Moving from Measurement to Progress: Amana Funds Impact Results
Portfolio Manager Levi Stewart Zurbrugg discusses delivering on performance and the importance of measuring impacts while considering both the qualitative and quantitative aspects of ESG reporting.
Moving from Measurement to Progress: Amana Funds Impact Results
Craig Churman: Welcome to our webinar. I’ll give us another minute or so to get started but joining me today is Levi Stewart Zurbrugg who’s a portfolio manager and an analyst on our investment team and contributed a lot to our recently published Amana Impact Report for the Amana Funds... which really covers the three equity-based funds. We have a lot of research on how we do sustainable and impact investing but really a deeper dive into the way those strategies are used for Amana. So, Levi was a strong contributor and an organizer to that report, which, as you know, takes several weeks if not months to pull it all together and run it through compliance and marketing. So, we published it late last year. It’s been available for a little while and Levi agreed to do this presentation to maybe show a little insight into the report. And what we always hear is stories about specific companies and how we share the impact of those stories. So, we do have the Amana Impact Report available. It’s on our website. We’ve sent it out to a lot of folks. It’s designed to be used with clients. It’s been through FINRA review, compliance at our end, it has a lot of stories about individual holdings that we have, and Levi was able to pull some good impact stories out of that report. So, it does include the three funds this year. The 2019 report just covered the Amana Income Fund and the Amana Growth Fund, and the Amana Developing World Fund was added to the report this year and Levi happens to be one of the deputies on that fund, so he’s very familiar with our strategy there and very familiar with our process. His background... he came to us after getting his MBA, but he had also worked at SASB and he is a CPA, so he was very involved in the work that SASB was doing a few years ago. And when he joined us, now, a couple of years ago. He brings both the data and the accounting view of things but really now as an analyst he’s been doing a lot of work toward all of our strategies on the sustainable side. So welcome, Levi, thanks for joining us.
Levi Stewart Zurbrugg: Yeah, thanks Craig and thanks to our audience for joining us today. We really see this Amana Impact Report not only as a chance to communicate our progress to all of our clients and to provide advisors, as you explained, with relatable examples for how the funds integrate ESG information. But we also look at this as an opportunity, internally, for us to step back and look at areas where we can evolve our thinking further. And in that spirit of continual improvement and seeking to continue our progression, the second annual Impact Report here builds on the work that we outlined in 2019. As you mentioned, this year we added the Developing World Fund to the coverage, but we also included additional quantitative metrics to the more policy and programmatic-based metrics that were outlined in 2019. And then we revisited last year’s case studies to provide an update on performance, make sure we’re holding ourselves accountable. It helps us check in and make sure that our holdings are keeping up with their strong performance. And today’s webinar, we see as really providing an overview of the report. We hope it will entice everyone to dig in further.
Craig Churman: And you used the title, “You can’t manage what you don’t measure,” and I think the team, and you in particular, have done a good job of really building out the measurement of the data we have and going deeper into it and also managing it over time. So, we have a good analysis of both a year-over-year look but also how the firms and the holdings are doing in terms of their disclosure.
Levi Stewart Zurbrugg: Yes, and as you mentioned, at SASB, this was almost a mantra of ours and it really plays through now on the investment side, both for looking at how companies manage their performance and how we can manage our portfolios. And I think what this graph shows is really interesting and it’s the way that disclosure rates vary by topic that we’ll cover in today’s presentation and are covered in the report. And these are among the more well-disclosed topics. So, if we dig into slide 5, we can kind of speak a little more to that performance aspect that we’re trying to hit on.
Craig Churman: Yeah, and these are two of the things that we talk about a lot—particularly in Amana Growth and Amana Income—and those Funds rank very highly in terms of their low carbon footprint. And then, we also have a deep interest in the diversity of the board. And I think those are the two measures you’re highlighting here.
Levi Stewart Zurbrugg: Absolutely and these are two of the more well-standardized and disclosed metrics so you can really get a feel for how the funds stack up as opposed to the benchmarks and with the confidence that it’s not just a handful of companies reporting but really a plethora of companies that are providing information here. And I think this shows the process is really working with the Amana Funds being significantly below their benchmarks when it comes to carbon intensity and also doing better in terms of having more women on the board. And we’ve seen this play out in terms of the Funds’ overall rankings. For instance, the MSCI ranked the Income, Growth, and Developing World Funds in the top 6%, 17%, and 24% percentiles as of September 30th for ESG characteristics of the funds.
