Does superior environmental performance indicate increased shareholder value? An emerging body of evidence suggests it may.
After a generation of experience with environmental issues, regulations, and management efforts, an active debate has emerged over whether environmental activities are value-adding or value-destroying. The debate divides into two theories: the Cost Center and Value Creation. The former argues that environmental issues represent primarily increased cost and offer little positive potential for shareholders. The latter view is that the environment presents a new lens through which companies can identify and realize new sources of competitive advantage and improved financial returns.
Against this backdrop, studies from academia and analysts present a consistent but weak body of evidence to support the Value Creation view. Examination of a variety of "green" and "non-green" portfolios suggests that companies with outstanding environmental performance generally out-perform financially.
Additionally, a review of nine investment funds yields a similar conclusion. Of four funds that have operated for more than a year, three have significantly beaten their relative benchmarks over three and five year periods (five other funds performed well but their results are too short-term for meaningful analysis).
While these results suggest a directional relationship between superior environmental performance and shareholder returns, they are far from conclusive. Each of the studies and many of the investment funds suffer from one or more of the following problems: excessively short time frames of analysis or operation, backward-looking environmental indicators, imperfect financial measures, and heavy reliance on particular investment styles.
Our review of both theory and data suggests the possibility of investment opportunity with environmental analysis as a central component of security selection. In particular, applying environmental principles to portfolio management may be especially attractive for mission-related investors. In addition, if the short-term results are accurate, there may be an opportunity to realize value before "excess" returns from environmental investing have been arbitraged away. However, fiduciaries wishing to tap this potential value must go beyond backward-looking indicators to thorough, in-depth analysis of environmental strategies married to fundamental economic analysis.
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