By Greg Smith, Head of Retail at Devon Funds

Looking last year, the "E" category remained a core focus, in particular:

• Emissions targets and credibility;
• Climate as a key focus for private capital; and
• Support for decarbonisation.

As the 2030 gatepost approaches and with Australia's 43% reduction and net zero targets formalised, emissions dominated 2022. Throughout the year, companies such as Comvita, CSL, Super Retail Group, Domino’s, APA, Mirvac and Cleanaway set more specific or wider targets, brought forward targets, or achieved them. Some companies including APA, Origin, Santos and Fortescue Metals, moved beyond ambition towards action by providing detail on transition pathways. Climate has emerged as a focus for private capital, with several high-profile proposals and acquisitions last year.

For "S", the Great Resignation in 2022 was marked by CEO/CFO departures and board turnover. Meanwhile, the impact of staff shortages and strikes has weighed on companies’ operations, and in the Resources space we note that labour market pressure may have contributed to a recent rise in injuries (and deaths). We expect this to be an enduring theme and expect this to motivate boards to be more active in the search for suitable replacements at senior level.

Key "G" themes were (1) remuneration and (2) cybersecurity and data breaches. There has been no shortage of scrutiny on remuneration, with 14 S&P/ASX200 companies receiving a "strike" on pay last year. These included Downer EDI, Blackmores, GUD Holdings, Newcrest Mining, Lake Resources, Corporate Travel Management, AGL Energy, ASX, Star Entertainment, Cleanaway and Santos, whilst Lovisa, Link Administration and Goodman Group received a second strike.

Companies are moving towards incorporating non-financial KPIs in their short-term incentives, which can help mitigate governance issues. We have seen listed companies and boards lift their focus on data privacy, cybersecurity policies and risk management plan.

Looking further into 2023, we believe "E" will remain a core focus, with key themes for 2023 being:

• Biodiversity;
• Carbon markets;
• Scope 3 emissions; and
• Energy transition

Biodiversity will be brought into greater focus with the Taskforce on Nature-related Financial Disclosures finalised during 2023. In Australian carbon markets, the Chubb Review and the Safeguard Mechanism were released in early 2023 with the focus being on the effective management of domestic carbon credits. Changes to the Safeguard Mechanism are expected from 1 July 2023.

As companies get on top of Scope 1 and 2 emissions, and with the International Sustainability Standards Board (ISSB) voting to make Scope 3 emissions reporting mandatory, we are seeing an expansion of focus on Scope 3, and a need for clarity in defining targets. The Federal Election result in May 2022 and Labor's Powering Australia plan, provided much needed certainty for the public and private sector and we expect to see investment in the energy transition ramping up into 2023 and beyond.

We expect the "S" aspect to rise in prominence and be defined by (1) labour issues and (2) social licence - indigenous rights and safety. The Great Resignation, COVID and industrial reforms with the introduction of multi-employer bargaining, are likely to see a spotlight on labour issues and mental health this year. Meanwhile, the Santos Tiwi Islands case is a salient reminder that companies must think carefully about their social licence to operate, conscious of indigenous issues.. 

On "G", we expect (1) culture and leadership and (2) cyber, to hold focus. Analysis of AMP, Cleanaway, James Hardie, and DGL demonstrate that senior leadership level governance issues do affect share prices. With macroeconomic conditions likely to remain challenging this year, we believe companies with strong non-financial KPIs will be better placed to mitigate governance issues. Cyber-attacks will be an ongoing risk. Addressing this operational reality is likely to require additional investment for many companies.

This article is taken from the Devon Funds Sustainability Report 2023. To read the full report click here.

Devon Funds Management is an independent investment management business that specialises in building investment portfolios for its clients. Devon was established in March 2010 following the acquisition of the asset management business of Goldman Sachs JBWere NZ Limited. Devon operates a value-oriented investment style, with a strong focus on responsible investing. Devon manages six retail funds covering across the universe of New Zealand and Australian, equities and last year launched two new international strategies with a heavy ESG tilt. For more information, please visit www.devonfunds.co.nz