Much as ESG engagement is melded with engagement on governance or other topics. ESG strategies can be expected to meld with other counterparts. ESG integration can take place in any investment strategy, fundamental analysis, value based investing. Growth investing, short selling as well as an asset classes beyond public equities and quant based strategies. Jerome Dodson Parnassus Capital's chairman and the manager of its endeavor fund founded his firm in 1984. In doing so, he pioneered what was then a new way of investing. He evaluated not just a company's finances, operations and competitive advantage, but also it's social and environmental impact. Dodson was convinced that companies that treated their people, their communities and the environment well. And were fair and forthright with shareholders would thrive in the long term, outdistancing competitors that focus solely on short term financial gains. His firm, Parnassus, grew along with the market's enthusiasm for ESG investing. By 2020 Parnassus ran five mutual funds which together contain more than $30 billion dollars in assets. Several of those funds own stock in Wells Fargo. For Parnassus to buy a stock, it's fund managers had to believe a company was both fundamentally sound with capable management. And a durable competitive advantage as well as a solid SG performer. But solid wasn't the same as perfect. Companies like people are never perfect and stocks that approach perfection are often priced accordingly. To find attractive buys, Parnassus fund managers and analysts assess the totality of a company's ESG performance. And they were sometimes willing to bet on the ability of a company to improve. Some ESG issues were automatic disqualifies, Parnassus would not own any company that derived more than 10% of its revenue from alcoholic beverages. Fossil fuels, gambling, nuclear power, tobacco or weapons. But assuming a stock past that screen and a portfolio manager guarded as financially attractive, Parnassus is a team of ESG. Analysts would assess its environmental, social and governance risks. They aim to determine the risk's relevance in the company's particular industry. And there's significance to its stock value, Parnassus explained the approach in a brochure about its process. In that brochure, they wrote ESG research on an industrial company may emphasize employee health and safety and environmental impact relative to others in the same industry. Whereas ESG research on a technology company may emphasize work ports, workplace positives and data security. An important consideration is whether the company is moving in a positive or negative direction on the issues that are material within its industry. Parnassus is team of ESG analysts would dig into every company. The portfolio managers were considering buying, they do their own research into the major controversies pertaining to a stock. And then examined ESG metrics compiled by different data providers, including sustainability XMSCI and others. The ESG analysts were tasked with determining what was the most material issue to a company's value. A material ESG risk, whether a record as a polluter or repeated accusations of discrimination, could threaten a company's stock price just as much as a financial stumble. Our tagline is principles and performance, and we're always trying to find that balance, said Dodson. If we feel the ESG materiality is significant enough or if the fundamentals are deteriorating enough will divest. Once Parnassus bought stock in a company, the company's direction of ESG change its improvement. Or deterioration was monitored through ongoing engagement with the executives and the investor relations staff. Rather than waging public fights over proxy votes as peter did, Parnassus engagement took the form of frequent meetings, calls with the management and suggestions about how to improve. In our experience, Dodson said building positive relationships with management is an impactful way to affect corporate change when he is. She controversies did arise, as they inevitably would, Parnassus didn't automatically sell. Rather, the firm's fund managers and analysts would engage with the company executives to understand the extent of the problem. Why it happened, how the management was working to prevent a recurrence if we had to sell a large cap stock. Every time there was a negative storyline. I don't know what we could own, said the Parnassus portfolio manager Ian Sexsmith. One case in particular highlighted the challenges of such efforts at balancing financial performance on the one hand and ESG performance on the other. The decision was when and whether to divest from Wells Fargo. Wells Fargo was a bank, but it didn't call its retail offices branches, it called them stores. Branch personnel were implored to sign customers up for at least eight accounts or bank services. Because the CEO Richard Kovacevich like to say eight is great cross-selling as the practice was called, worked. The more products the bank had within the bank, the more profitable that person tended to be. And the more likely they were to remain a customer, that zeal for treating credit cards like a clearance rack at a discount retailer. It was part of what landed Wells Fargo in trouble. For years Wells Fargo had endured an occasional news story about how its branch personnel pushed products customers didn't want or didn't need. But none of those amounted to much until September 8th 2016. On that day, the US office of the comptroller of the currency and the Consumer Financial Protection Bureau, both federal regulators, as well as the Los Angeles City Attorney. Announced that as part of a settlement, Wells Fargo would pay $185 million $2.6 billion dollars in inappropriately charged fees. The regulators said that Wells Fargo