15 Dec 2022
Biodiversity’s place in fund management
The UN Biodiversity Conference shone a light on the importance of society and business’s relationship with nature. This has essential consequences for fund managers.
The most usual way to measure the economy’s health is to look at gross domestic product (GDP). What tends to be forgotten is the extent to which this is linked to the health of our ecosystems.
The fact is that nature accounts for more than half of the world’s total GDP. According to a World Economic Forum (WEF) report published in early 2020, about US$44trn of economic value generation is moderately or highly dependent on nature and its services and, as a result, is exposed to risks from nature loss.
Two of the three largest industries that depend most on nature are agriculture, and food and drink. The top slot is held by construction, which is worth as much as the other two industries combined. These sectors all rely on either the direct extraction of resources from forests and oceans or the provision of ecosystem services such as healthy soils, clean water, pollination and a stable climate – all of which are under threat.[1]
This is demonstrated by the loss of about 97% of the UK’s species-rich grassland between 1932 and 1984, alongside signs that there are now half the number of birds in the UK dependent on farmland compared with 1970, whilst five species of butterflies have disappeared from England in the last 150 years. [2]
Preserving yield
Although biodiversity might not initially spring to mind when one considers yield, there is a very real link between reducing biodiversity degradation and preservation of returns generated by funds, says Bryan Fashola, Director of Institutional Banking at RBS International. Environmental degradation may not only result in lower returns across sectors that rely on natural yield, such as agriculture. It could also impact returns for fund managers across other sectors due to increased costs, such as insurance liabilities, due to environmental impact or higher cost of capital resulting from scarcity or supply chain inflation.
“When you think of sectors that funds invest in which are circular in nature, such as agriculture, it’s clear that a reduction or scarcity in natural assets can lead to lower yield. But if inputs through that supply chain become more expensive because raw materials are either scare or of reduced quality, then that yield erosion can ultimately spread to other sectors,” Fashola says.
Acknowledgement of the interconnection of natural and economic systems is leading to more stringent lending regulations focused on the conservation of natural habitat, with biodiversity starting to shape government policy and regulations. For example, the UK has signed up to global targets to reverse the loss of biodiversity by 2030 and to conserve or protect at least 30% of global land and oceans.[3]
Measuring biodiversity
As investors become more aware of natural capital issues, they want to see biodiversity disclosures – much in the way as they expect to have disclosures on climate-related issues. By understanding the threats and opportunities for business, fund managers can start to correctly price risk or identify gaps in the ESG strategy to make sure there are sufficient mitigations against those risks and that capital is deployed in the most efficient manner, says Fashola. “Ultimately investors want to see that managers are getting the maximum yield while managing risk.”
A fund adviser that is considering biodiversity is Bluefield Partners LLP. In 2013, the partnership set up the first investment company focused on solar PV listed on a major stock exchange, and has more recently started a solar development business. In combination with the other Bluefield businesses, this enables Bluefield to identify land, obtain development rights, build solar assets, and then manage these assets through their lifecycle.
“If you incorporate biodiversity into your ESG strategy now, it will save you having to do it at a later stage – because it is coming; it’s just a matter of when”
Bryan Fashola, Director of Institutional Banking, RBS International
The business manages hundreds of acres of land in the UK, says Emma Silcocks, Group ESG Manager. “We’ve got a great opportunity to do something meaningful. We have the ability to embed biodiversity initiatives when the sites are being planned and designed and see them through the whole lifecycle of the asset.”
Bluefield’s focus is to evidence biodiversity improvements through quantitative metrics over time. In order to get to that point, however, it needs a good baseline of the biodiversity that is already present in its portfolio.
Setting targets
During 2022, 10 biodiversity assessments were carried out across a range of Bluefield managed sites, each with different geographical and ecological characteristics. The assessments were in line with solar industry best practice, and they considered bird species, pollinators and mammal species, as well as botany and soil analysis.
The fund is now committed to carrying out biodiversity sampling across at least 10% of its portfolio annually (for assets of more than 1MW), says Silcocks. “The focus is to build a baseline so that we can set quantitative targets. Any kind of biodiversity target is a long-term commitment – the real challenge is what do you capture that’s most meaningful? How do you encapsulate that in a single metric that is meaningful to investors to show progress?”
It's important to set clear biodiversity targets, says Fashola. “Managers need to be wary of the bio- version of greenwashing and ensure that targets are very specific and measurable, and that they can be tested.”
Investors also want to understand the risks involved and the actions the fund is taking to mitigate those risks. These can be risks of biodiversity degradation but also reputational risks from not paying enough attention to natural capital. “How do these risks impact the fund from a regulatory and supply chain perspective? What’s the impact on the business? These are the kinds of questions fund managers should be asking,” says Fashola.
Actions for funds
Individual funds can start thinking about existing investments and how they can begin to measure nature-related impacts, says Fashola. “The lessons we’ve learned so far suggest that some of the strategies that funds employed in baselining and capturing climate and emissions data can largely be mirrored to help integrate biodiversity factors into investment decisions.
“As focus begins to expand towards other areas of environmental and social impact, there is now an opportunity for fund managers to incorporate biodiversity into their ESG strategies, in order to get a head start and leverage operational synergies. Introduction of biodiversity preservation regulation is likely to be just a matter of time. This makes it important to set up policies that will help ensure capital flows into areas that promote conservation of the natural world.”
The Taskforce on Nature-related Financial Disclosures (TNFD) is following in the footsteps of the Taskforce for Climate-related Financial Disclosures to produce a market-led, science-based framework. Currently under consultation, the framework aims to standardise metrics to make comparison between investments easier for investors.
Fashola says the TNFD is a good starting point for funds as they can see what the key parameters and disclosure requirements are. Funds can also be part of the solution by adding their voice to that of other key stakeholders when it comes to regulation and guideline setting.
He also recommends aligning a fund’s corporate governance framework with biodiversity factors. ‘’Fund managers may need to consider ways of creatively incentivising the board and investment committees to ensure goals and objectives are aligned with an ESG strategy that incorporates biodiversity metrics. There should be strong alignment in challenging behaviours, investments and decisions to get that buy-in at board level.”
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