In
the capital markets, value is determined second by second – it rises
and falls all day. This process of value creation and value destruction
conveniently ends on holidays and weekends. When stock prices fall, we
speak of value destruction, knowing that prices will, in time, recover.
We
know that too much of that so-called value creation comes at the
expense of forests and the people that depend upon them. Forests and
communities do not rebound like stock prices. In some cases, the damage
can never be undone.
When fiduciaries use terms like “value
creation” and “value destruction” while ignoring the true value we are
creating and destroying, we diminish the very concept of value.
We
live in a society that requires a global supply chain to wash its hair.
We raze irreplaceable forests to provide ourselves with snack foods.
If
we ignore the consequences of these tradeoffs when we speak to
companies, then we repudiate the ancient concepts of prudence, loyalty
and care.
As investors, we have a fiduciary duty to protect
forests and human rights, and a critical role to play to ensure that
capital is responsibly allocated for the long term. We have every right
to ask hard questions about how our clients’ capital is being deployed.
We
are not required to accept the status quo if it leads to disaster, even
if our portfolios may benefit on a relative basis. We do not need to
choose between shampoo and biodiversity
.
What
economic term is there for a transaction that permanently destroys
something of infinite value to produce short-term gains? How was that
ROI calculated? Where is the cost-benefit analysis in that? “Infinite
value” is not something the markets can make any sense of, so “infinite”
becomes “zero.”
In 2017, investors managing US$29 trillion asked the largest companies in the world to answer
CDP’s disclosure request about how they are addressing deforestation linked to cattle and timber products, palm oil and soy.
Twenty-nine trillion is a staggering figure. But it is not enough.
And
while much progress has been made, investors have been too slow to
recognize the dramatic threats presented by deforestation.
These trillions have not yet translated into sufficient change on the ground.
Like
so many sustainability issues, deforestation challenges investors to
rethink some core concepts. What do we mean by value creation? Risk to
whom?
We need a different vocabulary and different
measurement tools to help us understand the threat of deforestation and
our links to it.
Take for example
CDP’s finding that nearly 40% of companies reporting on palm oil sourcing are using
GreenPalm
certificates, which allow manufacturers and retailers to purchase
certificates from RSPO (Roundtable on Sustainable Palm Oil) certified
palm oil growers for each tonne of palm oil or palm kernel oil they use.
These
certificates subsidize more sustainable palm oil cultivation but do not
address conditions in the buyer’s own supply chain. If you view
deforestation solely through the lens of climate change, GreenPalm can
be viewed much like a carbon offset. A ton of carbon emitted in
Guatemala is the same as a ton emitted in Indonesia.
But ecosystems are not fungible. A forest destroyed in Central America cannot be offset by better practices in Indonesia.
The term “Natural Capital” may be a step in the right direction, but I am not personally fond of it.
An
ecosystem is not a form of capital. Forests do not exist solely to
provide investors with services and nor do the human beings and
countless animal and plant species that live in them. We devalue forests
by oversimplifying them.
Nevertheless, there may be one
related phrase in our vocabulary that works if we need to translate
deforestation into financial terms: “preservation of capital.”
Deforestation
is a systemic risk. But we are only beginning to grapple with how that
financial concept relates to sustainability. Consider climate change,
perhaps the ultimate systemic risk. Climate change should not solely be
of concern because it threatens financial stability. Our system of
finance threatens climate stability. That is the real threat.
The
Stockholm Resilience Centre
is promoting the idea of planetary boundaries. To date, they’ve
identified nine boundaries that scientists can measure or are in the
process of measuring. Beyond these boundaries, which include climate
change and biosphere integrity, we enter a zone of uncertainty and risk
that cannot be measured and we may not be able to mitigate. To ensure
the long-term sustainability of human civilization, we need to operate
within these boundaries – a safe space for growth and innovation.
The days of unlimited growth must come to an end, but prosperity need not.
To make the leap to a new way of thinking about forests, we need to focus on mitigating risk where it begins – on the ground.
First,
investors need to engage with the companies in their portfolios. We
need to ask hard questions. When we receive answers, we need to follow
up with harder questions. Meaningful changes in corporate practice can
often begin with an investor asking the right question at the right
time.
At a more systemic level, we can work to close the
circle of accountability. For example, there is no regular, formal
channel of communication between investors and the RSPO, or between
investors and the
Consumer Goods Forum, which has adopted a set of forestry commitments.
There
is also no formal line of communication between investors and
international law enforcement. I recently had the honor of speaking at a
conference on forestry crime at Interpol’s global headquarters.
Interpol’s Project Leaf
(Law Enforcement Assistance for Forests) covers a range of issues, from
trafficking in protected species to logging in protected areas, from
clearing forested areas without the proper permits, to systemic issues
like corruption, money laundering, tax evasion, drug trafficking and
violence.
Interpol estimates that up to 30% of all timber
traded globally is illicitly traded, and that illegal logging represents
50-90% of forestry activities in key producer tropical forests, such as
the Amazon Basin, Central Africa and Southeast Asia.
They
put the annual global cost of corruption in the forestry sector at
around US$29 billion, with illegal logging suppressing global timber
prices by 7-16%, costing the industry billions per year in lost profits.
Interpol argues that corruption is driving illegal
deforestation around the world. Tragically, the areas of the highest
biodiversity align with the countries with the poorest records on
corruption.
When you speak to companies about deforestation,
speak to them about crime. Remind them that Interpol has found forestry
operations set up to launder the proceeds from drug trafficking.
That should get their attention.
If
forest crime is as prevalent as Interpol says, then you are likely to
find it in your portfolios. If you don’t think so, then you probably
haven’t looked hard enough.
I also can’t stress enough how important it is for investors to establish strong relationships with informed NGOs. At
Domini,
we have worked closely with a broad range of NGOs for many years,
including CDP, Greenpeace, Friends of the Earth, Human Rights Watch,
Rainforest Action Network, Oxfam and others. These relationships have
dramatically expanded our awareness and understanding of emerging
issues, and our ability to act.
Deforestation is a key
contributor to global greenhouse gas emissions. But it is also about
protection of biodiversity and access to water. Deforestation is a human
rights issue that involves the special cases of both indigenous
communities and human rights defenders. It raises serious concerns about
governance, corruption and legal compliance. It requires a far more
systemic and forceful response from investors.
Forest
protection will not always be the most profitable path. But it provides
invaluable systemic benefits. We will not always be able to measure
them, but we cannot allow that to prevent us from acting. I believe that
is what prudence requires.
The balance sheet is not our only guide to risk management, and it cannot be our only guide to environmental protection.
