Social

What Is Social?

In the context of investing, "Social" refers to one of the three core pillars of Environmental, Social, and Governance (ESG) criteria, a framework used in Sustainable Investing. This pillar focuses on how a company manages relationships with its employees, suppliers, customers, and the communities where it operates. It encompasses a wide array of factors related to human capital, labor practices, product responsibility, and community impact, reflecting a company's commitment to ethical and responsible conduct beyond purely financial metrics.

History and Origin

The concept of integrating social considerations into investment decisions gained prominence alongside broader movements towards Corporate Social Responsibility and ethical business practices. While roots can be traced back to religious and philanthropic investing traditions, the modern emphasis on "Social" as part of a systematic investment framework largely emerged in the late 20th and early 21st centuries. The development of frameworks like the Principles for Responsible Investment (PRI), launched in 2006 with support from the United Nations, significantly institutionalized the consideration of environmental, social, and governance factors by mainstream investors. This initiative, along with increasing global awareness of social injustices and human rights issues in supply chains, spurred greater investor scrutiny of companies' social impact.⁶, ⁷, ⁸, ⁹

Key Takeaways

• The "Social" component of ESG examines a company's internal and external relationships and impacts on people.
• Key areas include labor standards, human rights, product safety, data privacy, and community involvement.
• Evaluating a company's social performance helps assess its Risk Management of non-financial factors.
• Strong social performance can contribute to a company's long-term reputation and potentially its Financial Performance.
• Investors use social criteria to align their portfolios with personal values and to identify companies with robust Stakeholder Capitalism approaches.

Interpreting the Social Pillar

Interpreting a company's "Social" performance involves evaluating its policies, practices, and outcomes related to human capital and community engagement. This goes beyond simple compliance with laws and delves into how a company fosters a positive work environment, respects Human Capital, ensures fair Labor Practices, and contributes to society. For example, a company with strong social standing might have low employee turnover, robust data security measures for customer information, and transparent Supply Chain practices that prevent forced labor. Conversely, a company facing lawsuits over discrimination or safety violations would likely receive a poor social rating.

Hypothetical Example

Consider two hypothetical apparel companies, "Ethical Threads" and "Fast Fashion Corp." Ethical Threads publicly commits to fair wages, safe working conditions, and invests in local Community Engagement programs in regions where its factories operate. It regularly audits its suppliers for compliance with human rights standards and provides training and development opportunities for its employees. Fast Fashion Corp., on the other hand, prioritizes cost reduction above all else. It has faced accusations of unsafe factories, excessive working hours, and a lack of transparency regarding its global supply chain. When an investor evaluates these companies based on the "Social" pillar of ESG, Ethical Threads would score highly due to its proactive and positive social impact, while Fast Fashion Corp. would score poorly due to its significant social liabilities and disregard for worker welfare.

Practical Applications

The "Social" aspect is critical in Socially Responsible Investing (SRI) and Impact Investing. Investors utilize social criteria to:

• Screen Investments: Exclude companies involved in controversial activities (e.g., child labor, human rights abuses) or include those with positive social track records (e.g., strong Diversity, Equity, and Inclusion (DEI) policies).
• Engage with Companies: Through Shareholder Activism, investors can pressure companies to improve their social practices, such as advocating for better worker safety or responsible sourcing.
• Assess Risk: Social controversies, like major product recalls or labor disputes, can lead to significant financial and reputational damage. Analyzing a company's social factors can help identify and mitigate such risks. For instance, the Occupational Safety and Health Administration (OSHA) sets and enforces standards for safe and healthy working conditions, and companies failing to meet these standards face regulatory and reputational consequences.⁵
• Evaluate Long-Term Value: Companies that foster positive social relationships may benefit from increased brand loyalty, higher employee productivity, and greater resilience in times of crisis.

Limitations and Criticisms

While the "Social" component of ESG investing aims to drive positive change, it faces several limitations and criticisms. One challenge is the subjectivity and difficulty in consistently measuring and comparing social performance across different companies and industries. What constitutes "good" social performance can vary widely, and data on social metrics may be less standardized or verifiable than environmental or governance data. Additionally, some critics argue that ESG factors, including social ones, can be used for "social washing," where companies superficially promote positive social attributes without making substantive changes.

A significant criticism often arises when companies face severe social issues despite appearing to have strong policies. For example, the collapse of the Rana Plaza garment factory in Bangladesh in 2013, which killed over 1,100 workers, highlighted severe failures in labor practices and supply chain oversight within the apparel industry. This disaster underscored how complex and deeply embedded social risks, particularly in global Supply Chains, can be, even for companies that outwardly project commitments to Corporate Social Responsibility.¹, ², ³, ⁴ This event prompted a global outcry and renewed focus on ensuring worker safety and human rights, demonstrating that declared intentions do not always translate into real-world protections.

Social vs. Governance

While "Social" and "Governance" are both crucial components of Environmental, Social, and Governance (ESG) investing, they focus on distinct aspects of a company's operations. The Social pillar, as discussed, examines a company's relationships with people, including its employees, customers, suppliers, and the broader community. It covers areas such as labor standards, human rights, product safety, data privacy, and philanthropic efforts. Governance, by contrast, pertains to the leadership, internal controls, audits, and practices that ensure a company is managed effectively and ethically. This includes board diversity and structure, executive compensation, shareholder rights, transparency in reporting, and anti-corruption measures. In essence, "Social" looks at how a company impacts and interacts with its human ecosystem, while "Governance" assesses the systems and processes in place to direct and control the company's operations responsibly.

FAQs

What kinds of issues does the "Social" pillar of ESG cover?

The "Social" pillar covers a broad range of issues related to a company's impact on people. This includes its internal relationships, like employee relations, health and safety, diversity, equity, and inclusion, and fair Labor Practices. It also extends to external relationships, such as product safety and quality, data privacy, customer satisfaction, and a company's engagement with and impact on local communities through initiatives like Philanthropy.

How do investors assess a company's "Social" performance?

Investors assess a company's "Social" performance by looking at various data points and qualitative factors. This can include employee turnover rates, workplace accident statistics, reports on human rights in the Supply Chain, customer satisfaction scores, and details on community investment and development programs. They also examine a company's policies on diversity, labor standards, and data security, and may use third-party ESG ratings that aggregate this information.

Can strong "Social" performance lead to better financial returns?

There is a growing body of research suggesting that strong "Social" performance, as part of a comprehensive ESG strategy, can correlate with improved Financial Performance over the long term. Companies that manage their social risks well and foster positive relationships with stakeholders may experience benefits such as enhanced brand reputation, increased customer loyalty, reduced regulatory risks, and greater employee productivity and retention. These factors can collectively contribute to a more stable and resilient business, potentially leading to better financial outcomes for investors.