Is your portfolio fighting or fueling deforestation?

Morningstar's Jackie Cook (director of sustainability stewardship research) and Tom Lauricella (editor for Morningstar Direct) show us how investors are taking action.
By Morningstar |  16-04-21 | 

One of the most pressing environmental calamities is deforestation.

In 2020, the World Wildlife Fund reported that the world lost 53% of forest wildlife between 1970 and 2018.  Last year, while attention was focused on the coronavirus pandemic, the world lost 12% more primary forest than it had the year before, according to the World Resources Institute. And the IPCC’s 2018 Special Report on Climate Change and Land points out that agriculture, forestry, and other types of land use account for 23% of human greenhouse gas emissions--a primary catalyst for climate change.

Much of global deforestation is commodity-driven, especially in South and Central America, Africa, and Southeast Asia. The loss of tropical forests has accelerated as global demand for soy, palm oil, and beef has grown. Demand for paper products, such as toilet paper, is driving boreal forest destruction further North.

Global initiatives to restore ecosystems and protect biodiversity move allocations of capital--investment dollars--into the spotlight.

As Earth Day approaches, we look at what one investor is doing to combat deforestation in global commodity supply chains.

Connecting the Dots on Deforestation

While many people know that deforestation is a serious issue for the environment, many don’t understand the corporate connections behind it.

Companies sporting brands linked to agricultural commodities aren’t the ones operating the bulldozers or burning the forests. But they’re a critical link and it helps to know how the supply chain is structured.

Take palm oil: Plantations run by palm oil suppliers in Southeast Asia and Africa have decimated tropical forests and destroyed animal habitats. Palm-growing operations have also driven Indigenous people off their land and used forced and child labour. At source, the raw material has many attributes linked to its impact on people and ecosystems. But once it enters the global supply chain, it’s a commodity and virtually untraceable, presenting a huge challenge for companies at the top of the supply chain and for their investors.

This can be the case for companies based both inside and outside the regions in question. For example, U.S.-based agriculture company Archer-Daniels Midland (ADM) is an S&P 500 index fund holding. According to Sustainalytics, multiple observers “have highlighted deforestation in ADM’s palm oil supply chain, and a number of ADM’s suppliers (either direct or indirect) have been named in reports related to deforestation, habitat destruction, and peatland clearing and fires in Indonesia, Malaysia, and Papua New Guinea.” In addition, “ADM has been accused ... of purchasing soybeans of unregistered farms located in the Amazon, and ... being exposed to fires in its Brazilian supply chains. The company’s deforestation policy is considered weak and lacking in commitments.”

Other major agricultural companies, and meat and livestock companies, are also exposed to these risks. Then there are also the potential corporate consumers of the goods produced on deforested lands. They include some of the biggest fast food and restaurant chains, such as Domino's Pizza and Yum! Brands (KFC, Pizza Hut, Taco Bell).

Green Century notes that Procter & Gamble (P&G) sources commodities from a global chain of enterprises that links it to the tropical forests of Southeast Asia via personal-care products and to the Boreal forest of Canada via toilet paper.

How companies are being held accountable

  • One important lever for changing corporate behaviour is the corporate proxy ballot, where shareholders propose resolutions aimed at improving disclosures and changing company behaviors. Investors have tended to view deforestation as a stand-alone issue with no clear link to investment risk. In a first for supply chain deforestation, 68% of P&’s shareholders in October 2020 supported a resolution asking the company to report on its efforts to eliminate deforestation from its supply chain.
  • Investors like Green Century push companies to commit to sourcing from suppliers that obtain third-party certifications.

We need more like Green Century

Green Century was founded 30 years ago by a group of environmental and public health nonprofits and continues to be owned by these public interest research groups. It is a unique model in asset management: All profits go to supporting the environmental and public health work of its nonprofit owners. This ownership structure gives Green Century a mandate to file shareholder resolutions, engage with companies, and advocate on policies.

Green Century also works to ensure that companies follow through on any commitments. In the case of deforestation, it does so by teaming with Rainforest Action Network, Friends of the Earth, and Chain Reaction.

In 2014, Green Century secured Kellogg’s commitment to source 100% deforestation-free palm oil. The agreement was achieved by engaging with both Kellogg and with its Indonesian partner and primary palm oil supplier, Wilmar International, the largest palm oil processor in the world. So, when Wilmar committed to zero deforestation in growing and sourcing palm oil, it moved the industry.

Green Century filed at least six of the 17 deforestation resolutions voted since 2015 and filed several others that it withdrew before the vote. The asset manager uses resolution filing to open up and maintain a dialogue with companies in portfolios it manages--a strategy it credits with much of the progress it achieves. For instance, it filed resolutions at Tyson Foods and AMD in 2020 and subsequently withdrew them when the companies agreed to provide shareholders with quantitative data on global supply chain deforestation impacts.

Ahead of the 2021 proxy season, Green Century filed at least three more shareholder resolutions on deforestation. At AMD and Bunge, they raise the bar for commodity traders: asking them not only to strengthen supply chain policies, but also to work with others to support industry sourcing agreements to tackle deforestation and native vegetation clearance.

Further upstream, a first of its kind resolution asked JPMorgan Chase to explain to shareholders “...how it could improve efforts to reduce negative impacts and enhance positive impacts on natural ecosystems and biodiversity across its banking and investment portfolios."

On April 8, Green Century announced that it was withdrawing this proposal after JPMorgan Chase agreed to “...[require] its grower/refiner clients in the palm oil sector to comply with “No Deforestation, No Peat, No Exploitation” sourcing practices; develop or expand its policies on forest-risk commodities, including for cattle, paper/pulp, and cocoa; and increase forest management requirements for its clients in the mining and infrastructure sectors.”

Globally, investors are mobilizing for nature.

In the lead-up to the UN-brokered adoption of a global biodiversity framework, the Finance for Biodiversity Pledge was launched. Engagement on deforestation and other drivers of biodiversity loss is one of the commitments investment institutions make under this pledge. To pursue this, a subset of members formed a coalition aimed at leveraging their joint influence to engage companies on supply chain deforestation and enhancing supply chain transparency. And in January, a global investor collective formed the Natural Capital Investors’ Alliance, with plans to pioneer tools and best practice to scale natural capital investing impacts.

There is a shift in how investors view nature-related risk. The risks to investors posed by deforestation transcend portfolios. Ecosystem restoration is a goal that will only be realized if investors work together and investors and governments pull in the same direction.

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