employees had opened two million bank accounts and credit cards without customer authorization. Some customers noticed the bogus accounts when they received credit debit cards in the mail or when they were contacted by bill collectors. In some cases, bank employees close the account soon after opening them and in others, they signed up their own family members. The ruse is helped these bank branch managers meet their sales goals. As part of the announcement, the regulator said that over the prior five years, the bank had fired 5300 employees out of a total staff of 270 000. Because of such improper sales practices. Wells Fargo would soon end one of its management practices that had motivated employees, dishonesty in branch level sales calls. Carrie Tolstedt, the executive in charge of the branches, was already slated to retire at the end of the year. This settlement was seen as just a ding for the bank with the stock market capitalization of over 240 billion. It amounted to only 3% of Wells Fargo's second quarter profits. Congressional hearings followed, though. And during this period, Parnassus personnel spoke with CEO stump and his head of investor relations regularly. The discussions focused on what they were doing to address the root of the problem, which was the compensation practices for their sales force. And the Wells Fargo executives had answers. They were making changes. The bankers stressed the problem had been concentrated among branches in southern California and Arizona. And that at any given time only 1% of the bank's employees were even involved. They couldn't explain why the conduct was so widespread or so prevalent in the southwest, but they were taking corrective action. The bank then announced that the CEO and a former branch manager would forfeit 41 million and $19 million of pay, respectively. In the next round of engagement with Parnassus, a new Wells Fargo CEO and a new CFO stressed the mistakes had largely been remedied. All checking account customers had been reimbursed for any improperly imposed fees and credit card customers soon would be. Along with having any downgrades to their credit scores corrected. But the bad news kept coming. The bank, for example, was subsequently accused in a lawsuit of improperly modifying customers mortgages. It also admitted that it had charged 570,000 customers for auto insurance they didn't need. A further eye popper emerged on August 31st when Wells Fargo revealed that had identified another 1.4 million improper accounts, bringing the total amount to now 3.5 million. With that announcement, the bank claimed its investigation of fake accounts were complete. In a telephone call with a reporter, the CEO called the day an important milestone with which Wells Fargo plan to build trust with its customers. Parnassus team members had another conversation with the CEO of Wells Fargo and his deputies around this time. The CEO Sloan told them that the bank had aired on the side of caution and included both definite and possible bogus accounts in the updated fake accounts number. The CEO said to that reforms within the community bank were showing results, with turnover falling to its lowest level in four years. Branch employees were now being compensated based on service quality, not sales quantity. Overall the portfolio managers at Parnassus believe that the bank was making progress on restructuring and repairing its damaged reputation and that is shareholders. They would have to assess top management and their ability to continue to press for improvements and accountability. But they also knew that reputation lags reality and that financial advisors and they're fund shareholders might continue to second guess them. We felt like Wells Fargo was contrite that it was taking responsibility in terms of firing Stumpf, clawing back a bunch of money from him and a bunch of other folks that were let go Allen said. But we knew it was a controversial decision to be patient with the company. As part of its engagement with Wells Fargo, Parnassus had asked Wells Fargo to return, in the form of a charitable contribution. All profits from its investments in the controversial Dakota access pipeline. These contributions were to be made to the standing rock Sioux. In November 2017 Parnassus effort bore fruit when the bank announced a $50 million five year plan to assist Native American nations. As part of a raft of measures, Wells Fargo committed to improving Native Americans access to loans. Including funding for affordable housing assistance with environmental sustainability by financing renewable energy. And clean water projects and hiring a business manager for Native American relations. In late November, Parnassus is director of ESG research sent what he termed a bittersweet email about the announcement. Wells Fargo finally came through with their charitable contributions to the Native American community. He wrote, you should feel good about this contending for the little guy had actually worked. If one tabulated the pluses and the minuses, Wells Fargo looked like a company moving in the right direction. But the ESG risks aren't just check marks, that one can add up the growing evidence of systemic flaws in the governance of customer management. That incented fraud and widespread customer abuses would lead the Federal Reserve Board of the United States on February 2nd, 2018. To impose a cap on Wells Fargo assets until the Fed was satisfied that it cleaned up its act. Only at that point, Parnassus divested while, on the one hand, the divestment demonstrated the linkage between ESG. And financial performance, investors at Parnassus might question whether a more sophisticated ESG process. Rather than just the tabulation of pluses and minuses would have led to an earlier decision to dump the stock.
