High Performing CFO
A tale of two markets
Interview: Colin Melvin
Colin Melvin, Chief Executive, Hermes Equity Ownership Services Ltd
As companies diversify their footprint across rapid-growth and developed markets, investors are increasingly seeking assurances that the executive team takes environmental, social and governance (ESG) issues seriously. Here, Colin Melvin, CEO of Hermes Equity Ownership Services, outlines the process for engaging with companies on ESG.
What is the role of an organization like Hermes Equity Ownership Services?
At Hermes, we act on behalf of 24 pension funds and advise our clients on environmental, social and governance (ESG) issues. We recognize that many pension funds today are interested in their stewardship of the companies in which they invest. Stewardship describes the relationship between the end owner of an asset, such as a pension fund, and the company. The idea here is that the long-term shareholder as a steward has a responsibility and an opportunity in its interaction with companies to raise their long-term value through dialog.
How do you interact with companies on ESG issues?
Every year, we have between 550 and 600 engagements with companies. What we mean by engagement at Hermes is a face-to-face conversation with a senior officer or director of the company, such as the CFO. Normally what happens is that we will contact companies where we have a concern and where we think that our concerns can be addressed through that contact or engagement.
Unlike a normal investment meeting, we’re not seeking information or trading advantage in any sense. Instead, what we’re doing is challenging and supporting companies to promote their long term value. It’s not our role to second-guess strategy or micro-manage companies but where companies have a stated strategy and they seem not to be following it then that would be a concern. Alternatively, there may be something in the company’s recent past that suggests their risk management is not as effective as it could be. That would also lead us to engage.
As companies rely increasingly on rapid-growth markets as sources of revenue growth, does that change the types of issues around which you are engaging with companies?
It does to some extent. Bribery and corruption is one issue that we might need to address more frequently and that clearly affects certain companies more than others. In extractive industries, for example, it’s common for companies to have to deal with this when they have operations in difficult or sensitive territories. We’d also look for assurance that there is good-quality risk management and reporting processes in firms.
How do you gain reassurance that a company’s operations in rapid-growth markets have robust ESG procedures and performance?
We will visit companies’ operations to see how things are working on the ground as part of an engagement when we think it’s helpful to do so. Within the past year, for example, we have visited the mining operations of certain companies in South Africa, Russia and India. These types of visits are also very helpful in demonstrating our clients’ commitment as good stewards and long-term shareholders. Every month, we’re somewhere in the world testing what we hear from companies. We can’t visit the companies’ operations on every occasion and so we do need to rely heavily on interaction with senior management. But it’s important from time to time to do these deep-drill visits to verify what we’re hearing.
From a risk management perspective, what are you looking for in companies?
It would depend on the nature of the risks but we’d certainly expect effective reporting of risk management at board level. We would expect someone on the board who is accountable and responsible for risk. We would also want to see chief risk officers attending board meetings where required and reporting directly to the board. There should be documented whistle-blowing procedures within companies. If we can be satisfied that the officers of the company can describe properly the procedures, that certainly gives us some comfort.
Do you see differences in the level of ESG maturity between developed and rapid-growth markets?
The companies that tend to report best on ESG issues are those that are likely to face problems in those areas and those that are large and well resourced. It tends to be the smaller companies in developing markets with less obvious ESG challenges that are not as well prepared. But that can give rise to opportunities. Often, some of the easy wins for us are in encouraging companies towards better reporting. That said, we do find that some of the smaller companies do a really good job in reporting on ESG issues. So it’s not a strict linear relationship.
As CEO of Hermes Equity Ownership Services Ltd, Colin Melvin advises and represents pension funds and other long-term institutional investors in the areas of responsible investment and corporate governance.
Colin is an active member of several industry steering groups and committees including the Commission on Ownership in the UK and the Supervisory Board of Eumedion (the Dutch Corporate Governance Association.) He has co-founded and led various investor groups and initiatives such as the United Nations Principles for Responsible Investment (for which he was the first Chairman) and the Performance Pay Group and Socially Responsible Investment Forum in the UK. He also drafted guidelines for corporate disclosure on social, environmental and ethical matters, which have been widely adopted by the UK investment industry.
Previously, Colin was Corporate Governance Manager and Secretary to the Ethics Committee at Standard Life Investments and Head of Corporate Governance and Responsible investment at Baillie Gifford. He is also a former member of the Advisory Board to Aberforth Limited Partnership, a fund engaged in relational and active-value investing.
Colin joined Hermes in 2002 and became CEO of Hermes Equity Ownership Services in 2005. He is an associate member of the Chartered Financial Analysts Institute and the UK Society of Investment Professionals. He holds an MA from Aberdeen University and an MPhil from Cambridge University, both in History, and a Diploma in Investment Analysis from Stirling University. He is an Associate of the Centre for Corporate Governance Research of the University of Birmingham and a Non-Executive Director of Aedas, an architectural firm.