Part four in a five-part series on the links between business practices and deforestation in palm oil industry. Parts one, two and three.
A key component of the palm oil industry that is often overlooked is the role played by financial institutions and investors. Over the past decade alone, at least $50 billion has been invested in palm oil in Malaysia and Indonesia, with approximately half going to the 27 largest companies.[1] Financial actors such as banks, institutional investors and private shareholders provide the seed capital necessary for razing and replanting the vast tracts of land needed for commercial-scale palm oil agriculture. In the case of large, publicly traded companies, such capital may run into the hundreds of millions of dollars.
In their role as creditors and shareholders, financial institutions and investors exert direct pressure on palm oil companies to maximize dividends and returns. This creates a further push factor for these companies to adopt unsustainable practices. In particular, many Southeast Asian banks, investors and stock exchanges have not implemented the environmental, social and governance (ESG) measures and negative screening procedures that are becoming standard among their international peers. Without such measures, financiers risk contributing to deforestation and climate change.
The institutions that finance big palm oil can be divided into two main categories. The first category is made up of commercial banks, which contribute an estimated 24 percent of total investment in the sector.[2] The list of banks that have provided loans and underwritten shares for palm oil companies over the past 15 years is extensive. Some of the most well-known examples from the Asia-Pacific region include Australian banks such as ANZ, Commonwealth Bank of Australia, National Australia Bank and Westpac; Indonesian banks such as Bank Central Asia, Bank Mandiri and Bank Rakyat; Japanese banks such as Mitsubishi UFJ, Mizuho and Sumitomo Mitsui; Malaysian banks such as CIMB and Maybank; and Singaporean banks such as DBS, OCBC and UOB. Other major international banks with substantial links to palm oil companies are France’s BNP Paribas and Crédit Agricole; the Netherlands’ Rabobank; Switzerland’s Crédit Suisse; the United Kingdom’s Barclays, HSBC and Standard Chartered; and the United States’ Citibank.[3]
Many of the banks that work closely with the palm oil industry lack robust policies to avoid extending capital to companies that run a high risk of causing environmental damage. In this regard, banks continue to buck the recent trend set by major companies from across the palm oil supply chain, that have announced timebound action plans to achieve zero deforestation, based on credible methodologies such as the high carbon stock (HCS) approach.
Domestic banks in Southeast Asia fare especially poorly on measures of ESG commitment, such as having made a companywide statement on ESG policy, implementing negative screening for clients with poor ESG performance, and using ESG indicators as a tool during credit processes. A May 2015 report by the WWF titled Sustainable Finance in Singapore, Indonesia and Malaysia found that among 18 domestic Southeast Asian banks with interests in forest commodities, only three had made statements on sustainable lending, and only four included ESG screening when extending credit to clients. Only one bank, Bank Negara Indonesia, had a specific policy mandating minimum ESG standards for clients in the forest commodities sector. The WWF report compared these Southeast Asian banks with a panel of four international banks also holding significant interests in the forest commodities sector and found that the international banks had implemented much more extensive ESG-related criteria than the Southeast Asian banks within their credit, risk and disclosure processes.[4]
That doesn’t mean international banks don’t have their own work cut out for them. A report released last week by US-based NGO the Rainforest Action Network, for example, described Japanese banks as “one of the largest sources of loans to companies engaged in tropical deforestation,” including in the palm oil sector. Seizing on the coming into effect of Japan’s new Corporate Governance Code, the report calls on all banks to “to develop strong forest sector safeguard policies and systems so that only genuinely responsible forest sector clients can get bank loans.”
Thanks in part to the efforts of NGOs and activist shareholders, some banks have begun to pay greater attention to the negative impacts of inadequate ESG integration. A high-profile example is Deutsche Bank’s move in May 2014 to divest from Bumitama Agri, a palm oil company guilty of repeatedly flouting government regulations. This decision followed an intensive campaign led by US-headquartered NGO Friends of the Earth and a petition signed by 87,000 German citizens.[5] Several international banks with links to palm oil, such as HSBC[6] and Rabobank,[7] have also issued statements announcing their commitment to sustainable forestry policy.
However, there remains much work to be done to close the gap between policy and actual impact. The majority of banks that commit to anti-deforestation policies rely on external certification schemes to ensure that their clients adhere to environmental standards. In the case of palm oil, by far the most-used certification scheme is the Roundtable on Sustainable Palm Oil (RSPO), which has been criticized for inadequately policing its members’ activities on the ground and failing to punish members that violate its standards. Thus, there is room for banks to take a more active role in their due diligence and negative screening processes, instead of simply relying on the possibly flawed information provided by external schemes.
