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ESG/SRI Investing in the Digital Age for Gen XYZ

Today’s digital age has changed industries. Leading that charge is the technology sector, whose business model depends on harnessing the needs and tastes of Generations XYZ. Doing so involves identifying and understanding their values. These include the growing embrace by these generations of socially responsible (SRI) and environmental, social and governance (ESG) criteria goals.

Tech giants such as Google claims they are “Raising the bar in making smart use of the Earth’s resources, expecting the highest ethical standards throughout our supply chain and creating products with people and the planet in mind”. A corner of Amazon’s website talks about how the online retail giant is “driving carbon out of our business”. These sentiments certainly mesh with large segments of their customer base, which is not shy about demanding that they strive for these standards.

Yet ESG/SRI standards are not easy to meet for companies whose ‘bread and butter’ are to be the new technology disruptors, shaking up the industry and displacing well-established business models, creating a new industry where the race to be the dominant player is the epitome of success. Accusations of monopolistic behavior, willful disregard for communities, violations of privacy, tax evasion, environmental hypocrisy (think of the daily energy consumption of ‘cloud’ servers) and the ‘Balkanization’ of public debate are among the ones that have landed at their doorsteps in recent years.

This new wave of investing raise questions, for these companies, about the cost-benefit ratio of trying to meet the criteria which takes managerial time and resources away from growth – the key financial metric for the tech sector – and frequently draws more brickbats than plaudits.

So, what happens when tech companies stop trying to meet SRI/ESG expectations and concentrate instead on their core businesses?

While by no means definitive, preliminary research by EPFR using its data and that of Data Simply suggests that not devoting some degree of effort to SRI/ESG goals does not help tech company performance. The example below (mirrored elsewhere) shows performance rolling over, as the raw scores dwindle going into 4Q18, earned from artificial intelligence driven analysis of company SEC filings.

You may ask, why? One explanation for these results a shift away from emphasizing SRI and ESG, which cedes the floor to critics who have a real effect on a company’s reputation, opening the door for value-destroying investigation such as the ones European regulators have conducted into the business practices of Google, Facebook and other US technology majors.

Servicenow Inc., a US cloud computing company, is one example of a company that began paying less attention to ESG. The bars in the histogram below represent the number of times in a month where words associated with environmental, social or governance issues appeared in that company’s filings with the S.E.C. The line-chart overlay represents the cumulative return of the company’s stock over the period.

ESG

As you can see from the chart, initially, while the company paid attention to ESG, at least as measured by its filings with the S.E.C., the stock performed well. Later, when Servicenow’s concern with such matters abated, the stock proceeded to roll over.

Nvidia, the graphics chip company, offers another example of what not paying attention to ESG can do to a tech company’s stock price.

ESG

This time, the price fell even harder than ServiceNow.

In summary, concern for ESG, while not directly impacting the corporate bottom line, can meaningfully affect a company’s share price.

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