InspIR’s Q & A with Edward Vallejo on Integrating ESG and IR to Maximize Value: An Issuer’s Point of View

 

On May 27, 2020, InspIR Group hosted the first of its InspIR Insights webinar series.  Ivan Peill, InspIR Senior Director and member of the Firm’s ESG Integration team moderated the panel including Edward Vallejo, Vice President of Investor Relations, American Water, $22 billion market cap utility which is S&P’s highest ESG rated company in the US and the second highest globally.  Edward founded the Company’s ESG program and leads the program.   Following are highlights of a Q&A with Ed.

 

Q: Ed, you spearheaded the creation of the ESG Program at American Water. What motivated you to do this? What is your overall approach to ESG? How is the program structured? And what are the main goals?

A: Edward Vallejo

“By listening to our clients and our stakeholders, what they were asking for…. we thought we could do a better job explaining to ESG investors what we do around ESG. So, we started putting all ESG principles into our financial deck, into our financial reports, and investor deck as well. And as we started doing that and started educating employees on ESG, etc., we saw ESG weave itself into how we do things on a daily basis….ESG becomes a reality of how you do business daily.”

“Another important development was we decided that ESG should report to Investor Relations. I always scratch my head when I hear ESG reporting up to Legal or reporting up to Corporate Communications, etc. It doesn’t make sense to me. My manager of ESG is an integral part of the Investor Relations efforts. She is on all of our calls with investors, and we weave ESG into the Investor thesis that we communicate.”

 

Q: Ed, how did you convince your CEO and CFO to make the investment in ESG? What about getting buy-in from American Water’s board of directors?

A: Edward Vallejo

“This all started with visiting investor accounts. The CFO and the CEO were there, and when we were back home, we were [thinking] ‘there could be added demand for our shares, if we tap into the ESG investors.’”

“….we went to the board and said this is the expected demand that we think we could get by having these expected costs. We were able to show them that the net effect was a value-added proposition, and once we you have that, then you get to go ahead.”

“If you have a high ESG score, you are probably not going to encounter the same headaches you would have in the future, compared to a company that doesn’t have an ESG score. And that is probably valued a couple of turns on a P/E basis.”

“….a materiality assessment is a required first step that is needed under the global reporting initiative in order to do a proper sustainability report. A materiality assessment is a road map of sorts. When you interview different stakeholders – in our case customers, regulators, employees, the executive leadership team – out of this process you will define the goals that you need to look at, the current goals. On a yearly basis, you will need to see which goals you need to update, and consider new goals that you will need to include in order to stay current with the ever-changing ESG change landscape.”

 

Q: Ed, what kinds of external resources and advisors did you use to develop American Water’s ESG program and that continue to be an integral part of it?

A: Edward Vallejo

“….we picked the top 30 non-index investors and went to visit them. We requested that they have their ESG analyst join that meeting. And we brought in our own ESG manager and we started to have this dialogue of the new ESG effort that we were trying to do.”

“….for the sustainability report itself, we used a consultant, and this is what I would recommend companies here to do as well for many, many reasons. One of them is the cost. A company issues a sustainability report every two years on the average and it doesn’t make sense to carry the overhead for all that time…..You also need to have somebody to advise you whether the GRI metrics have changed within the landscape, and an IRO doesn’t have the bandwidth for these things. You need a consultant to help you with it. When you finish the sustainability report, you will then probably have to utilize the same ESG consultant. You will have this nice, shiny sustainability report and need to market it, but you will not get a list of ESG investors from the Corporate Access team of the Bulge bracket firms….So we used a consultant in that regard as well.

 

Q: What is considered a reasonable pace of improvement and over what period of time for a commitment that a company makes? Presumably it varies by metric, but it would be interesting to understand what the expectations of the investors are as far as how quickly a company improves over time.

A: Edward Vallejo

“….the ESG target really has to come out of the materiality assessment that you start with. They have to be company specific. In our case, when we started looking at the metrics that MSCI or Sustainalytics use for our own corporate ratings….what we had to do was create a roadmap, a set of goals and metrics that should be applied to a US-based water company….once you have the goals you need to measure, then again you have to rely on your consultant, based on their market knowledge, you have to know how far you want to stretch that goal. Do you want to just have a baseline-level goal for your first sustainability report and then add a couple of metrics to your goals to compete at a middle-ranking level in terms of disclosures, or a lead-level that would place your company in the first quartile. Or you might want to be what we call the game-changer level, where you are the absolute leader for that specific goal disclosure. All those decisions, dictate what period of time and with what level of specificity you would set your goals….You have to set what goals you want to achieve, how in-depth you want those goals to be, and then you see what time frame you can give yourself to achieve them.”

