. Our letter argues for a stewardship approach whereby investors engage with companies and vote their shares to push companies to end practices that, even if profitable for the company, threaten the economy and thus overall market returns.  

In March, the U.S. Securities and Exchange Commission (SEC) proposed a new rule that would require companies to disclose some of their greenhouse gas emissions in a standardized way, and to explain to investors how climate change could affect companies’ financial performance. Elena Botella of the Omidyar Network (one of TSC’s primary funders) wrote an excellent piece for Forbes explaining the proposed rule.  

The proposed rule focuses on “climate-related risks that are reasonably likely to have a material impact on [a company’s] business, results of operations, or financial condition.” Of course, this formulation excludes the risk companies impose on the broader economy and diversified portfolios when they externalize their environmental costs. TSC is preparing a comment letter that will urge the SEC to include diversified shareholders’ interests in the rule. We’ll furnish details in our next newsletter.
That's All For Now

We’re grateful to the Ford Foundation, the Omidyar Network, the Tipping Point Fund for Impact Investing, the Lankelly Chase Foundation, and the Heron Foundation for their investment in system stewardship through a range of organizations, including TSC.  

Our work is made possible by generous supporters who understand the power of capital markets to affect our society and planet’s critical support systems, for better or for worse. To donate or to learn more, please contact Sophie or visit our website
Team TSC
Rick, Sara, Sophie, and Eduardo
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