Can ESG criteria apply to investments in the likes of alcohol and tobacco companies, or are such practices fundamentally irreconcilable with firms whose core products are unhealthy and addictive?
This is an important question. Alcohol and tobacco companies are sometimes described as “sin stocks,” and some investors have tried to steer clear of them altogether. Now, however, socially responsible stockpickers are trying to leverage positive change by engaging with alcohol and tobacco companies and using their financial clout to drive progress.
The rationale is simple. As ESG guru Robert Eccles – now a sustainability adviser to tobacco company Philip Morris International – recently told Bloomberg: “Nobody’s given me an argument for how excluding tobacco is going to solve the problem of a billion people smoking cigarettes.”
So how can ESG investors get comfortable with sin stocks?
In 2004, then-UN Secretary General Kofi Annan brought together the CEOs of 55 leading financial institutions from around the world to develop a rough framework for implementing socially responsible principles in business. In the report which the UN subsequently published, entitled Who Cares Wins, the executives urge companies to adopt ESG principles and encourage investors to reward their implementation.
The thinking behind this is that any company can have a positive impact on society and the environment, and that this should be incentivised. Conversely, companies with a negative impact should find it harder and more expensive to attract capital.
Yet if ESG criteria were determined solely based on the type of business they applied to, no mining, oil or chemicals companies would have high ESG scores, nor investment from ESG-conscious backers. Yet many do – as do plenty of companies that sell alcohol or tobacco (including most food retailers). That means manufacturers and vendors of these products have recognized their responsibility and taken meaningful steps that have met with investor approval. As one example, a growing number of tobacco and alcohol giants have begun publishing comprehensive integrated reports and embedding ESG initiatives at the heart of their business models.
Sustainable alcohol: show us the proof
Scottish craft beer firm Brewdog is one alcohol company that has embraced ESG. Brewdog has placed considerable emphasis on its environmental strategy, which holds a prominent position in the company’s marketing campaign.
Whatever the motives, the results are undeniably positive. Renewable energy provides 100% of the power for the company’s brewery, which is directly connected to three 800-kW wind turbines. An innovative approach to waste sees excess grain processed into biofuel for the brewer’s vehicles, while spent spelt becomes dog biscuits and beer which doesn’t meet standards is turned into vodka.
When these initiatives are combined with carbon offsetting schemes, Brewdog can boast of removing twice as much carbon from the atmosphere as it emits – a remarkable achievement for an industry which relies on fermentation, a chemical reaction which necessarily creates carbon dioxide as a by-product. In the future, the company hopes to further reduce its carbon footprint by reforesting a 9,000 acre plot of highland it recently purchased in Scotland, as well as reusing captured carbon downstream to carbonate beer.
Belgian-headquartered alcohol conglomerate AB InBev also seems to be waking up to its environmental footprint. Its 2020 climate change report has been put on the ‘A List’ of the Carbon Disclosure Project, a nonprofit which monitors companies’ climate impact. The world’s largest brewer has committed to a number of environmental targets. By 2025, it says, all of its packaging will be returnable or made from majority recycled content. In addition, 100% of purchased electricity will come from renewable sources, and carbon emissions will be cut by 25% across the company’s value chain.
The much-neglected ‘S’
Accelerating the financing of climate protection is just one of the goals of ESG investing. But the environment has a tendency to overshadow the other beneficiaries: corporate governance practices and social responsibility. This last facet is particularly critical for tobacco and alcohol companies, given how damaging their products can be for human health.
Socially conscious investing can go some way towards reversing this problem. In 2016, tobacco company Philip Morris International pledged to convert 40 million adult smokers to smoke-free alternatives by 2025. It has invested staggering sums in this effort: in 2020, the company’s R&D expenditures – of which almost 100% went towards smoke-free products – totalled $495 million. Smoking alternatives which heat but don’t burn nicotine eliminate many of the harmful chemicals created in the combustion process, so while they are still addictive, they are less dangerous than continued cigarette use.
Beyond their potential to clean up the products they sell to customers, companies can also effect societal change through a focus on their supply chains. British tobacco manufacturer Imperial Brands has received an A-rated ESG score from MSCI. The company helps farmers to diversify their income so that they are not dependent on tobacco crops by promoting the planting of maize, fruit trees, vegetables and groundnuts. Imperial has also helped to construct solar boreholes in Malawi, giving local communities access to clean drinking water. The company estimates that this project alone has helped 150,000 people since 2017.
Some leading alcohol companies are also striving to assess and improve their social impact. AB InBev aims for low-alcohol and alcohol-free beer products to constitute at least 20% of its global beer volume by 2025. In addition, it has invested $1 billion in social marketing campaigns and implemented city pilots in six towns globally, which reduced the harmful consumption of alcohol by at least 10% in those places in 2020.
Mercury Retail Group, the owner of Russian convenience retail chains Red & White and Bristol and one of Russia’s largest and fastest growing retailers, is also promoting alcohol and tobacco health literacy. Posters in front of the company’s retail stores warn against drunk driving as well as smoking and drinking in the presence of children.
The company is seeing efforts to promote healthier products pay off, with sales of food and non-food products increasing, along with a corresponding decrease in the share of alcohol and tobacco sales. Reduced-risk tobacco products represent around 15% of the company’s total tobacco sales, and that proportion is rapidly growing. Mercury Retail, which hopes to go public through in an IPO before the end of the year, also sees its stringent quality control as an important health advantage in the Russian market, where poisoning by counterfeit alcohol is all too common.
Engagement through ESG
It’s understandable that governments may want to reduce the harmful consumption of alcohol and tobacco. But there’s only so much they can achieve through restrictions on advertising and responsible consumption campaigns. Ultimately, the purveyors of these products (and their investors) must get onboard in order to see lasting change. And there’s no reason that they shouldn’t – trailblazing players can reap all the benefits associated with an early transition towards the new market dynamic.
“Since it’s an irreversible trend to reduce harmful use of alcohol, we believe that well-prepared companies are better positioned to benefit in the long term,” NN Investment Partners pointed out in its report on ESG and alcohol. The report goes on to say that “Alcohol producers that promote responsible drinking, show respect for the human rights of workers, reduce their carbon footprint and use scarce water resources more efficiently, will contribute to minimize the harmful use of alcohol for a better world. At the same time, we also believe that those companies will provide us with the best investment opportunities.”
ESG as an investment criterion in tobacco and alcohol companies is a thorny issue and will remain so. Yet leading players have shown that pressure and financial incentives, rightly applied, can lead to better environmental stewardship, waste-cutting initiatives, positive change for communities and customers, and even a transition away from the industry’s most harmful products. When it comes to such ubiquitous goods as cigarettes and alcohol, engagement is more effective than boycotting. This idea is echoed by the growth of the former approach among investors in recent years.
Research from Goldman Sachs has found that “While negative screening continues to be the largest sustainable investment strategy globally, it is not the fastest growing. ESG integration holds that title, delivering the largest absolute increase in assets, adding $7.2 trillion in funds at a +30% CAGR from 2016-2018 (vs +15% for negative screening).” These figures testify to a shift in thinking. As finance is increasingly mobilised in favour of sustainable global development, the exclusion of tobacco and alcohol from ESG investment could become a thing of the past.