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Stuart Palmer
31 August 2015
4 min read

How hard could it be for an ethical investor to tell the difference between good and bad companies? Simply replying that ‘it’s complicated’ is sure to encourage scepticism. Here, we outline our process for choosing the ethical companies we invest in.

The ethics

We’ve had the same clear starting point for our investment decisions since the company began in 1986 – our Australian Ethical Charter. The Charter (summarised in the image below, or see the full version here) lists 12 things we will support and 11 harms we will avoid when investing.

The Charter is worth a read for those who worry that core ethical principles are volatile, inconstant things. Thirty years on, the Charter principles still resonate strongly with most who read them today; it supports such things as sustainable food production, endangered eco-systems and the alleviation of poverty, and avoids harms such as waste mismanagement, militarism and discrimination. Boiling it down, the Charter guides us in how we can best help people, animals and the environment and avoid causing unnecessary harm.

The Australian Ethical Charter

What we like 

The first question we ask is whether a company’s activities support one or more Charter ‘positives’ – a prerequisite for investment by us. This guides us to companies operating in areas such as clean energy, sustainable products, medical solutions, innovative technologies, responsible banking, healthcare, aged care, recycling, and energy efficiency. This type of ethical investing focusses on areas of the economy which through their positive impact have strong long-term growth potential.

What we don’t like 

After looking at the positives, we examine the negative impacts of a company’s activities. There are some ‘no-go’ areas which will automatically rule out investment, such as manufacturing weapons or cigarettes. But there are also things that although we don’t like we may tolerate if they are a small part of the company’s business or if they are a necessary side-effect of a positive activity of the company. This is where things can become complicated, so we’ll illustrate with a case study example (below).

Opening the floodgates?

Sometimes people worry that by balancing a company’s positive and negative impacts, we could open the floodgates to all sorts of questionable companies. This is a valid concern, and we recommend that investors conduct a reality check when looking at any ethical investment option, by comparing the investments of that option compared to the investments of a ‘mainstream fund’. As one indicator of the rigour of our process, we assess only about 30% of the ASX top 200 companies to be acceptable for investment under our Charter. That’s a lot of things we won’t invest in.

You might still think we should be even more restrictive, and only invest in companies which are ‘completely ethical’. Our experience is that just as perfect people are rare, so are perfect companies. In some cases we believe we can best advance the ethical purpose of our Charter by remaining invested and engaging with an imperfect company, because we believe the company is overall making a positive contribution and that this contribution can be enhanced by engagement to help drive continuous improvement.

The financial decision

It’s important to remember that after ‘passing the Ethical Charter’, we still need to investigate the financial investment merits of the company. Just as we won’t trade off our ethics for financial performance, we also have a responsibility to ensure that we invest only in companies where we positively assess their capacity to generate long-term value for members and investors.

You can see the list of who we invest in here.

Australian Ethical's Ethical Assessment Process
CASE STUDY
Balancing positives and negatives: JR East Railway Company

Because our Ethical Charter recognises the intrinsic value of people, animals, and the environment, we often need to balance different social and environmental impacts of a particular industry, activity or company. An example is our investment in JR East, Japan’s largest rail company operating both high speed express and commuter rail services.

Rail transport is a positive under the Charter. It is much more efficient than car, truck, and plane transport, and rail is safer than road transport. JR East is also attractive for its use of valuable technologies including solar and wind power – and trialling a ‘power-generating floor’ which generates electricity for ticket gates from the vibrations caused by passengers walking through the gates – we think this is pretty innovative!

Rail transport does have some negative impacts. Rail line infrastructure can harm the environment and animal habitats, for example. But we assess these impacts to be necessary given the importance of transportation of people and freight, and the greater environmental, animal, and social harm caused by road and other forms of transport. (Of course, we would still take into account any failure by a rail company to appropriately manage the adverse impacts of its business.)

JR East raises other negative considerations. At its railway stations the company operates retail shops and restaurants which sell alcohol and cigarettes, both areas of serious concern under the Charter. But while the manufacture of cigarettes will automatically rule a company out, retailing of negative products may not.

We invest in Japanese high-speed rail.
We invest in Japanese high-speed rail at Australian Ethical.

We consider whether a shop ‘specialises’ in the sale of the negative products, as well as the percentage of revenue earned from them. In this case the ethical grade of JR East was reduced for its sale of alcohol and cigarettes, but this harm was still assessed to be outweighed by the benefits of the company’s core rail business – meaning that the company remained ‘investable’ to us.