Besides commercial banks, the second major category of palm oil financiers is external equity investors. These arguably play an even larger role than banks in the sector, contributing 59 percent of the capital of Indonesia’s 10 largest palm oil companies.[8] Several of the world’s largest palm oil companies, such as Wilmar, Kuala Lumpur Kepong and IOI Corporation, are publicly traded. Significant percentages in these companies are held by institutional investors such as Schroder, BlackRock, Van Eck Associates and Fidelity; sovereign wealth funds such as Singapore’s Temasek Holdings; pension funds such as Sweden’s AP-Fonden and Malaysia’s Employees Provident Fund; and individual shareholders.[9] [10] The full list of investors with interests in palm oil companies numbers at least 50 individual international institutions.[11]
The issue of ownership is significant because unlike privately held companies, which are difficult to influence except via government regulation and legislation, publicly traded companies are answerable to their shareholders and investors. Hence, institutional investors provide an important route for influencing the behavior of palm oil companies.
Firstly, institutional investors must ensure that all of their holdings comply with their companywide ESG standards. Secondly, many major institutional investors are based in Europe or the United States, making it easier for activists and clients to lobby them for better ESG integration. Thirdly, institutions such as pension funds manage money on behalf of a large group of clients and are more likely to adopt a responsible approach to investment, including shareholder activism, after considering the long-term interests of their beneficiaries. Examples of funds that have pioneered such responsible investing methods include California’s CalPERS[12] and the UK’s Universities Superannuation Scheme.[13]
If all else fails, investors also have the power to deny capital to destructive companies by divesting from them. Norway’s Government Pension Fund Global has led the way for other sovereign wealth funds by divesting from 30 palm oil companies from 2010 to 2012[14] and continues to remove from its portfolio companies dealing in environmentally damaging industries such as coal, tar, paper production and gold mining.[15]
Unfortunately, many Southeast Asian institutional investors fall short of their international counterparts in terms of incorporating responsibility and activism in their investing. Despite having an exposure to forest commodities in their portfolios of up to $10 billion in assets and 14.2 percent of total holdings, the vast majority of these domestic funds lack a structured policy for managing ESG-related risks in their portfolios. Two notable exceptions are KWAP, the Malaysian government’s retirement fund, which “actively [engages] with” and mandates ESG requirements for its investee companies, and Tabung Haji, Malaysia’s pilgrim fund, the only Southeast Asian institutional investor to explicitly address ESG issues related to forest commodities. Perhaps most significantly, none of the domestic funds that are known to have interests in forest commodities fully disclose their holdings, making it difficult to assess the extent to which their investments may be contributing to deforestation.[16]
A final reason why the issue of ownership is so significant is that publicly listed companies are also subject to the ESG reporting requirements of the exchanges where they are listed. This provides a potential additional avenue to push forest commodities companies towards greater disclosure on sustainability issues. Most of the publicly listed palm oil producers in Southeast Asia are listed on one of three exchanges: Bursa Malaysia (MYX), based in Kuala Lumpur, the Indonesia Stock Exchange (IDX), based in Jakarta, or the Singapore Exchange (SGX). Unfortunately, these exchanges also lag behind their foreign counterparts in terms of disclosure. A recent report by Corporate Knights Capital found that in the three Southeast Asian exchanges, the percentage of large companies with a market capitalization of over $2 billion that disclose their energy usage and greenhouse gas emissions remains low, ranging between 18-31 percent.[17] Only one of the three exchanges, Bursa Malaysia, requires listed companies to report their sustainability activities; however, if such activities do not exist, companies may simply present a statement declaring this to be the case.[18] This provides a loophole for destructive companies to avoid disclosing the extent of their negative impact on the environment.
On the other hand, the Southeast Asian exchanges have begun to make significant strides toward improving their ESG standards. Bursa Malaysia is now a member of the Sustainable Stock Exchanges Initiative and offers a Corporate Disclosure Guide and Business Sustainability Program for companies wishing to better integrate ESG into their operations.[19] Both Malaysia and Indonesia have established dedicated sustainability indexes, named FTSE4Good Bursa Malaysia and KEHATI, respectively.[20] The Singapore Exchange has recently announced plans to implement “comply or explain” guidelines for listed companies by 2017, which would require them to follow sustainability reporting guidelines or explain why they are not doing so.[21] These are promising signs that indicate a willingness on the part of these exchanges to adopt a forward-thinking approach toward sustainable capital.
