KLD Research & Analytics, Inc. -- Socially Responsible Investing and Research

Social investing is usually discussed as if it was the opposite of something else: call it "pure" investing, which banishes anything but return from consideration in deciding which assets are appropriate and which are not. But the truth is that social concerns permeate institutional investment. The real issue is not whether to have social guidelines but only how many and where to set them.

A successful strategy for adopting a mission-based investing policy will rest on a careful attention to process and thorough preparation.

The decision on a mission-based policy should occur within the normal decision-making process for the management of the institution's assets. From a procedural standpoint, the decision on mission-based investing is simply part of the continuum running from determining the institution's objectives to monitoring the performance of the portfolio and those responsible for it.

Both the initial decision to adopt a mission-based policy and all subsequent actions relating to it will take place in the context of the board's responsibilities for managing the institution's assets -- that is, in the context of their fiduciary duties.

The adoption of investment policies of any type is a function the board alone has the responsibility to make. The board consists of persons with collective responsibility for managing -- that is, overseeing -- investment decisions as opposed to those charged with managing assets. As such, they are fiduciaries, persons whom the law recognizes as assuming the responsibility to act for another's benefit with respect to property.

Donald Trone, et al., have pointed out, "Fiduciaries are responsible for the general management of [the institution's] assets." The responsibilities which they cannot delegate to others are:

As these duties indicate, the law focuses far less on whether a governing board makes the right decision than it does on whether the board observed proper procedures in reaching the decision.

For a fiduciary, every aspect of stewardship must meet the standards of care the law prescribes. Mission-based investing is not an exception to the rule. Put differently, mission-based investing requires the same attention to process as any other investment management decision.

A typical case would include the steps described below. However, every situation is different. (For example, we assume in our discussion that a board's investment committee will play an important role. Some boards do not have one.) The usual steps -- each of which is described below -- are:

The board adopts a resolution asking the investment committee to make recommendations on the feasibility of a mission-based investment policy.^*
The investment committee may ask counsel's opinion on the proposal.
The investment committee adopts a report on the fiduciary and practical implications of the proposed policy which is forwarded to the board.
The board places the report on its agenda.
After discussion of the report and receiving an opinion of counsel, the board adopts a resolution adopting the policy and delegating implementation to the investment committee and/or staff.
After consultations with staff, financial services providers, and counsel, the investment committee adopts mission-related investment guidelines which are then added to the institution's investment guidelines.

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The proponents should begin by canvassing the board and staff for people qualified, interested, and capable of evaluating a mission-based investment policy. Support for the concept should not be an overriding criterion; skeptics make good sounding boards and, if converted, become strong advocates for mission-based investing.

Preliminary discussions with board members and staff will reveal whether the board is ready for a proposal or whether an education program is necessary. In the latter case, circulating articles on SRI is a good way to begin. Appendix D, Resources, lists a number of appropriate articles. Once some interest exists, a background presentation by an SRI expert may advance the process.

From the outset, the scope of a proposal should be limited and linked to the institution's mission. A specific screen or area of proxy voting that relates to the organization's mission may make a good starting point. As noted earlier, mission-based investing recognizes the political and legal realities that impel boards toward a limited social investment policy. Hence, a union-sponsored think-tank may enter the field by adopting a policy for voting its proxies on labor-related issues. A women's foundation may opt for a proxy voting policy that calls for votes against board candidates when there are no women on the board and a portfolio screen eliminating companies with unremediated patterns of discrimination.

Proponents must be willing to compromise. The goal may be immediate implementation of a social investment policy. However, a three-year phased implementation program with annual reviews of progress is hardly a failure. A phase-in period offers opportunities for more education and more constituency-building. Experience is the proponents' best ally.

The proposal should take the form of a resolution adopting a mission-related investment policy and delegating responsibility for developing and implementing the program to the board's investment committee.

One of the keys to adopting a mission-based program is not to surprise anyone. After the board has agreed to explore the concept, the money managers should be kept informed of the process. An institution that uses a consultant should keep him/her up-to-date on the board's thinking. Some major consulting firms now have SRI specialists.If the prospects seem promising for adopting a social investment policy, one should give some thought to bringing in a firm with experience in moving such policies through boards and then implementing them.

As noted earlier, social investing is a set of techniques that enable institutions to use their investments to advance their mission in non-financial arenas. Rather than defining "social responsibility," the investment committee should focus on what social investment techniques might further particular aspects of the institution's mission. "Mission," not "social responsibility," is the touchstone here.

Over time, an appropriate definition of "social responsibility" may well emerge through the interplay of the institution's work and its mission-based investment policy. No institution should set out to define it in the abstract.

The investment committee should have before it a resolution recommending that the board adopt a specific mission-based investment policy. The resolution should delegate to the investment committee the task of preparing implementation guidelines which could then be adopted by the board.

