What is an engagement policy?

Engagement refers to the dialogue and influence investors exert over portfolio companies (PCs) concerning sustainability matters. Engagement serves as a way for active investors to steer portfolio companies in the 'right' direction towards increasing their sustainability-related ambitions and considerations. An engagement policy describes how shareholder engagement is integrated into the investment process, and sets practical approaches to be employed, as well as reporting and communication guidelines.

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Do you need to disclose your engagement policy?

Disclosing your engagement policies is a requirement for Alternative Investment Fund Managing Directors (AIFMD) as stated in Article 3g of the European Shareholder Rights Directive II (SRD II).

The requirement works on a 'comply or explain' basis, and was transposed onto Dutch national law on Article 5:87c of Dutch Financial Supervision Act.  

If you want to classify one of your Funds as an Article 8 or 9 product, it is not mandatory —but recommended— to set an engagement policy. Disclosing your engagement with PCs demonstrates you have a clear process for supporting your PCs in achieving the sustainability ambitions you have set for your Fund.

Even if you decide not to set up an engagement policy, these processes should be included in your sustainability risk disclosure, to showcase how you integrate sustainability risks in the investment decision-making process, and how you plan to achieve the targets you set for your Fund for the promotion of sustainability characteristics (Article 8) or for the attainment of environmental or social objectives (Article 9).

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Build your Own Policy

As a starting point for your firm's building of an engagement process, you must determine which companies you would like to engage with and which tools will effectively serve you to do so.

Engagement Checklist

The following checklist allows you to get a comprehensive overview of the steps you need to take to ensure your engagement policies have been coherently designed.

1. Develop your engagement plan and collect internal approval
2. Define the focus and any sectors that might be particularly involved.
3. Determine a scope of companies - you can engage with all companies, or only with certain companies which are particularly relevant to your portfolio.
4. Decide which engagement tools you will employ, taking into consideration the resources necessary for their implementation  
5. Establish a way of initiating communication with the relevant companies  
6. Design a clear plan that you will provide to the PCs, including what information you need from them and by when.
7. Prepare processes to measure the outcomes or impacts of the engagement, and think about resource, time and staff allocation in advance  

Once you have completed going through this checklist, you should be ready to publish your engagement policy and enforce it!  

Keep in mind you should be as transparent as possible in building the policy.

It should be clear why you have selected these specific methods of management or performance monitoring, and how that will bring value to the fund.

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Engagement Tools

The following (non-exhaustive) list enumerates some of the most common such tools:

1. Active dialogue: Having direct discussions with portfolio companies (and other relevant stakeholders) concerning strategy, marketing, innovation, or impact-related topics.
2. Become the 'Impact Steward': Support companies by exercising your role as steward and through supporting the development of the impact frameworks (theory of change, building of impact frameworks and policies, determining relevant KPIs).
3. Shareholder Collaboration: Collaborate with other, like-minded investors, companies and other stakeholders on engagement projects.
4. Helping with talent building: involve your investment manager with establishing an employee participation plan and financial incentives for portfolio companies to ensure talented professionals are attracted and retained and that the labour conditions are fair.
5. Helping with governance building: involve investment manager with ensuring coherent and sustainable governance structure within portfolio companies.
6. Management of Crises: involve investment manager with providing support to PCs which are dealing with an internal crisis (i.e., loss of senior management employee, design or development issues, loss or serious customer, etc).
7. Providing knowledge centre: doing educational trainings and outreach with the marketplace, organising summits to identify and plan on how to reach important milestones, or sponsoring academic and other forms of research and analysis on specific issues, with the advantage of increasing market participants' awareness of sustainability goals.

How to choose Engagement Tools

To determine which engagement tools are correct for your firm's specific needs, a few questions can prove helpful to determine your strategy in starting the engagement with a specific PC.

How do investors feel about the issue and industry?

Do they share similar interests and opinions on the matter?

Collaboration in those instances can prove effective and simplify the effort needed from you as investment manager, but can only be established after careful consideration of the risks and opportunities associated therewith.

Do you have a good relationship with the board of the PC?

Then it might be a good idea to adopt a top-down approach.

Is there already an internal staff member who is pushing for adoption of such measures?

Then, you might want to opt for setting up an initiative with more baseline employees.

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When deciding who the relevant person to begin engagement with is, it is important to consider:

i) the value you place on building long-term relationships with your PCs

ii) your envisaged holding period with them.

If you want to maintain a longer relationship with a company, you should try to talk to board management and adopt an engagement policy consistent with their views.  

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Engagement Policies in the PAI Statement

If you decide to opt-in for the Principal Adverse Impact ('PAI') framework, you also need to  disclose relevant information of these engagement policies. Engagement policies are one type of 'action to be taken' to incorporate consideration of the PAIs into the investment strategy.

Generally, this would require you to write a short chapter within your engagement policy on how you will approach:

i) the PAI data collection

ii) how the results of the PAI indicators yearly will be assessed to identify need for further engagement

iii) the process for deciding on which companies to engage with and how

iii) how frequently and using which tools you will engage with the PCs on their PAI results.

414 specialises in assisting financial entities with SFDR compliance. Our tool enables private equity investors to measure all sustainability indicators of their portfolio companies and prepare disclosure documents at both entity and product levels. Additionally, we offer consultancy services on sustainability reporting matters and provide tailored guidance throughout the reporting process.