Craig Churman: And we’ll get into a little more detail on this later but one of the conversations that we had with a senior investment officer for sustainable RIA firm years ago was always talking about intentionality. And I think you hit on the intentionality of us looking at the average number of women on the board as a true benchmark and the carbon intensity of the firms we hold. So, I think part of it is, you know, does this happen because we’re intentional about our investment process? Absolutely. As active managers and with our long holding periods and our buy and hold strategy, I think that resonates through both the performance of the funds but actually the ratings that we have in terms of the sustainable measurements. So, you know, this is a great slide. I’ll reference—from time to time—pages in our Amana Impact Report, the Amana report, but some of these slides are lifted directly from that report.
Levi Stewart Zurbrugg: That’s a great point, Craig, and these are just topics that are discussed at the sector level, they’re discussed at our investment committee meetings, and it really is a result of a process that’s ongoing. And one of the areas that is really among the most standardized here is greenhouse gas emissions and renewable electricity. And we’re starting to see some really interesting data points come out of that. And it allows us to better compare peers on what ultimately matters, which is performance. As with financial metrics, with these sorts of ESG metrics, it’s important to understand not only the performance but what’s driving it and what are the implications of it. And as this graph shows, the Amana Funds have really great use of renewable energies, beating the S&P 500 and the MSCI Emerging Markets index. But it’s worth mentioning here that, for purpose of this analysis, we’ve excluded industries such as energy and utilities which are carbon intensive from the S&P 500 figures, as neither the Growth nor Income Funds have positions in those industries.
Craig Churman: Yeah, and part of that has to do with our debt screens, right? We still get into strong balance sheets being an important part of it, so there are industries—whether it’s financial services or utilities—that would never get into an Amana portfolio.
Levi Stewart Zurbrugg: Exactly, yes. And I think that these strings all seem to weave together in terms of building sustainable business models. One figure I’d call out, that jumped out to us when we first aggregated all of this information, is the carbon intensity of the Income Fund. And when we dive into this, at first, we were concerned that the Income Fund had higher greenhouse gas emissions than the S&P 500. What we found was that one company alone, Air Products & Chemicals, raised the portfolio’s average emission intensity by 96 metric tons per million dollars in sales. And so that raised the question for us, when we brought it to the investment committee: why are we continuing to hold this company? And what we found, from the analyst who covers this company, that actually Air Products & Chemicals, for every metric ton of greenhouse gas emission they produce, they help save customers roughly 2.5 metric tons of greenhouse gas emissions. And so, these are the sort of insights that we’re gaining, and we’d like to remind ourselves of when we’re developing this report. I think it highlights just how one company can enable others in terms of their greenhouse gas efficiency.
Craig Churman: And that’s a function of a lot of things, which is the long holding period gives us time to really follow the companies and understand both their impact and their contribution in this factor. And we’ll talk a little later in the presentation specifically about Air Products and some of the other things that they’re doing that we feel gives them a very high ESG score for our holdings. But that’s a good point.
Levi Stewart Zurbrugg: So, looking at these quantitative metrics is a great initial screen but it’s really important, again, to understand what’s driving that performance and so, in some ways, the carbon intensity is on Air Products balance sheet, but the net impact is the company is helping reduce greenhouse gas emissions in the end, and that’s really what matters most.
Craig Churman: Very good.
Levi Stewart Zurbrugg: So, we look on slide 7 we can discuss this qualitative and quantitative approach a little bit more. And it’s a really important consideration that we make... is balancing company performance with the stated policies. Water management is a good example of this, and we’ve found that the Growth and Income Funds have lower representations of companies with strong inadequate water policies than the S&P 500. This is according to rankings by Sustainalytics. And policies and targets and strategies, they certainly provide very useful information to what a company intends to do. What we’re really concerned with, and what really matters, is how a company performs. And as we see here, the Income and Growth Funds, they lost ground against the S&P 500 in 2020 and part of that is because we run high conviction portfolios and so the change in a couple of companies can have more significant impacts than it would in a portfolio of a little over 500 companies. So, while this change has caught our attention, we’re really focused on making sure the trend doesn’t continue, which is part of why we’ve added this change in year-over-year performance, so that we can really track trends, make sure that it doesn’t become an issue in terms of having strong water quality management. What we also see is that in the graph, on water intensity, while the Funds may have ranked slightly lower in terms of programs and policies, the Funds have significantly lower water use rates—even when controlling for industry exposures—that their respective benchmarks. I think this shows the importance of not only comparing what a company is saying but looking at what they’re doing. And we’ll continue to pay attention to the corporate policies. It’s an insight into the path that they see forward, and we’ll continue to judge performance against them, but we see this—similar to financial performance—we’re really interested in the results more than the guidance.