 

Q: What’s a good timeline for developing an ESG or sustainability report that will get a company noticed by the investment community?

A: Edward Vallejo

“For American Water, we publish a sustainability report every two years and in the interim period, when we don’t publish a sustainability report, we do a soft refresh on some of the goals we have. We update the goals in the intervening year and we do a full sustainability report the year after. That’s how we pace it.”

 

Q: What about compensation, linking ESG to compensation? How common is that? How should a company approach building ESG into incentive-based compensation?

A: Edward Vallejo

“At American Water, we don’t have the ESG metrics – either for our annual or long-term goals for the company – as part of compensation. But the ESG metrics and goals are the company’s specific goals that we know will enable us to reach the goals that, as a company, we have included and used to guide the market and are tied to employee compensation. One of our ESG goals is to lower American Water’s greenhouse gases as a share of revenue. One way to achieve that goal is to continue to replace water pipes buried under the ground. If we are successful in getting those costs approved [by regulators] and rate-based, then it becomes part of the Earnings and Earning is part of the guidance that we give the Market and that is itself part of the incentive that we have….ESG is woven into how we do things and allows us to reach metrics as a company as a whole. That’s what I recommend to the companies –  weave ESG into what you currently do and guide the Market with this.”

 

Q: What can you tell us about inclusion in sustainability indexes, beyond the obvious?

A: Edward Vallejo

“….you have to realize and be comfortable with the fact that you are not going to be able to complete all the questionnaires that are out there, because there are far too many….identify the questionnaires that you didn’t rank highly on and then you have to determine which are the most beneficial to you. You really have to ask your stakeholders which questionnaires or which indexes they look at and consider. In our experience, we found that not a lot of stakeholders follow the Dow Jones Sustainability Index, per se.  We asked the Buyside which indexes they use and which goals they want us to set. We do the ISS survey, because the results are included in our annual shareholders meeting. We complete the Bloomberg questionnaire, because most investors have a Bloomberg terminal, and we do the Sustainalytics and MSCI surveys.”

 

Q: What is your advice for dealing with the ESG ratings firms?

A: Edward Vallejo

“….pay attention to the timeline as you certainly don’t want to publish a bright and shiny sustainability report a month after they just finished analyzing your company and they won’t review your company again for another year. You will have stale data by the time they take a look at you.”

“You definitely need to have a relationship with the person who is analyzing your company….having that relationship and making people understand where their analysis is flawed is crucial, if they are analyzing your company through a different prism.”

 

Q: What are the implications of companies publishing inaccurate or estimated data to investors and other key stakeholders?

A: Edward Vallejo

“….there are too many questionnaires out there and you really need to see which ones you want to fill out with good quality data….we use ESG metrics as almost a feeder into our market guidance. Since we actually go in and use those metrics for that market guidance, all these metrics are auditable by our internal audit team and are audited by an external audit team….we have to send all that through our internal disclosure committee as well….There are also other questionnaires that, because of the volume of information they ask for, it’s really not conducive to value add….I’d rather spend time on a questionnaire that looks at American Water through something like an enterprise risk management prism….”

 

Q: What ESG questions have investors asked, where they wanted to speak with the board versus the CEO? And in such cases, which committee or board member was speaking with that investor?

A: Edward Vallejo

“Typically, when talking to a board member, it becomes an area of the index investor that wants to talk during a proxy season, that wants to talk about ESG. They do want the board member, in our case the chairman of the board, to be fully conversive with ESG metrics, and that is one way for them to say, Yes, I can see that the board is engaged because the board is understanding where the investor relations department and the senior management team are going with ESG.”

 

Q: Do you think investors or other stakeholders would view this positively or not, that the two roles [Investor Relations Officer and a Sustainability Officer] are combined?

A: Edward Vallejo

“If you relate to them the journey that got your company to where it is right now, you would get a lot of nodding saying, ‘I get it. I understand.’

 

Q: What is the perception of investors regarding questionnaires, like the Dow Jones Sustainability Index versus the ratings firms like MSCI? Are they largely treated the same? Which one provides more useful information when it comes to investment?

A: Edward Vallejo

“….they are selling research to your stakeholders. If researchers have a flag that came out last week, whatever it might be, then you need to be aware of this, that there is flag out there, because you are going to be asked about it by investors the following week,  and what you don’t want is to be caught flat-footed  and say ‘Let me get back to you, I was not aware of that issue.”

