Partner Richard Sharman takes a look at the key terms and documents associated with GATSTM, a fully electronic system for buying and selling aircraft and engines on lease. Environmental, social and governance (ESG) criteria are standards of business operation by which an investor can filter socially responsible investments and deploy "capital with purpose". We review the ESG criteria and evaluation process and consider whether investments in aircraft assets could be certified as ESG, widening the pool of potential investors.
There is no standard definition or overarching regulatory body responsible for certification of ESG investments, rather individual investors and funds often set the criteria they wish to apply to their socially responsible investments along with the evidentiary requirements that confirm a qualifying investment for their purposes. Given the challenges that arise in attempting to quantify environmental, social and governance criteria, there is a significant amount of subjective assessment involved.
Internationally accepted standards such as those produced by the International Organisation for Standardisation (ISO) assist in addressing the subjective nature of ESG data, however many investment consultancies and funds have come up with their own methods of rating ESG performance. Rating agencies have emerged which assess a company's performance from an ESG perspective by collecting relevant data, quantifying impact and measuring and comparing performance across industries and sectors. Global financial markets have also produced rating indices such as the Dow Jones Sustainability Index and the FTSE4Good Index.
Benefits of ESG certification
More large funds and investors are publicly acknowledging the benefits that arise from ESG investing, not just from an ethical perspective but financially. A company that is able to sustainably manage its ESG impact is also more likely to sustainably create long-term value in their businesses. Companies that are in touch with ESG concerns and limitations are also more likely to be resilient and demonstrate effective use of resources and mitigate long-term risks.
A survey conducted by State Street Global Advisors found that 80% of institutional investors now consider ESG factors in their investment decisions and more than two-thirds of those investors say that this has resulted in higher returns.
Aircraft investments as "capital with purpose"
At a glance, the environmental impact of the aviation industry may appear to preclude investments in an aircraft, leased to an international airline, from ever qualifying as ESG. According to the European Environment Agency, international aviation experienced the largest percentage increase in greenhouse gas emissions over 1990 levels amounting to a 114% increase to 2016.
However it is a cost-benefit analysis on a case-by-case basis, and membership of a particular industry is not exclusionary.
ESG factors likely to be given weight when assessing investment in the aviation sector could include:
Environment: carbon footprint, water and other resource use, waste generation
Social: treatment of staff, suppliers and consumer protection
- Governance: business ethics, board diversity, executive pay
Depending on your approach to the criteria it may be possible to argue that an investment in one of the latest, most fuel efficient aircraft, contracted on long-term lease to an airline with a high ESG-rating (which, for example, fully participates in aviation emissions trading or offsetting schemes and has a fuel-efficient fleet, as well as market-leading social and governance policies), should qualify as ESG to some degree, also leveraging the socio-economic benefits of travel by commercial aircraft. On the other hand, the argument is relative, as the latest aircraft are only moderately more fuel efficient than older models and the aviation industry remains a major contributor to greenhouse gas emissions.
The argument may become stronger if the aircraft is a step-change in technology, for example a hybrid-electric aircraft (for the current status of electric propulsion of aircraft, see our article "Electric propulsion of aircraft – market update"). If traditional aircraft investors are reluctant to take the leap, ESG investors may be prepared to step forward and invest in such new technology.