Stewart Investors’ Berrutti: Scope 3 confusing emissions picture

Investment specialist addresses disclosure drive to encompass Scope 3

Scope 3 emissions are hugely important but the drive to include them as part of portfolio decarbonisation potentially risks causing a “confused” picture, senior investment specialist, sustainable funds group at Stewart Investors, Pablo Berrutti (pictured) has told ESG Clarity.

Initiatives like the Net Zero Asset Managers Initiative has urged signatories to include Scope 3 emissions in their net-zero targets, while it was also recently announced the International Sustainability Standards Board’s global baseline for sustainability disclosure – to be implemented early 2023 – will also encompass Scope 3 albeit at a later stage than Scope 1 and 2 emissions.

Berrutti said asset managers will need to look at the metric on a company-by-company basis, separately from other factors that impact a company’s net-zero profile, while also considering the sector they sit within.

“When you have Scope 3 emissions brought in and aggregated up, you lose the information value that allows you to make decisions and to engage effectively in a way that might make a difference.

“It’s really important to separate it out and think about [Scope 3] from a bottom-up company level because – we don’t invest in oil and gas companies, but – if you are invested in oil and gas companies then clearly the downstream emissions from someone burning your product is where most of your emissions are going to come from. That’s why Scope 3 emissions are really important.

“Whereas if you’re a consumer goods companies like Unilever then a lot of your Scope 3 emissions are actually going to come from your supply chain… from upstream,” he said.

According to Berrutti, it is important to be able to “dissect” the figures and try and understand how the location of emissions – upstream or downstream – can influence engagement with companies. Investors must be able to think about the risks and opportunities around each company fitting within a net-zero economy, he said.

Referring to the drive to disclose Scope 3, Berrutti noted it makes more sense for companies than for investors to disclose this category of emissions, which covers all the remaining indirect emissions not covered by Scope 2.

“Now there’s a big push on including Scope 3 emissions, which I think is kind of weird for portfolios.

“For companies, clearly you can see how they are relevant but for us as investors, the portfolio is our Scope 3 emissions.

“So there’s a demand to put Scope 3 emissions of our Scope 3 emissions into the mix for targets and for disclosure [but you] wind up with a potentially very mixed up and confused situation when you aggregate all of that up to a portfolio level.”

Calculating carbon footprints

Writing Stewart Investors’ first annual climate change report earlier this year, Berrutti said another issue the group noticed with emissions calculations was how you are advised to measure the carbon footprint of a portfolio.

He said the team used PCAF, the framework from The Partnership for Carbon Accounting Financials.

“Essentially, it works by saying if I own 10% of a company I am responsible for 10% of its emissions. And insofar as that goes, that makes a lot of sense – it resonates with us.

“However, when you break it down in practice what we found was our most emissions-intensive companies… weren’t actually the highest companies in our footprint.”

The climate change report used the example of pharmaceutical company Dr Reddy’s that makes generic medicines to illustrate this.

“Because we own so much of that company, its emissions were the highest of our footprint. Whereas other companies like Taiwan Semiconductor, which emits 50 times the carbon of Dr Reddy’s, were way down the list because we only own 0.1% of Taiwan Semiconductor. But the amount of money, the dollar value is roughly the same.”

This new way of calculating carbon footprint on equity share could cause investors to question which type of company would be better to engage with, Berrutti said – one like Dr Reddy’s contributing more to Stewart Investors’ carbon footprint or a company like Taiwan Semiconductor, which has a much bigger impact on emissions globally but contributes less to the group’s footprint.

“Once you start digging into some of the details, the footprint doesn’t tell the whole story of what or where emissions are coming from,” Berrutti said.

Of the two example companies he said his team would continue to prioritise engagement on issues that were the most material issues for each – safety and affordability of products for Dr Reddy’s and carbon emissions for Taiwan Semiconductor.

Sustainable opportunities

2022 continues to pose challenges for the performance of sustainable investments and, according to Berrutti, Stewart Investors takes two key approaches to this.

One is to find companies that are involved in solutions and also have a proven record of integrity and ethics as well as growing returns, like Brazilian electric motor manufacturer WEG.

The other route is to look for “picks and shovels” companies such as Nordson in the US, which specialises in adhesives and liquid dispensing technologies.

“That doesn’t sound particularly sexy from a sustainable development perspective, but every one of the top 10 battery manufacturers in the world uses their technologies to stick their batteries together [and] the majority of the largest solar panel manufacturers use the technologies to stick solar panels together,” Berrutti commented.

On a personal level, he said it was inspiring getting to know excellent companies providing solutions in Asia – the part of the world where “sustainable development challenges will be won or lost, both on the human side and on the environmental side”.

He said his team sees some of the best companies in the world there in terms of “delivering real solutions, and doing business and doing business in different ways”.

“If you step back and you just look at the challenges from a distance it’s overwhelming. But when you actually go and start looking at what companies are doing on the ground each and every day, and they’re great companies, then it fills you with hope in terms of what is possible.”