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New Metrics
Crossing Thresholds:
From Fossil Fuel Divestment to Sustainable Investment

Three cheers to Bill McKibben and for raising much-needed awareness through their campaign urging university endowments and pension funds to divest from fossil fuel-producing companies. Most significantly, this campaign establishes the notion of thresholds in the popular consciousness, which carries implications far beyond divestment.

Indeed, taken to its logical conclusions, divestment ripples outward to more profound transformative implications for how business and investment function — namely, within a “safe and just operating space for humanity” that respects not only planetary boundaries but also social equity.

We see at least three waves radiating from thresholds-based divestment:

  • Applying carbon-based thresholds beyond divestment, to both positive investment screens and risk-management models;
  • Applying thresholds-based screens beyond carbon, across all potentially material sustainability impacts;
  • Applying broad thresholds beyond investment, at the corporate level to assess sustainability impacts and performance.

Carbon Screens

To understand these larger implications, let’s start with how thresholds underpin the divestment campaign. The number 350 itself is a threshold — of atmospheric concentrations of carbon dioxide (in parts per million) to keep us under 2 degrees of warming (which is itself a threshold). The number 565 expresses the same threshold in our collective “carbon budget” of allowable emissions through mid-century, in gigatons of CO2. These calculations in the new math of global warming quantify the numbers the scientific community says humanity must respect to have a reasonable chance of retaining “a planet similar to that on which civilization developed.”

Unfortunately, most corporates and investors don’t measure their environmental and social impacts relative to sustainability thresholds. Instead, they measure their impacts in absolute terms, and/or relative to unrelated factors such as revenues — and so they have no idea if they are operating sustainably in this safe and just space. Evidence suggests many (or likely most) are not. For example, private and public companies, and governments, collectively have proven fossil fuel reserves with 2,795 gigatons of embedded CO2, if burnt with current technology, according to the Carbon Tracker Initiative (of which co-author Cary Krosinsky is a Founder and Director).

That’s five times the burnable carbon budget, an insane prospect that we currently seem locked into. Indeed, economic logic calls for burning all of it, while scientific logic (and common sense) calls for constraint. However, few investment portfolios, even in the sustainable and responsible investing (SRI) space, screen out companies that operate in unsafe space — in other words, companies emitting more than their fair share of our carbon budget. And fossil fuel companies, too, may warrant special consideration as suppliers of all this latent carbon.

One prominent investor shining a bright light on the problem is Jeremy Grantham, whose prescient quarterly letters have increasingly focused on the hits investments take from mounting resource constraints (his latest letter, “On the Road to Zero Growth,” includes a box on “Carbon Math Made Simple”). Despite Grantham’s compelling, evidence-based case, fiduciaries often fret that constraining their investable universe by screening out companies will automatically hamper financial performance. A recent study by the Aperio Group debunks this myth, revealing an infinitesimal risk (0.0044 percent penalty) for screening out five fossil fuel-producing industries.

The Carbon Tracker Initiative blogged on various options available to investors beyond divestment, such as requesting sell-side research on valuation implications for fossil-fuel companies in light of the carbon budget. More directly, Natural Investments offers a Fossil Fuel Free Portfolio with 10 fixed income and equity funds across six asset categories, and donates a portion of the advisory management fee to to support its climate change work, according to the firm’s Michael Kramer. Green America has compiled a list of mutual funds, financial planners and asset managers that offer fossil fuel-free options.

To us, analyzing companies operating beyond their fair share slice of the 565-gigaton CO2 budget is a no-brainer. And in addition to supporting the divestment campaign (with its roots in the South Africa anti-apartheid divestment campaign of the 1970s and ‘80s), we believe carbon screening is a complementary strategy that achieves the same ends through means that many fiduciaries will likely find more defensible, based in empirical methodologies.

Other Sustainability Thresholds

But carbon is only one of a range of business impacts on society, the environment and the economy. So the same thresholds-based approach to carbon applies across the Triple Bottom Line in all of its dimensions. Indeed, sustainability is predicated on a dividing line between what’s sustainable and what isn’t — a threshold, in other words. So arguably, sustainable investing should include mechanisms for assessing which side of the line companies fall on, and not just for carbon. And screens could weigh whether companies on the “unsustainable” side of the line are making sufficient demonstrable efforts toward sustainability to qualify for inclusion in portfolios.

