Our approach

We believe that effective management of material environmental, social and governance (ESG) risks and opportunities will support our requirement to maximise long-term returns. The integration of ESG factors enables investors and companies to better understand the full spectrum of future risks and opportunities to which assets are exposed. Sound management of ESG factors also contributes more broadly to the development of more efficient and sustainable capital markets.

We focus on those ESG factors that have the potential to materially impact the performance of our investment portfolio and/or our reputation. Relevant ESG factors vary by industry, geography and across asset classes, but can include any of the following: environmental quality, climate change, human and labour rights, occupational health and safety, workplace culture, supply chain risks, corruption and corporate governance.

Given our long-term investment approach, we steer our focus towards the impact of ESG factors on long-term investment value and quality.

We integrate ESG factors into our investment decision-making processes, both at individual investment and portfolio levels. This approach includes the evaluation of ESG factors in direct investments, integration of ESG into the process for selecting the external investment managers responsible for individual investment decisions, and management of ownership rights.

Integrating ESG into the investment process

Governance

The Board has overall responsibility for risk management including that related to ESG factors. Our framework for managing the complex financial and reputational risks and opportunities related to ESG factors is articulated in our ESG Policy and incorporated in the Statement of Investment Policies available on our website. Our ESG Policy is consistent with our obligations under the Future Fund Act 2006, our investment mandates, beliefs and strategy. Our investment teams are assisted in the implementation of this Policy by a dedicated ESG team which reports directly to the Chief Investment Officer.

Transactional due diligence

We have formally integrated the consideration of ESG factors into our investment process. This includes the initial Investment Committee review of new investment opportunities and manager appointments, detailed due diligence activities, and ongoing investment monitoring and review.

Where we make direct investments, such as for direct infrastructure or property investments, or for any other investment decisions that fall outside the investment mandates with our investment managers, the evaluation of ESG factors is conducted internally. These assessments are conducted by the relevant sector team using tailored ESG review tools and supported by our ESG team with line of sight over all investment activities. In partnership with our investment managers, we may engage third party consultants for investments where ESG factors are especially complex or material. We also source ESG data and research from several specialist providers to enable us to better monitor and benchmark the ESG performance of our investment portfolios.

Partnering with our managers

Our investment model relies heavily on external investment managers to make investment decisions based on the investment strategy determined by the Board. As such, these investment managers play an important role in implementing our ESG strategy.

This model requires careful coordination and alignment between our organisation and our managers. As part of our manager selection and monitoring process we consider the extent to which the manager is effectively managing financial risks and opportunities that may arise from ESG issues. This process is underpinned by dedicated and ongoing engagement and monitoring in accordance with our Manager ESG Review Framework.

To the extent that formal or informal ownership rights accrue in the manager’s portfolio, due consideration is given to the manager’s ability to exercise those rights in the best interests of our organisation.

Long-term investment themes

As a large, long-term asset owner with a globally diversified portfolio, top-down views on the strategic trends that will influence outcomes for investors over the medium to long term are an important component in our capital allocation process. Many of those trends have a strong ESG component, both in terms of system inputs (such as demography and resource scarcity) and regulatory and consumer responses to those inputs (such as policies to limit global carbon emissions).

We are also interested in how disruptive innovation has the potential to impact our investment performance over different time horizons. We are integrating the assessment of these long-term themes and trends into our investment processes to enhance our capital allocation process.

Climate risk

For long-term investors, climate change presents risks and opportunities. While the exact impacts associated with climate change on financial markets are difficult to forecast, over longer timelines they are expected to be material especially for carbon intensive sectors of the economy. Moreover, climate risk may also materialise at a macro level, through changes in macro-economic conditions and financial stability. The risk to investors is exacerbated if markets are not accurately pricing these considerations.

Risks associated with the transition to a lower-carbon economy can include changes to policy settings, technology, and shifts in market dynamics. The physical impacts of climate change, manifested for example through the increased occurrence of extreme weather events, can damage infrastructure and property and cause supply chain disruptions. This can in turn result in lower productivity, reduced cash flows and impaired asset values.

As with other ESG risks, we consider climate change from a risk-adjusted returns perspective. As such, we integrate material transition and physical climate-related risks and opportunities into our investment processes. This includes understanding the potential risks to company earnings due to climate risk and to what extent markets are pricing-in carbon risk. Moreover, we monitor climate performance of key portfolios and assess how our external managers are addressing climate risk.

More broadly, we are working to enhance our understanding of the impact on investment performance of the emerging methodologies designed to lower carbon risk of investment portfolios.