 

Q: Do you see ESG ratings ever being harmonized or becoming less burdensome, let’s say?

A: Edward Vallejo

“….eventually [ratings] may gravitate a little closer to each other than what we have today, and we have begun to see a little more harmonization….you see more and more ESG analysts coming in and taking a look at our company through a prism of enterprise risk management. A part of why you see Moody’s entering the ESG ratings business as well S&P, is they actually have a way to look at a company on a risk basis. I think that may be where the industry is heading right now.”

 

Q: For small companies, how can they add ESG programs that are financially viable for a small company and still be valuable to shareholders?

A: Edward Vallejo

“A sustainability program, if done correctly , is not going to cost you a lot in terms of incremental time and expense. The reason I say that is that it again gets back to a sustainability report, gets back to a materiality assessment, that ESG is particular to what you do – it’s how you integrate ESG on a daily basis. The things you do as a company on a daily basis, and you should be communicating that to investors anyway. You are almost halfway there anyway, so you just have to say that we don’t need to have an army of ESG goals, but the ones you have, integrate these with the guidance that you give to the market, and that will be very value-added to ESG investors.”

 

Closing Comment

Edward Vallejo

“Maintain communications with the board and senior management, as to the ever-changing landscape of what ESG is and how assets under management are changing. And then also share your journey with your investors. It needs to make sense to them – where you were before, where you are now, and where you are heading. If you show them that journey and why you’re doing what you’re doing, that is going to instill confidence in your  company and you’re halfway there.”

 

Biography

Edward Vallejo

Edward Vallejo is Vice President of Investor Relations for American Water, a $21 billion utility company that is S&P’s highest ESG rated company in the US and the second highest globally. Ed has extensive experience in corporate finance, capital markets and investment banking, most recently serving as Vice President of Financial Strategy, Planning and Decision Support for American Water. He was hired as Vice President of Investor Relations in April 2006 to create a comprehensive investor relations program in preparation for the company’s initial public offering in April 2008. Prior to joining American Water, Ed served as Chief Financial Officer of Thames Water Chile, where he was responsible for all aspects of financial strategy, processes and operations. From 1999 to 2005, he held various positions of increasing responsibility at American Water, including Vice President of Mergers and Acquisitions and Treasurer. Ed began his career in the utilities sector in 1994 as an investment banker for PaineWebber, covering electric, gas and water companies, completing numerous equity, debt and M&A transactions. He holds a bachelor’s degree in economics from New York Institute of Technology and a master’s degree in business administration from New York University.

Ivan Peill

Ivan Peill is a Senior Director with InspIR Group and brings over 20 years of investors relations and 10 years of corporate communications experience to his client practice. He also co-leads the firm’s investor access practice and is a member of the ESG Integration practice area. Ivan joined InspIR from Stockholm-based Skanska AB, where he was a Vice President of Investor Relations responsible for the large- cap company’s financial communications and US investor relations.

Prior to Skanska, Ivan oversaw investor relations services for companies listed on the New York Stock Exchange. He also advised pre-IPO emerging market companies on investor relations, designed and managed educational programs for listed companies, and was the NYSE’s representative to the UN’s Sustainable Stock Exchange Initiative. As Executive Director in the ADR Group of JP Morgan’s Corporate and Investment Bank, Ivan led a global IR advisory team comprised on members in New York, London and Singapore. The team advised corporate clients on investor relations and financial communications strategy, investor marketing and IR best practices. Ivan also led the Group’s global marketing and corporate communications and authored the bank’s IR Best Practices Guide, among other publications.

Ivan began his career in the Latin America Group of Georgeson & Co.’s investor relations practice, which was acquired by Thomson Financial, where he advised the firm’s Europe-based clients. He holds an MBA with honors from Fordham University.

 

To learn more about ESG

InspIR Group regularly posts blogs on ESG, among other topical investor relations and capital markets issues. You can read our blogs here: https://inspirgroup.com/en/insights/

 

To learn about InspIR Group’s ESG practice: https://inspirgroup.com/en/esg-integration/

 

To contact InspIR Group about your ESG needs

Please call or email us to if you would like to learn how InspIR Group can help on your journey to achieve best practices in ESG reporting and integration.

 

Ivan Peill, New York – ivan@inspirgroup.com, +1 212.710.9296 

Fabiane Goldstein, São Paulo – fabiane@inspirgroup.com, +55.11.98103.0201