Why Governance Matters to ESG

November 10, 2022 |
4 minute read

According to the Financial Times “Investing within an ESG framework is now the fastest-growing segment of the asset management industry.” In line with this growth is the increasing number of nonprofit institutions considering ESG strategies and those who have already implemented them into their investment discussions and portfolios.

With this growing interest comes a critical need for a strong governance framework to ensure an institution stays true to its mission and goals when deciding how to incorporate these strategies. While each institution has its own unique definition of ESG, these three factors are often considered as one bucket. But is it fair to say that they – environmental, social and governance - should be evaluated using the same criteria?

An article published in the Wall Street Journal earlier this year argues “no” and goes on to say that governance is merely “an overlay whose systems sit on top of and are embedded into the organization; the environmental and social components of ESG are outcomes.” To a certain extent this is true, and we would go even further and argue that instead of governance being bucketed with environmental and social considerations, it is foundational if you are intentionally seeking environmental and social outcomes. Commonfund is a strong proponent of sound governance and firmly believes it is critical to ESG implementation and the management of any pool of capital. Without a strong governance system in place there is no way to effectively and strategically evaluate ESG considerations, or ensure they are in line with the mission of the organization.

Focusing on governance is essential to ESG and endowment management. Here are three reasons why:

Governance is the glue

Nonprofit institutions need to have a strong governance framework in place to clearly articulate their values and mission and evaluate all environmental and social investment opportunities that amplify them. Having defined policies and standards to monitor ESG considerations and other portfolio allocations will help ensure they are kept in alignment with the mission of the institution, creating a space for transparency, measurement, and accountability, providing insight into an investment’s strengths and weaknesses. Utilization of an ESG score card is an effective way to measure governance factors and stay on top of key issues. The Institutional Shareholder Services ESG Scorecard, for example, looks at:

  • Climate, social and governance risk
  • Industry key issues
  • SDG (Sustainable Development Goals) Impact of products and services
  • Industry risk profile
  • European Union (EU) taxonomy

This system of checks and balances provides guidance on how to invest in ESG strategies without compromising mission or fiduciary duty and can protect the institution’s ethical integrity and values alignment. With sound governance policies in place fiduciaries can better evaluate strategies and opportunities that meet the unique requirements of their institution.

A lack of governance can be consequential

A good governance structure is an institution’s safeguard against potential issues and scandals. Those on the board or investment committee of a nonprofit or public institution have a clear responsibility to act in the best interest of the institution:

  • The duty of care - requires that trustees not treat their role casually, but instead attend meetings, take reasonable steps to become well acquainted with all of the information and pertinent facts under the board’s purview and bring their best judgment to bear in the board’s deliberations and decisions.;
  • The duty of loyalty requires that trustees place the interests of the organization above their own; and
  • The duty of obedience (obedience) requires that trustees maintain the organization’s adherence to the purposes described in its charter and by-laws, following its policies in a disciplined and consistent manner in addition to complying with relevant laws and regulations.

At times, these responsibilities can be blurred or misrepresented, leading to potential scandal or conflict; such happenings can be exacerbated by social media which only heightens our awareness of them. In August of 2022, the Royal Foundation, a European charity founded by Prince William that is focused on conservation, amongst a handful of other social issues, received scrutiny for not only operating an environmentally focused foundation that had half of its investible assets in food corporations with ties to deforestation, “but also for keeping its investments in a bank that is one of the world’s biggest backers of fossil fuels.”1 If there was a process in place that included strong policy and evaluative metrics of their sustainable and social investments pools this situation and the conflictual headlines that came with it might have been mitigated. A good governance structure can uncover blind spots in an institution’s investment strategy and portfolios that create enterprise risk and put the institution’s brand and reputation in jeopardy.

Nonprofits have a responsibility to future generations

Governance is multi-faceted and affects all aspects of an institution, but it is particularly important to maintaining intergenerational equity – maintaining purchasing power for future generations. James Tobin (Economist) said “The trustees of endowed institutions are the guardians of the future against the claims of the present. Their task in managing the endowment is to preserve equity among generations.” We would argue that mission focused institutions are responsible for the endowment as well as its related stakeholder, environmental and community assets.

While ESG may be a recent addition to boards and investment committee discussions it is becoming more and more apparent that the effects of climate change can’t be denied - the uptick in wildfires, droughts, rising sea levels, flash flooding, etc. These issues impact a great majority of nonprofits and governing bodies have a very important role to play. Well-founded governance policies and procedures help develop strategic conversations and approaches and may take the form of a working group or sub-committee of the investment committee. Employing one of these “groups” would provide structure around how an institution can start moving from thinking about ESG investments to adding considerations to their investment policy and ultimately their portfolio.

Industry research, such as the Knight Diversity of Asset Managers Research Series: Ownership and Teams Diversity Metrics or the Investing in Racial Equity-A Primer for College and University Endowments, support the theory that integrating responsible investing practices into an investment decision-making process can have a positive impact on performance. Positive investment performance is a key metric in ensuring the long-term health of an institution and may also help preserve the longevity of society and our planet.

The article referenced earlier in this post argued that “Governance shouldn’t be evaluated…” and we are making the case that not only should it be evaluated, but it is foundational. Governance, or more precisely, good governance practice, is essential to developing, implementing, and monitoring environmental and social aspects of a nonprofit’s portfolio construction and investment strategy and to ensuring its longevity. Good governance truly is the glue of an institution, and we would argue it’s the most important work to be done by the board or investment committee surrounding investment decisions of all types.

Contributing Authors: Justin McIntosh, Commonfund and Yanet Gebriel, Commonfund Intern Summer 2022

A version of this blog was originally published on agb.org in October 2022.



1 https://apnews.com/article/queen-elizabeth-ii-entertainment-forests-royalty-prince-william-921652eb91ede88601bf1a534e14448b


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