Author: CHERYL CHENG, CPA, CA, CFA | VRC TORONTO
CPP Investments, the Ontario Teachers’ Pension Plan Board (OTPP), and the Ontario Municipal Employees Retirement System (OMERS), the most active institutional investors in Canada with a combined AUM of over a trillion dollars, have committed to net zero by 2050 across their portfolios.
To achieve a net zero commitment, the pension plans have set goals to increase investments in green and transition assets and expand the green bond issuance programs, among other efforts.
CPP Investments: “We will continue to invest and exert our influence in the whole economy transition as active investors, rather than through blanket divestment.”
OTPP: “With the unprecedented impacts of climate change upon us, this journey isn’t only about driving our portfolio to net-zero emissions; it’s also about helping the world around us get to net zero.”
OMERS: “We believe well-run organizations with sound ESG practices will perform better, particularly over the long term. We believe, therefore, that ESG factors may be relevant to the financial performance of the companies and assets in which we invest.”
Investing in the Energy Evolution
From an investment standpoint, the strategy is to invest in the energy evolution – seeking returns by identifying secular beneficiaries such as renewables, clean technology and services, green buildings, and companies seeking to decarbonize or transform their businesses. As long-term active investors, the pension plans look to invest in companies that evolve and innovate along the global evolution to a net-zero world, including the sectors that are the core of the economy, such as energy and power.
Some examples of green and transition investments are as follows:
CPP Investments: “Wolf Midstream, which owns and operates the Alberta Carbon Trunk Line, the world’s newest integrated large-scale Carbon Capture Utilization and Storage (CCUS) system…is an example [of investing] anywhere along the energy value chain. Based on the technologies available today, CCUS is already economically viable in some agricultural and industrial application and will become more broadly viable as capture costs fall and carbon prices rise.”
OTTP: “In 2021, [we] acquired a 50% stake in a portfolio of US-based renewable assets from NextEra Energy, the world’s largest generator of wind and solar energy and a leader in battery storage. These assets replace higher-carbon energy sources and fulfill the energy needs of a more sustainable future.”
OMERS: “THE STACK is…office tower in development in Vancouver. The tower is aiming for a LEED Platinum green standard target and will be one of two towers in Canada to be part of the Net Zero Carbon pilot.”
From a financing perspective, the issuance of green bonds provides the pension plans with additional funding to pursue assets such as renewable energy (wind, solar and green hydrogen), green buildings, low carbon/clean transportation, and energy efficiency (develop, operate and maintain renewable energy battery storage).
Most recent issuances include:
- CPP Investments1: Issued €1,000 million 0.25% Fixed Rate Note Due 2027 in March 2020
- OTPP2: Issued €500 million 0.95% Senior Notes Due 2051 in November 2021
- OMERS3: Issued $500 million 4.00% Senior Notes Due 2052 in April 2022
From a reporting perspective, pension plans voluntarily report on total carbon emission and carbon footprint metrics at the portfolio level4. This marks their first step in ESG-related disclosures. The pension plans also work with regulators5 and advocate for broad alignment of reporting at the company level to improve the quality, quantity, and comparability of ESG disclosures.
It is a shared belief and a critical next step for companies worldwide to report consistent, comparable, and accurate information on climate change-related factors. This will enable market participants to understand better and evaluate and access potential risks and opportunities.
From a valuation standpoint, given the obscurity in ESG-related disclosures amongst public and private companies as of a current date, there is insufficient data for valuators to evaluate and assess any ESG-related premiums or discounts in the market. We expect the information will improve with global regulators’ efforts in potentially mandating ESG disclosures and requiring companies to report under internationally-recognized, industry-specific, and rule-based standards.
For certain sectors, such as renewables, ESG considerations are priced in and reflected in the discount rates derived from recent transactions in the private market. From our experiences working with global investors active in the renewable sector, the discount rates can typically be considered a base IRR, adjusted for risk exposures such as greenfield vs. brownfield assets, onshore vs. offshore, generation type, and geopolitical risks.
Regarding green bonds, the active issuances are mostly investment-grade and generally priced at a slight discount premium (lower yield) compared to similarly rated bonds. This is likely attributable to the lack of comprehensive ESG disclosure in the broader market; pricing is mainly tied to credit rating at this point. With better ESG disclosure, we expect to see more pricing differentiation between green and conventional bonds. There has been only a handful of high-yield green bonds issued to date. Still, this market segment has the potential to grow as growing numbers of investors are incorporating sustainable investing into their investment strategy.
We welcome you to contact us for a deeper conversation on how VRG can assist your organization in managing ESG-related considerations.