Craig Churman: And there’s a full write-up on page 9 of the Impact Report that covers this exact topic and goes a little deeper there. So, thank you for that, Levi.
Levi Stewart Zurbrugg: Yeah, hopefully we’ll leave crumbs throughout here that encourage folks to read through the report because there are some valuable backstories, as always. So, let’s move on to slide 8 and continue our discussion going from the environmental pillar to the social and looking at diversity and inclusion, which in 2020 we once again... I think it was demonstrated, the importance for business to establish strong policies and performance on diversity and inclusion. Improving this, diversity and inclusion, and making it a pillar of a company’s ideology, is not just the moral thing to do but it’s also shown through numerous studies to have positive impacts on the business and its performance.
Craig Churman: Yeah, and Johnson & Johnson is a good case study, and that’s on page 12 of the Impact Report, and that’s also one that advisors have asked us about. Because Johnson & Johnson has headline risk, has controversy risk, and some of the rating agencies would, you know, give them a really strong score against it, in terms of it, but I think we’ve done some good research in terms of why Johnson & Johnson is a really strong company and gets the high ranking that it deserves in our analysis.
Levi Stewart Zurbrugg: Yeah, and as you pointed out, it’s a company that’s not without its controversy and as Patrick Drum—another Portfolio Manager—points out here, what’s really interesting is pulling out these companies that, you know, may not come first in mind in terms of the ESG halo, but those that are working to continually improve their operations and their performance. And we feel that among other ESG aspects, Johnson & Johnson’s renewed commitment to fostering a culture of diversity and inclusion with help it to avoid repeating similar mistakes going forward.
Craig Churman: Yeah, and the write-up in the Impact Report is excellent and is something that can be shared with clients, particularly if they have concerns about the controversy. You know, there’s a strong story there about why we hold them. And you also note here that the Developing World Fund... the emerging markets in general, tend to have low scores in this, and this will be something that we will be tracking year-over-year as we move forward into the 2021 report.
Levi Stewart Zurbrugg: Absolutely, yes. The report serves not only to track how funds are performing but I think it provides some interesting glimpses into the differences between developing world companies and those that are in the developed world funds. And we’ve seen continual improvement in the Developing World Fund and its holding in terms of reporting and I think that this is an area that is certainly going to see continued interest going forward and for good reason. The business case has been made. McKinsey actually put out a study this year that found leaders don’t only think that the business case for diversity it strong but that from 2014 to 2019, the relationship has actually strengthened and financial outperformance along with it has. So, something that’s only becoming more and more important and something that Johnson & Johnson is starting to be recognized for. For instance, it was ranked #1 on Diversity Inc.’s 2018 top 50 list for its diversity programs. So, it’s something that’s really fundamental to a business—its operations and its ability to connect with consumers and employees and we see this as an area that’s only going to become more important going forward.
Craig Churman: Very good. Is this the point where I’m supposed to thank you as the deputy on the Developing World for an outstanding fourth quarter? I think you, Monem, and Scott deserve that. The performance of the Fund was really strong in the fourth quarter and I think we’re putting a lot of emphasis on being one of the smaller funds in the Amana group, real opportunities we see in the Developing World.
Levi Stewart Zurbrugg: I wish I could take credit for it, but I think it speaks to the process and ESG in the developing world is as important or if not more important than the developed world. Governance isn’t as standardized, and these metrics can really provide us a lens into what management is doing to make sure that they’re running the business in a sustainable way. So, I think that ESG mandate is really important for the Fund. Another aspect of the report that we added this year was a review of last year’s case studies and we feel here that, again, similar to financial results, the trends in ESG performance are really important to understanding and getting a clearer picture, more so than a one-off review. And the company that we reviewed last year, in 2019, was Air Products & Chemicals, as we discussed them with regard to greenhouse gas emissions. When it comes to their commitment to health and safety, it’s one of the strongest in the industry, if not the strongest. They’ve set a goal that by 2020, they’ll lead the industrial gas industry—which is quite a dangerous industry—in safety. And as of 2019, the last year for comparable industry figures that we have, Air Products & Chemicals has really stood out, so we saw a little bit of bounce from their trend with the employee recordable rate of .45 incidents, up from 2018, but this is still down 63% from 2014 and their lost time incidents rate at .09 incidents is significantly below the industrial gas industry average of 1.1 in 2019. So, again, this highlights the importance of not just looking at one year’s performance but the trend and it’s something that we’ll continue to pay attention to, looking for the company to revert to their trend that was established from 2014 to 2018.
