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Jan Keuppens and Willem Schramade explain how ESG is integrated in the analysis and valuation of equities for Robeco Global Stars Equities. "We are thus able to make better informed investment decisions."
"In our investment process, we regard ESG or sustainability as one of the factors that can create value within a company and, therefore, we examine this in the same manner as we examine the financial performance or momentum in the market." Willem Schramade, sustainability and valuation analyst at Robeco Global Stars Equities explains that the manner in which a company deals with environmental, social and governance (ESG) issues forms an integral part of the analysis and valuation model of the investment fund.
Robeco Global Stars Equities consists of a high conviction portfolio. The extra conviction for the 25 to 40 equities in which the fund invests is also due to the critical analysis of ESG factors in addition to the strong emphasis on companies that generate a high return on invested capital. Schramade: "The focus on sustainability helps to limit the downward risk and to identify upward potential or value within a company."
The investment fund has performed well in recent years. This year up to and including August, Robeco Global Star Equities recorded a return of 10.64 percent and over a three-year period the return amounts to 18.69 percent (the fund’s D share class). With these results, the fund is outperforming the MSCI World Index which recorded 5.36 and 15.39 percent respectively.
For the selection of equities, the main portfolio manager Jan Keuppens makes use of the best ideas of Robeco’s Global Equities Team that analyses and values equities for Robeco NV and Robeco Global Stars. First of all, a quantitative model is used that reduces the investment universe. For instance, factors such as valuation, momentum, cash flow and earnings revisions are taken into account. This classification of equities is then further refined by analysts by focusing on the top 20 percent of companies and taking long-term trends and ESG factors into account.
‘Structural underweight position in capital intensive sectors’
Within his fund, Keuppens puts a strong emphasis on companies with a high return on invested capital. "The companies must generate a high free cash flow and their shares must, of course, be traded at a price with a substantial discount compared to the net asset value," the fund manager explains. Keuppens regards companies with a high cash flow as “recession proof”. They have capital to fall back on in difficult economic times for investments, repurchasing shares or maintaining their dividend payments.
Robeco Global Stars does not use a benchmark and therefore it has a high active share of 94 percent (the degree in which the fund deviates from the benchmark, in this case the MSCI World Index). “Robeco Global Stars generally maintains a structural underweight position in capital intensive sectors such as utilities, mining and financial services. The free cash flow in these sectors is insufficient. Companies in these sectors have to invest in order to maintain their market position and this results in an insufficient return on invested capital," Keuppens explains. "The fund has an overweight position in the sectors technology, health care and consumer goods that are less capital intensive and where investments generate a relatively higher return."
When assessing a company based on ESG, an analyst of RobecoSAM examines the ESG factors that are relevant for the specific sector and company. Together with the sector analyst in Keuppens's team, the ESG analyst looks at how the company scores on these factors and whether these factors have a positive or negative effect on the company's competitiveness. In other words: whether they create value for the company.
Sustainability factors are not always all equally relevant and they differ per sector and company. Schramade: "For example, in the mining sector, we examine how companies deal with safety and in the food sector, we pay attention to innovation. We look at factors that determine the success of a company. Sustainability is not just about being green; it’s also about surviving as a business. It incorporates both social value and enterprise value."
The impact of ESG factors on a company are quantified in three steps. Schramade illustrates this model using the Swiss pharmaceutical Roche, a large position in the portfolio of Robeco Global Stars Equities. The first step consists of identifying material ESG factors. "The most important factors for the pharmaceutical sector are the smartest people to develop drugs, innovations management and the product quality and product safety. These have more impact than, for example, the management of the supply chain."
In the second step, the analysts of Robeco’s Global Equity Team and the sustainability analysts of RobecoSAM look at Roche's score on these factors and compare this to how competitors score and examine the impact on the value of the company. "Roche scores better than competitors on important material factors. This results in a competitive advantage," according to Schramade.
A company's score on ESG is taken into account in the ultimate valuation of its share and results in a price target. Keuppens: "We are thus able to take better informed investment decisions. With more insight into risk and return and ultimately based on a stronger conviction."