We also consider ESG and climate risk in our proxy voting and company engagement activities. Engagement with company boards offers us enhanced insight into the scope and management of climate risk at investee entities as well as an opportunity to share our perspectives and expectations.

As part of our diversified investment portfolio, and where the expected risk-adjusted return is attractive, we also invest in companies and technologies that seek to leverage the transition to a lower carbon economy, such as wind, solar and energy efficiency technologies.

The Future Fund invests in all segments of the economy, which means that many of our investments could be materially impacted, positively or negatively, by disruptive innovation. Given our long term, whole-of-portfolio approach, we can identify and consider material disruption themes and capitalise on opportunities to invest into disruption and manage disruption risk. Our Investment Stewardship and ESG team, including Sonia and Kerstin, have been focused on thinking about disruptive technology and how we can prepare for and take advantage of it as we look to sustain our success into the future.

Disruptive innovation

The world is currently experiencing a period of profound technological innovation. As new innovations are created, they provide opportunities for new business models to emerge which can materially and quickly disrupt prevalent consumption patterns and market composition. ‘Disruptive’ innovation themes are not typically limited to a specific industry or asset class and pose both opportunities and risks to investors.

We invest in all segments of the global economy, many of which are likely to be materially impacted by disruptive innovation. Given our long term, whole-of-portfolio approach, we are also well placed to identify and capitalise on opportunities to invest into disruption and manage disruption risk.

We are an active investor in disruption, primarily through our multibillion-dollar venture capital program but also through our hedge fund and global alpha exposures. These programs provide us access to fund managers with insights into the forefront of global technological trends. Our private equity co-investment program also provides direct exposure to pioneering firms at the cutting edge of new technological trends, such as artificial intelligence and 3D printing.

While we aim to harness the opportunities disruptive innovation offers, we are equally cognisant of the risks it poses to our portfolio, especially where our investments are illiquid and/or long tenored. For example, the introduction of autonomous vehicles may have implications for our infrastructure investments, just as the increasing influence of e-commerce may impact our retail property assets.

Predicting the impacts from disruption is inherently challenging given uncertain timelines, pathways of adoption and interdependencies of technologies. To enable us to better identify and manage these issues in our investment activities, we have created a dedicated disruption workstream within our investment team. Our disruption framework is designed to identify and evaluate key disruption trends and link these to our key investment exposures at an early stage, increase the investment team’s knowledge of disruption risk and opportunities and promote greater knowledge sharing between the investment team and content specialists. Over time, we expect that these insights will be a key input into our portfolio construction activities.

Exercising ownership rights

We believe that good governance protects and creates investment value. Moreover, ownership rights are essential to ensuring the appointment and retention of fiduciaries of the highest quality and motivating those agents to support good governance practices and manage value creation over the long term.

Our voting principles, shown below, guide how we exercise these rights in public markets.

Voting our Australian equities shares

Voting rights in publicly listed Australian companies are exercised directly by our organisation.

Where a company resolution is found to be in conflict with our corporate governance principles or does not align with our best interests, we will consider voting against the company board. During 2018-19, we voted against Australian company boards in 8% of all resolutions.

We prioritise the application of our corporate governance principles in making these decisions. However, we also draw on the insight of our investment managers and proxy research providers.

A detailed report on how we voted our Australian shares can be found on our website, and is updated annually.

A summary of Australian voting activity during 2018-19 is presented below.

Exercise of voting rights in publicly listed Australian companies

Voting our international listed equities shares

We exercise all eligible voting rights in publicly listed international companies. Given the scope and complexity of corporate governance and proxy voting regimes in multiple international markets, our external investment managers advise us in exercising these voting rights. These managers, responsible for managing investments on our behalf, are well placed to evaluate good corporate governance in investee entities.

We oversee the quality of our external managers’ insights into corporate governance and proxy voting as part of our Manager ESG Review Framework and by regularly evaluating their ownership policies and proxy voting decisions. We retain the right in all cases to override our managers’ recommendations.

In 2018-19, we exercised proxy votes in respect of 38,102 resolutions at 3,324 shareholder meetings. In the cases where our votes were not exercised, generally our investment manager judged that it was not in our best interests to vote given structural impediments to shareholder voting (such as share blocking/re-registration or power-of-attorney requirements), or that we were ineligible to vote.

In aggregate, we voted against company boards’ recommendations in 11% of all international resolutions.

A summary of international voting activity during 2018-19 is presented below.

Exercise of voting rights in publicly listed overseas companies

Our voting principles

• Companies should disclose accurate and material information on a timely basis to allow shareholders to make informed decisions.

• Companies should respect shareholder rights and their directors should engage shareholders, particularly on major decisions.