In summary, palm oil companies in Southeast Asia rely heavily on two categories of financial institutions for capital: commercial banks and institutional investors. While an increasing number of such financial institutions across the globe are implementing more stringent ESG screening and reporting requirements for potential clients and investees, the majority of domestic banks and investors in Southeast Asia continue to lag behind their international peers in the adoption of such policies. In particular, disclosure of data related to ESG metrics and environmental impact remains inadequate, though stock exchanges such as the Singapore Exchange have announced plans to introduce more stringent reporting requirements. Finally, even banks that have made companywide commitments to sustainable forestry policy may continue to run the risk of financing deforestation, as a result of relying on external certification systems whose reliability has been called into question, such as the RSPO. In addition to using external certification systems, banks should also increase the rigor of their due diligence processes in screening clients and extending credit so as to avoid unknowingly financing forest destruction.
This article is the fourth in a series exploring the links between business practices and deforestation in the oil palm industry. The next and final installment will discuss the Roundtable on Sustainable Palm Oil (RSPO), the industry’s primary certification scheme, and how it might be improved to ensure greater credibility and impact.
References
[1] http://www.banktrack.org/show/pages/banks_and_palm_oil
[2] Ibid.
[3] Ibid.
[4] Sustainable Finance in Singapore, Indonesia and Malaysia: A Review of Financiers’ ESG Practices, Disclosure Standards and Regulations, Gland, Switzerland: World Wide Fund for Nature, 2015, pp. 25-46.
[5] “Deutsche Bank Divests from Bumitama,” Friends of the Earth Europe, May 26 2014.
[6] HSBC, “HSBC Statement on Forestry and Palm Oil,” March 2014, accessed July 18 2015, https://www.hsbc.com/~/media/hsbc-com/citizenship/sustainability/pdf/hsbc-statement-on-forestry-and-palm-oil-march-2014.pdf.
[7] Rabobank, “Rabobank’s Position on Forestry,” accessed July 18 2015, https://www.rabobank.com/en/images/Forestry.pdf.
[8] Pablo Pacheco, Oil Palm in Indonesia Linked to Trade and Investment: Implications for Forests, presentation, http://www.cifor.org/ard/documents/results/Day2_Pablo%20Pacheco.pdf.
[9] Sustainable Finance in Singapore, Indonesia and Malaysia, World Wide Fund for Nature, 2015, pp. 47-67.
[10] http://www.banktrack.org/show/pages/banks_and_palm_oil#tab_pages_companies
[11] Ibid.
[12] CalPERS, “Towards Sustainable Investment & Operations: Making Progress,” 2014. https://www.calpers.ca.gov/docs/forms-publications/esg-report-2014.pdf
[13] PRI Association, “RI Transparency Report, 2014/15: Universities Superannuation Scheme,” 2014. http://www.uss.co.uk/Documents/USSPRIPublicTransparencyReport1415.pdf
[14] Chris Lang, “Norway’s Sovereign Wealth Fund Divests from 23 Palm Oil Companies,” REDD Monitor, March 13 2013.
[15] Jeremy Hance, “Norway Sovereign Fund Drops Coal, Tar Sands, Gold-Mining Companies,” Mongabay.com, February 9 2015.
[16] Sustainable Finance in Singapore, Indonesia and Malaysia, World Wide Fund for Nature, 2015, pp. 47-67.
[17] Measuring Sustainability Disclosure: Ranking the World’s Stock Exchanges 2015, Toronto, Canada: Corporate Knights Capital, 2015, pp 27.
[18] Sustainable Stock Exchanges Inititiave, “Bursa Malaysia (Malaysian Exchange),” accessed July 18 2015, http://www.sseinitiative.org/fact-sheet/bursa/.
[19] Ibid.
[20] Sustainable Stock Exchanges Initiative, “Indonesia Stock Exchange,” accessed July 18 2015, http://www.sseinitiative.org/fact-sheet/idx/.
[21] Kenneth Lim, “SGX Plans ‘Comply or Explain’ Regime for Sustainability Reporting; Seeks Public Feedback,” Business Times, May 6 2015.