Craig Churman: And there’s a little more detail—there’s a lot more detail—on page 13 of the Impact Report, so thank you for that. And like we said, Air Products... if you just look at the carbon footprint, you might get a different perspective on how this fits in, but I think that the work that we’re doing to look deeper and do some real qualitative analysis in addition to the quantitative analysis really helps us understand how this firm really does have an impact and really has a good impact story. So, thank you for that, Levi.
Levi Stewart Zurbrugg: Yeah, and something that we discuss in the report and I kind of pound the table on it that can get lost in these in sort of things is that we’re not looking at performance on one topic, or one pillar, but really a mosaic of how did a company perform across ESG topics? Is its balance sheet strong to meet our Shariah guidelines and requirements and do we see it having a sustainable business case? And so, it’s a mosaic of putting all of these things together to create that picture of a company. It’s no one data point but the data points do help give, and I think the case studies help give, a little bit of a story behind each company’s efforts.
Craig Churman: Okay, and now we’re going to move on to the next slide, which I think is a topic within our company that... this has been a pillar of our analysis from the beginning. I think that Nick Kaiser really built the firm with a strong governance lens into our investment process and he’s always been a champion of a strong, independent board, and a diverse board. I think this slide has some real strong highlights there.
Levi Stewart Zurbrugg: Yeah, and it’s great to have that as a guiding principle and a foundation... that we have this historic precedence for... and you’re seeing it catch on throughout the world and certainly with large companies. In 2020, Craig actually helped point this out to me, that it was the first time that every S&P 500 company had a female director and of the 413 new independent directors elected, 59% were either female or minority men. And while that stands out as a headline and it’s a good start, we clearly think that it’s not enough. Having one or two members from underrepresented groups fails to achieve what we’re really going for, and that’s diversity in thought. And studies have shown this: that there’s a tipping point when, for instance, there are three or more women on the board, which is sometimes referred to as the power of three. That their voices become amplified and more well-taken by the board and at 30%, research has found actual financial outperformance, so... you know, it’s good that we see this move, but we’re far short, and we really see there being no reason why boards shouldn’t go further and achieve true equality. It’s simply the right thing to do and by better representing stakeholders, the board will be more well-equipped to manage their respective companies.
Craig Churman: Yeah, and when Levi and I were talking about this... I mean the bar is set pretty low when you’re just talking about one new member and what we talked about was Ruth Bader Ginsberg saying—when they were talking about the Supreme Court having more women and a more diverse membership—she said well why don’t we have all women for the next 200 years and then we’ll talk about balance. You know, so, to just set the bar and say the S&P has one in all 500 companies... well really, it’s the three that makes a difference, and we have all the views that really change a company and help a company.
Levi Stewart Zurbrugg: Yeah, and I can see this moving in a similar direction in terms of board independence. Board independence is a little bit further along, I’ll say. As you can see in the graph here, each of the holdings have substantial number of independent leaders. We think this helps align interests and I think that also we’ll start to see a continued move in that direction in terms of underrepresented groups having more equal representation on boards. And I think another one that’s interesting here, as Craig called out earlier, is kind of the disparity or differences between Developing World and the Growth and Income Funds which are based on the S&P 500. And we see, really, a lot lower rates of independent directors and female leadership on boards in these countries. And part of the hypothesis here is that in developing worlds, the companies there tend to be more family-run, more founder-held, and sometimes they are state-owned businesses which makes them less susceptible to investor pressure for greater board independence. But it’s an area that has caught investors’ eyes this year, in terms of emerging markets. I think it will always continue and the case is pretty clear that independent and diverse boards are really critical for company performance.
Craig Churman: Okay. And then, moving on, we get to one of my favorite slides or favorite topics, because on page 17 of the Impact Report, you did a really nice job of showing a company in Turkey. And you wouldn’t really consider Turkey a leader in terms of ethical business, but I think we’ve done a good job of sharing why this story makes sense and why this joint venture makes sense as a case study to share with clients.