The proposal should define, in general terms, the proposed screens. For example, a health care institution might wish to adopt an "alcohol-free" policy, while an environmental organization might want a pro-active environmental screen. Precise definitions of terms such as "alcohol-free" or "pro-active" should be left to the investment committee.

The committee members -- and the board, generally -- must have supporting data on which to base an informed decision on whether to adopt a mission-based investment policy. Most board members and staff will find the subject matter unfamiliar and will need education and assurance.

One can drown committees in paper, but here one should err on the side of thoroughness. Supporting documents should include:

Successfully establishing a social investment policy requires that proponents understand the concerns of those not inclined to apply such screens and address them.

Achieving consensus requires that such concerns be addressed fully. However, free-form discussions of these issues can be tedious and fruitless. More likely to be fruitful are discussions of a specific written proposal supported by reports that anticipate the questions likely to come up. Some institutions have found that a resource person experienced in social investment issues can advance the process at both the investment committee and the board.

It may. A decision to implement social screens in one area sets a precedent for screening proposals in the future. But, it does not require a board to adopt them.

Defining one's policy in terms of mission constrains the introduction of new screens which will have to be linked to the institution's mission. For example, a decision to support shareholder initiatives asking for reports on diversity might be linked to an earlier decision to adopt a minority or woman-owned vendor policy.

No. The decision to divest does not compel a sale at a loss. The institution's financial officers should have a "reasonable" time in which to sell. What "reasonable" means depends on the circumstances.

Divestment does not mean acting hastily or selling at fire sale prices. Nonetheless, within some period after the decision the institution must sell. If a loss is incurred, it may be treated as a reasonable cost of advancing the institution's mission, if it is not excessive. Should a question arise, counsel should be consulted. One might argue that the decision to buy the stock in the first place led to the loss.

I think it is almost inevitable that as trustees and officers of [endowments] grow old, they become more concerned to conserve the funds in their care than to wring from those funds the greatest possible usefulness.

How an institution handles the development and implementation of a mission-based investment policy will determine in large part its success or failure. A key to success is to be found in a rigorous attention to detail in the development of investment guidelines.

Development of mission-based investment guidelines is best thought of as a two step process. The first step is the adoption by the board of general social investment guidelines -- the policy which will be included in the investment guidelines. General guidelines are simple and brief and are designed to remain in place indefinitely.

The second step consists of the development by the investment committee and/or staff of working social investment guidelines, an elaboration of the general guidelines with illustrations that will guide a manager's day-to-day decision-making. The working guidelines may be revised as experience dictates and should be revisited annually.

Some articles have criticized the expense ratios on socially screened mutual funds. They have tended to compare screened funds to unscreened, so the expenses will not line up. Also they hold social funds to the same standards as Fidelity and Vanguard funds without allowing for the possibilities of cost-spreading greater size permits. That said, as with any service, buyers of investment management should carefully compare services and prices.

In the early phases of implementing an SRI policy, it is critically important that the manager have a clear sense of where to draw lines and that the institution understand what a manager can reasonably do. That direction and understanding comes from careful study of how the policy might be implemented. Here, a consultant with experience in assessing the effects of social screens on investment universes can be helpful. This process is also important for the investment committee and staff. They must understand how the screens work in practice in order to respond to board and stakeholder questions.

If the institution's general guidelines include exclusionary screens, such as tobacco and alcohol, the working guidelines can require the manager to use lists of excluded companies provided by a social research vendor. Lists will take some of the burden off the manager.

If, however, the institution's screens include qualitative screens, such as environment or labor relations, lists will not answer except for the most rudimentary screens. In these areas, a consultant who understands the institution's objectives can make the calls if the manager is reluctant to do so. Or, the institution itself may do so.

For the most part, investment managers need not be involved in the development of the investment policy. However, they probably should attend the meetings at which the guidelines are developed. The development of the working guidelines should include discussions of specific companies that are borderline. The investment committee should make the include/exclude call on a few of these, so the manager or consultant can see how to approach a screening question. Going through this exercise with the manager present should reduce misunderstandings.

Yes. Under certain circumstances, an institution must hold securities which do not conform to its social screens. Then, shareholder activism is the best option for advancing an institution's mission.

Each year, shareholders led by the Interfaith Center on Corporate Responsibility (ICCR) file numerous social issue proxy resolutions. (See Appendix D, Resources, for ICCR's address.) Casting votes for these resolutions and letting management and the public know why will help. Letters to the company explaining votes and reports to stakeholders on voting policies and how votes were cast are low-cost, high impact means of educating on issues of institutional concern. As shareholders, an institution could file or co-file resolutions with the companies. ICCR members are open to both co-filers and those willing to help frame the shareholder dialogue with corporations.