• All shareholders should be treated equally and have the right to vote in proportion to their economic interest in the company.

• Companies should compose high calibre, commercially experienced and diverse boards of directors to provide superior business leadership and integrity.

• Boards should appropriately balance measures to protect the capital adequacy of the company with equitable treatment of shareholders.

• Companies should establish a sound system of oversight, management and control of business risks.

• Structures that transfer power from shareholders to management or third parties to protect against takeovers are generally undesirable.

• Boards of directors should be composed to ensure the exercise of objective independent judgement on corporate affairs.

• Companies should have appropriate performance evaluation and incentive systems that align executives with long-term shareholder interests and company strategy.

Engagement with investee entities

Engagement with the boards of the entities in which we invest is a valuable tool for protecting our interests. Such contact is helpful in establishing a climate of long-term asset stewardship, with active oversight from investors and accountability of management to the provider of capital.

Engagement is also used as a complement to voting activities to improve analysis and the signalling power of the votes cast.

In addition, maintaining open, constructive relationships with investee entities improves fundamental investor understanding of the quality of management and the long-term drivers of value, including ESG risks and opportunities.

We engage directly with key investee entities to drive improvement in corporate governance practices and better understand the strategic risks and opportunities to which these organisations are exposed. This direct engagement is conducted mainly with Australian domiciled companies, given the size and influence of our investments in our local market, access to company boards and practical considerations. In international markets, we leverage the engagement activities of our investment managers.

Our engagement meetings are tailored to each organisation. Issues frequently tabled for discussion include: board and executive management quality, strategic priorities, remuneration, environmental and social issues, culture, and long-term value creation. Over the last five years, we have engaged with board representatives from a broad range of Australian listed companies, including across the ASX20.

Where applicable, we partner with investment managers to coordinate engagement activities with investee entities to ensure we communicate a consistent and mutually reinforcing message.

Ownership rights in private markets

Where eligible, we typically exercise the right to appoint a director to the board of an unlisted entity in which we invest directly. In some cases, such as Melbourne and Perth Airports and the Port of Melbourne, our staff sit as directors. In other cases, such as Edinburgh Airport, we have appointed high-quality directors to act on our behalf who are either employees of the relevant external manager or suitably qualified third parties selected in consultation with the manager.

We may also have the right to vote in relation to direct shareholdings in companies or pooled vehicles. In these situations, voting decisions are managed by our private markets teams. In addition, we participate wherever practical in the advisory boards of pooled vehicles that give investors a voice on certain key decisions.

Collaboration and contributing to a stronger investment system

We have a direct interest in supporting financial markets that are stable, transparent and efficient.

Collaboration with like-minded investors is an efficient and effective way of building knowledge and promoting best practice.

The interconnected nature of many of the ESG risks and opportunities faced by long-term investors makes collaboration between like-minded investors attractive.

Participating in collaborations and industry networks, including the International Corporate Governance Network (ICGN), GRESB, and Focusing Capital on the Long Term helps us to address these complex challenges. These structured multi-stakeholder initiatives are complemented by ongoing informal engagement with leading domestic and international asset owners and fund managers in identifying and promoting best practice in ESG integration.

More broadly, we are involved in industry networks that aim to improve system integrity, build new markets and advance best practice for institutional investment. These include: the Thinking Ahead Institute, the Standards Board for Alternative Investments (SBAI), the Institutional Limited Partners Association (ILPA), the International Forum of Sovereign Wealth Funds (IFSWF), the Institutional Investors Roundtable (IIR), the Pacific Pension & Investment Institute, the Australian Investment Council (AIC) and 20-20 Investment Association. Our staff have taken on leadership roles on the Board of Trustees of the SBAI, the Board of the IIR, the Board of the AIC, and advisory committees of IFSWF, GRESB and ICGN.

Portfolio exclusions

Our ESG Policy provides a framework which helps us to determine what entities and sectors are excluded from the investment portfolio for non-financial reasons.

Since 2009 we have restricted all managers of directly held investments from investing in securities issued by companies that are involved in activities that are limited by the 2008 Convention on Cluster Munitions or the 1997 Anti-Personnel Mines Convention.

In February 2013 the Board decided to restrict managers of directly held investments from investing in securities issued by entities directly involved in the manufacture of complete tobacco products.

Where serious breaches of ESG standards are identified, the Board prefers engagement over exclusion, working with the entity to improve performance. The Board reserves the option to exclude an investment for the most egregious sustained activities where the entity is unwilling or unable to change its practices.

The list of companies excluded from our portfolio under our ESG policy is available on our website.