Modern slavery is a social evil that still persists today. Whilst it’s illegal and it’s a crime, there’s currently more than 50 million people who are subject to modern slavery-related practices. This can include things like child exploitation, sexual exploitation, forced marriage, wage theft, deceptive recruitment practices and forced labor. It’s not just an emerging-market issue, it happens around the world. For us as investors, we may have unintended exposure to these practices in our investing companies, either in their own operations or in their supply chain. We think that investors have a key role to play to detect and disrupt modern slavery. Not only is it the right thing to do, but for us as fundamental investors, it also helps us understand companies better. There’s a couple of reasons of why we think that modern slavery has the potential to be one of the next big things when it comes to ESG integration.
The first one is legislation. We see a tsunami of legislation moving in this direction, and we generally categorize that into three categories. One is the legislation to report, including modern slavery acts in the UK and Australia. The second category is mandatory due diligence requirements, which we’re already seeing in a number of European countries, and we’re waiting for further details from the EU. The final category is legislation, which bans products made with forced labor from entry to country. All of those combined really can have a reputational and a legal implication for investing companies. The second reason that we think that modern slavery has the potential to be a big next theme is the interest of the media. On nearly a daily basis, we can see headlines related to corporates that may be associated with practices either in their operations or in their supply chain. Then finally, consumers are starting to pay an interest in this area.
So we see small and more of a niche category whereby consumers are really focusing on the ethical credentials of products they’re buying. If we combine all these three factors, the legislation, the media interest and the consumer interest, we believe that there’s risk in opportunities that we as fundamental manager can incorporate in our investment process. It allows us to take a more holistic view of companies. Issues that are occurring either in operations or supply chain related to modern slavery can be taken as a proxy for how companies are managing these issues more broadly. It therefore can help us have a better insight in the operations and the supply chain, which can lead to better understanding of the company.
Incorporating that in the investment decision can lead to better risk-adjusted returns for our clients. In order to answer the question, let me start with our overarching approach. We have a three-step process. The first step is to identify how companies are exposed on a three-by-three grid in their own operations and their supply chain. Now, acknowledging that risk is not necessarily bad, in step two we then assess how companies are managing these risk. We do that based on a proprietary best-practice framework on round five pillars.
The third step is that we integrate that into the investment process. Now, with regards to step two, assessing how companies are managing these risks, we felt that there are a number of industries that have a particularly high risk, but the risk between these industry greatly varies. We’ve developed best-practice frameworks for the apparel industry, for mining, the financial sector and fish. These are generally industries that are known to have a very high risk of modern slavery-related factors and practices. If you look, for example, at the apparel industry, the workforce is largely dominated by females working in a factory. The risk there are very different than if you look at the fish industry, where there are young men working at sea where social audits are much harder to complete. Allowing to distinguish between what the risk factors are, as well as what the solutions are, helps us to have more thoughtful engagement with companies operating in these sectors.
Generally, companies are comfortable talking about things like board composition or remuneration plans. Most companies these days are aware of their carbon footprint and are comfortable talking about that. But it’s much harder for a company to have open conversation about the potential human rights–related issues occurring in either their operations and their supply chain. We’ve been engaging with companies on modern slavery-related issues for a number of years. We’ve engaged with over 19 companies at more than 120 meetings.
There’s a couple of lessons that we’ve learned. So let me start off. In 2021, we included modern slavery in our thematic engagements campaign. There were a couple of objectives as part of that. We worked with investments analysts from the various actively managed equity portfolios and the number of fixed-income analysts. They picked their own target companies who they wanted to focus on to have a conversation around their modern slavery practices. What we learned is that companies with high risk exposure generally have a better understanding of the risk, and are better at managing that. Those companies with less obvious exposure are generally less aware of the risk.
Generally, companies do not want to be associated with human rights abuses either in their own operations or in their supply chain. What we have found, that if you communicate clearly on what your expectations are and not try to single out a particular company and clearly give indication of where you think a company can improve, we have had very positive engagements and we actually have seen companies making progress on some of the issues that we’ve asked them to take action on. I think in the markets, there’s generally a misunderstanding that modern slavery- and human rights–related risks are not necessarily material.
We may have a slightly different view there. One, if you look, for example, at event-driven ESG risk related to modern slavery, there are plenty of examples whereby you can see that it has had an impact on the company. For example, there’s been a financial institution which failed to report a large number of transactions related to child exploitation. As a result, both the CEO and the chairman ended up leaving. During the pandemic, a number of rubber glove producers have been hit with import bans in the US. That had an impact on the companies themselves, as well as on the broader medical industry, which source rubber gloves.
Then finally, there have been plenty of examples in the apparel industry that have hit the news lines. If you look at all of those event-driven issues, they do have an impact on companies, and we as active investors are trying to understand these issues. Looking at how companies are managing these issues, we can take as a proxy for supply chain management more broadly. From the engagements that we’ve had with companies managing your supply chain well, including modern slavery-related risks, may lead to a more flexible supply chain and may lead to more supply chain stability. All of these factors combined we take into consideration when we’re assessing how companies are managing modern slavery-related risk and how that can impact the financials of a company.
We think that the financial industry can play a key role in detecting and disrupting modern slavery. It obviously starts with raising awareness. People need to understand that this social evil still persists. Then it needs to be tied into action, and there’s plenty of action that we can take. For example, we’ve tried to take this through engagement, but we also recognize that this is a big social economic issue and we cannot do it alone. So there’s plenty of industry initiatives that focus on collaborative engagements, as well as investor statements that asking investing companies to provide more transparency. You can also think about collaborating with NGOs and expert organizations both for action as well as raising awareness internally.