What are we looking for?
Companies doing good with goodwill.
There has been a dramatic increase in environmental, social and governance (ESG) concerns being integrated into investment decision-making. The Responsible Investment Association of Canada’s 2018 Trends Report shows that assets under management in funds that consider ESG metrics grew by 42 per cent over the past two years. Numerous studies – released by Goldman Sachs Group Inc., Barclays PLC and Merrill Lynch, just to name a few – conclude this is good for performance and risk-adjusted returns. But for which types of companies are these issues most impactful to the bottom line?
It stands to reason that tangible capital assets such as plant and equipment derive their value predominantly from the economic worth of their output. Intangible assets’ market value, however, can be more affected by the public’s perception of their value to, and impact on, society as a whole. When companies acquire other companies (or parts of companies) for above-market price, they account for this on their balance sheet by adding goodwill – an amount of intangible book value the company is forecasting it will deliver with its management skill when integrating these companies. We will try to identify companies with strong “traditional” investment metrics that also have a significant portion of their assets in goodwill, and score well on Refinitiv’s ESG and Diversity & Inclusion metrics.
To identify companies with strong traditional investment metrics, we will use Refinitiv’s Combined Alpha Score. The model considers price momentum, analyst sentiment, relative and intrinsic valuation, institutional investor sentiment, short interest, insider trading and earnings quality. We screen for companies scoring in the top 15 per cent for North America (a score of above 85).
Next we screen for companies whose goodwill on their balance sheet was at least 15 per cent of total assets for the past fiscal year.
Finally, we screen for those scoring above a 70 (out of 100) on both Refinitiv’s ESG Score and its Diversity & Inclusion Score. These identify companies that report they are doing good things, but these disclosures aren’t audited like financial disclosures. This means investors have to take these with a grain of salt. Refinitiv provides this proverbial salt by collecting third-party-reported ESG Controversies to balance the story coming from the company. For this screen, a maximum of three across Refinitiv’s 20 different categories of ESG Controversies during 2018 and 2019 (so far) is set. For context, Johnson & Johnson scores a 90 on their ESG Score based on their own disclosures, but are excluded because they have had 41 ESG Controversies over the 2018-19 period.
More about Refinitiv
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What we found
The screen yields six companies, with three each from the health-care and technology sectors – both sectors that are very innovation-driven and should especially benefit from diversity in their management and work force. The Goldman Sachs study mentioned earlier concluded that buying companies with a high percentage of female employees across all sectors increased performance by 3 per cent over a three-year period. However, for pharmaceuticals specifically, this resulted in a staggering 12-per-cent outperformance over the same period. Two of the pharmas on our list, Biogen Inc. and Bristol-Myers Squibb Co., have women comprising 49.6 per cent and 50.3 per cent of the work force, respectively. That compares with a median value of 35 per cent of female employees for all U.S. companies, according to Refinitiv.
Hugh Smith, CFA, MBA, is the manager of Refinitiv’s investment management business for the Americas and a director on the board of the Responsible Investment Association of Canada.