Johan Rockström of the Stockholm Resilience Center and his colleagues in the scientific community have done pioneering work on identifying nine planetary boundaries (such as climate change, biodiversity loss, and global freshwater use) that demark the ecological thresholds of a “safe operating space.” And Kate Raworth of Oxfam UK has extended this notion to also apply to social impacts, visualized as a “doughnut” with the “ceiling” ecological boundaries represented by the outside perimeter of the doughnut, and “foundational” social thresholds (such as health, education, and income) — a “safe and just operating space” — represented by the inside perimeter.

In November 2012, ecological thresholds made their debut in the capital markets, albeit incompletely so. The Environmental Risk in Sovereign Credit Analysis (E-RISC) tool, a collaborative project between the United Nations Environment Programme Finance Initiative (UNEP FI) and the Global Footprint Network (GFN), applied the Ecological Footprint methodology (a thresholds-based approach) to country-level bond risk assessments. And Bloomberg terminals now contain E-RISC data, enabling investors to integrate this research into their decision-making, at least to this slice of the fixed-income asset class.

However, investors have yet to apply broad environmental and social thresholds across asset classes (particularly equities and corporate bonds).

Thresholds in the Management Domain

Ironically, while investor pressure (starting with the anti-apartheid shareholder resolution filed at GM in 1971) spurred companies to embrace social responsibility, companies themselves have led the charge in embracing thresholds-based sustainability. Ben & Jerry’s, BT, Autodesk, EMC, Mars, Ford and Cabot Creamery Cooperative have all integrated thresholds into their carbon-management strategies, aligning their emissions reduction targets with science-based climate stabilization models. And Cabot (with whom co-authors Mark McElroy and Bill Baue work) also applies thresholds to water, solid waste and a mix of social impacts.

We also see the Zeronaut movement, spearheaded by John Elkington of Volans, as taking a thresholds-based approach — though research from Deloitte Netherlands finds less than 10 percent of companies setting broad-ranging “zero impact” targets (on areas such as emissions, waste, and human rights violations) are actually delivering yet.

And there is significant latent potential embedded in other methodologies. The Environmental Profit & Loss (EP&L) system pioneered by PUMA takes important steps toward internalizing externalities. Ironically, this financial reporting approach is threshold-free, as if there are no limits to the resources being valued. Ideally, EP&L would take the intermediary step of measuring ecological impacts against thresholds, before assigning a price.

“While not easy, this makes perfect sense,” Elkington, who’s writing a book on EP&L with PUMA Chairman Jochen Zeitz, told us. “The way I see it, developing the contextual info is way beyond most companies.” Rockström, too, whose Stockholm Resilience Centre has partnered with the World Business Council for Sustainable Development, echoes this sentiment. “There's still a lot of research to do before the main planetary boundaries can be operationalised at company level.”

Well, not exactly. While we agree with the need for continued development of methodologies for allocating responsibility for respecting thresholds to individual companies, we respectfully disagree that the task is “beyond most companies.” Applying thresholds at the company level may be complex, but it’s not rocket science. Many companies are now doing it, and have been doing it since the mid-2000s.

If companies can tackle the complexities of EP&L and full product life cycle analyses, not to mention generally accepted accounting principles (talk about complex!), we’re confident they can handle calculating their accountability for managing the sustainability of their impacts on resources of vital importance to the well-being of their stakeholders. Indeed, we would argue that they have an obligation to do so, commensurate with their fiduciary duty to shareholders to manage the sustainability of their performance, be it financial or non-financial.

Thresholds of Transformation

Thresholds carry the connotation of limits — the maximum amount of carbon we can emit and still retain climate stability, or the minimum amount of income needed for a livable wage. The term 'thresholds' also carries another connotation: doorways of transition, such as the advent of new understanding or the dawning of a paradigm shift.

Adopting a thresholds-based approach represents a major transformation for the sustainable investing and corporate sustainability fields. While such a shift may seem disruptive and uncomfortable, we see it as inevitable. Indeed, we don’t see how professionals in either field can possibly assess or manage the true sustainability performance of organizations, without taking contextually relevant social and environmental thresholds explicitly into account.

So we welcome this evolution, which brings the business and investment communities into closer alignment with real world limits and demands, finally decoupling finance from fantasy. Herein lies opportunity, as companies and investors that work within a safe and just operating space nurture a sustainable and thriving world, which is really our only option going forward.


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