Robots don’t like ESG

It would have been wonderful to know his views on the challenges facing the corporate world today and how business and science are treated in society. What would he have thought of ESG – environmental, social and governance – reporting?

"The future is still uncertain - not in the bald fact of climate change occurring but in how it will play out.”

I suspect he would have understood the issues very well and had some clear insights (and criticisms).

Sir Arvi’s long-time adviser Duncan Bell would often retell an anecdote about airline meals. Bell, for a while Ansett’s most frequent flyer, would always decline the meal but if Sir Arvi was seated next to him Sir Arvi would say “give me his too”.

A refugee from Estonia who worked his way up from manual labourer to chairman of BHP, Sir Arvi would reflect “in my life I have learned a few things and one is to never refuse a meal - you never know when the next one might not appear”.

Said with Sir Arvi’s congenial self-deprecation, the quip nevertheless was a small insight into a man who always thought very broadly, there was always more to business than the next production quarterly.

Spreadsheet horizons

That breadth was evident in an editorial he wrote for my former publication, The Australian Financial Review, when the company he had been instrumental in building, WMC, was taken over by BHP in 2005.

In what Sir Arvi described as an “obituary” for the old Western Mining Corporation, he pointed out modern accounting, modelling and corporate regulation would have thwarted projects which have turned into some of Australia’s richest, such as Olympic Dam in South Australia.

“It was largely due to Lindesay Clark, who exerted a very strong influence on the company for the best part of 40 years, that funds were allocated for bauxite exploration in the Darling Range in the 1950s and for nickel exploration at Kambalda in the 1960s,” he wrote.

“These modest sums were a severe strain on the company's finances at that time. Had discounted cash flow (DCF) calculations then been popular, neither of these projects would have proceeded: the bauxite had been pronounced uneconomic by previous investigators and there had been no nickel found in the goldfields after 70 years of intense exploration for gold.”

Sir Arvi pointed out the value of projects like these and Olympic Dam are not visible within the spreadsheet horizons.

“In due course the actual value will be seen to have been considerably greater because the massive orebodies will continue to yield income long after today's DCF calculations cease attributing value to it,” he wrote.

Taking note

The last time I spoke with Sir Arvi was around the time of the WMC takeover, but his perspective on the long term didn’t just apply to assets. Risks too can be long term, extremely difficult to model - and regulate.

Climate change was barely on the horizon in 2005 but it is one of the crucial long-term issues facing society - and business - today. Sir Arvi was a huge believer in science and he would have paid attention to experts.

But the future is still uncertain - not in the bald fact of climate change occurring but in how it will play out. Increasingly, companies - and indeed governments - are acting. Regulators are taking note.

In Australia, the Australian Prudential Regulation Authority, the Australian Securities and Investments Commission, the ASX, the Accounting Standards Review Board and the Reserve Bank of Australia have increased their expectations for companies to manage climate risks in cahoots with the Financial Stability Taskforce on Climate-related Financial Disclosures (TCFD).

While energy policy in Australia is still up in the air, other nations are moving not only to develop policy and regulation but institute ESG principles and particularly climate measures in the actual operation of government and the public service.

For example, Canada’s latest budget reports that “the Government supports the TCFD’s voluntary international disclosure standards and a phased approach to adopting them by major Canadian companies, as appropriate.”

“By supporting these standards, the Government aims to raise firms’ awareness of the importance of tracking, managing and disclosing material climate-related risks and opportunities in a consistent and comparable way.”

And critically: “The Government will also encourage adoption by federal Crown corporations where appropriate and relevant to their business activities.”

Strategic necessity

Whether ideological partisans like it or not, and even though risks and opportunities related to ESG issues are difficult to measure, globally well run companies - and countries - are moving to certain sustainability conventions.

New research from the Harvard Business Review concludes “within most industries, sustainability practices have converged over time”.

Given the possibility such sustainability measures are becoming common, the HBR argues they are “less likely to serve as a strategic differentiator and more likely to be a strategic necessity”.

“Moreover, we explore the determinants of inter-industry variation and find that one of the most important factors associated with a higher level of convergence is the adoption of sustainability practices by the industry market leader early in the sample period,” the HBR said.

Human wisdom

History has proven Sir Arvi was right in that some assets, notably large resources projects, cannot be properly valued with standard metrics. Their value extends over the horizon, over many generations.

So it is with ESG principles. They are being broadly adopted in the investment community - and hence by businesses seeking investor capital - not because they are precise and universally agreed upon but because they recognise real issues which are difficult to measure.

Ironically, these nebulous areas like ESG measurement require real human judgement which some investors believe may resist replacement by artificial intelligence.

At a recent IMAS-Bloomberg forum, Hiro Mizuno, managing director of Japan’s Government Pension Investment Fund, the world’s largest, noted “before we started working on AI, there was a lot of scepticism within my team about ESG investing”.

“Now, all the young (people) want to be involved because they think that is one of the areas where they think human wisdom will prevail.” Anything a spreadsheet can do AI can do better…

Hopefully we will get better and better at measuring the environmental, social and governance issues which are vital for companies and the societies in which they operate to be sustainable.

Yet just because these principles point to factors which are long term, can be intangible, don’t fit on a spread sheet, doesn’t mean they are not real and significant.

Andrew Cornell is Managing Editor of bluenotes