Levi Stewart Zurbrugg: Yeah, and here’s a case where there may not be as strong of governmental regulations and guidelines in terms of what good business and ethical business looks like, but again, the case is clear that it’s very important for companies to operate ethically. A recent IMF report actually found that more than a trillion dollars is lost in tax revenue alone yearly to corruption and I think that as this continues to be seen around the world that citizens are going to be much more concerned and governments are going to be much more concerned, making sure that corrupt actors are put to test and that companies are under pressure for improving their ethical performance. And so, in the case study we look at Ford Otosan, which is a joint venture between Ford Motor Company and Turkey’s largest industrial conglomerate, Koç Holding. It’s one of Turkey’s largest exporters, which again speaks to the importance of having really strong ethical business practices because it ships goods to 96 different countries across 5 continents. So, there’s a host of different legal and cultural considerations to be made in their business operations and so it’s very important that the company has clearly defined guidance on how to operate and in fact, it has a zero-tolerance policy on corrupt actions, and it outlines that the best way for the leadership to know if something corrupt is happening is for whistleblowers to bring it up to management. So, they’ve made it very clear where whistleblower complaints can be directed and that there will be no repercussions for filing that complaint. And actually, in 2019, the company did receive 65 whistleblower tips and that those did result in 24 disciplinary actions. So, while Turkey, you know, may not always be considered as a frontrunner for best governance practices, when we see a company such as Ford Otosan have very strong policies, we begin to feel more comfortable with investing in these sorts of areas and I think that it’s a great case for why and how a company can implement bribery and corruption policies.
Craig Churman: I’ll point it, if you look at the bottom of the slide, in “has adequate whistleblower policy,” The Developing World Fund is at 93% compared to 37% for the MSCI Emerging Markets Index. That’s really telling, in terms of our process, and consistently applied across our holdings.
Levi Stewart Zurbrugg: Yeah, exactly. It’s right in line with the Growth and just short of the Income Fund, because it really is one of the most important aspects. I mean these are all very important aspects, but it’s something that immediately can raise concerns and being far away from these countries, it’s critically important for us to know and feel that they’re well governed.
Craig Churman: Thank you. Okay. And you know, we’re bringing this to a close, so we can move onto the next slide. So, we’re sharing our top ten holdings. And we can provide information on these if you need stories for your clients or you get a question about a specific holding. It’s not unusual to get a call and have somebody question whether it’s a Shariah compliant holding or whether or not it really meets ESG criteria, and we can provide the backup for that. But the purpose of the Impact Report was to create something that you could share with clients. It has been reviewed by our compliance department. Our marketing department, once again, does a wonderful job with the packaging of it, so it’s very client friendly. And the stories are very useful in terms of showing both, you know, the qualitative and the quantitative process that we put behind it. So, thank you very much. And we really appreciate your input, Levi. It’s always good to have a portfolio manager and an analyst share the information of what we’re doing. We’re doing some work on the next couple of webinars. We’re going to do a deeper dive on Amana Income in short order, in the next couple of months. We really like the dividend story and the value story there and Amana Income has been a strong performer for us since the get-go. That was our first fund. We’re doing a lot of work on emerging markets and we should be sharing more about the Developing World. But we’re also working on an emerging market fixed income program that we’re going to share in February, mid-February. So, we’ll let our portfolio managers in that group. So, we thank everybody. If you don’t have any specific questions or you don’t want to add anything in the chat, we appreciate your time. Gus will be sending out copies of the slide deck to everyone who attended so you should expect those shortly, probably within a day or so, and Levi, we appreciate your time. Do you have any closing remarks? Thank you for doing this. I know you worked hard on the Impact Report and I know you were anxious to get that out the door, so thank you very much.
Levi Stewart Zurbrugg: Thanks, Craig. I appreciate the opportunity. It was a fun report to work on. It’s a chance for us to be a little introspective in our process and yeah, I just encourage folks to pick up a copy and read it. I think what we covered here is just the tidbits but what’s in the report is really interesting. So, I encourage folks to grab a copy and give it a read.
Craig Churman: Thank you very much and appreciate everybody’s attendance. If you have any questions, feel free to call Gus or myself and we’ll be glad to help you. And if you want to have a call with Scott or Monem on any specifics, they’re available, too. Thank you very much.
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