ESG CASE STUDY, Tencent
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ESG CASE STUDY FEDERATED HERMES INTERNATIONAL GROWTH EQUITY TEAM Tencent A multinational consumer technology conglomerate Founded in 1998 89,228 employees Headquarters: Shenzhen, China Martin Schulz Hanah Chang Portfolio manager EOS engager How Federated Hermes’ International Growth Equity team incorporates ESG The Federated Hermes International Growth Equity team’s investment approach integrates top-down country allocation and bottom-up stock selection. Rather than focusing purely on short-term cyclical opportunities, our top-down country analysis recognizes the importance of how markets and investment performance may be impacted over time by variables such as economic growth, liquidity, currencies, regulatory issues, fiscal and monetary policy and overall market sentiment. Likewise, we concentrate on a company’s growth rate with the goal of identifying securities capable of delivering improving and sustainable earnings growth over the mid to long term. We take that same long-range view when it comes to integrating environmental, social and governance factors into our investment process. We incorporate ESG factors holistically as part of both our top-down and bottom-up analysis. Integrating analysis of ESG factors offers a complementary stream of information to identify opportunities and potential risks at the country and security level that may not ordinarily be uncovered with traditional fundamental analysis. Investment thesis: Tencent Since 2010, Tencent has grown earnings-per-share by more than 28% (compounded annual growth rate) and is a leader in accelerating future Although not a household name to many Americans, Tencent is a social growth areas noted earlier. Continuing to demonstrate resilient funda- networking, e-commerce, cloud computing, music, fi ntech, internet mentals, Tencent’s powerful brand, low production costs and diversifi ed services, artifi cial intelligence and multiplayer online gaming jugger- revenue sources have enabled it to survive—and even thrive—during naut—as well as one of the world’s leading venture capital fi rms. The periods of economic adversity, including the Covid-19 pandemic shock. largest company in Asia, its market capitalization ($470 billion) puts it among the top 10 companies in the world. ESG factors specifi c to the fi rm and its sector The Federated Hermes Growth Equity team’s interest in Tencent began in 2007 when our top-down country allocation process was to overweight Tencent’s growing user statistics and the sector’s infl uence mean that Hong Kong/China and our bottom-up screens identifi ed the company’s various ESG themes—digital rights, human capital management and potential. As part of our due diligence, we met with Tencent’s manage- climate change—have become relevant for this industry. Tencent is also ment team and founder, Pony Ma, who continues to run the company investing heavily in artifi cial intelligence, especially in the health care and remains personally invested in the fi rm. Tencent’s tested leadership sector where the fi rm has developed a medical imaging application. Local team impressed us with its clearly defi ned growth strategy. Likewise, the authorities also have started to focus on antitrust issues. Geopolitics company’s strong balance sheet and accelerating earnings growth fi t well became part of the picture, too, when the former Trump administration within our bottom-up stock selection framework. Having confi rmed the announced a U.S. ban on transactions related to WeChat in a warning shot company’s potential, we have been shareholders ever since. at Beijing. WeChat is Tencent's ubiquitous messaging service that has over 300 million active users. In February of 2021, however, the Biden administration indicated that it would temporarily halt and review the ban. Not FDIC Insured • May Lose Value • No Bank Guarantee ESG CASE STUDY Tencent Proprietary ESG assessment: Analytics and engagement ESG analytics Federated Hermes has developed a full suite of proprietary ESG analytics to help investment teams identify improving or deteriorating ESG risks across our investable universe. One of the tools is our in-house Quantitative ESG score which monitors environmental, social and governance rating momentum from 10 leading data vendors. The Federated Hermes International Growth Equity team has incorporated the QESG score as a part of its multi-decade security-selection model. Reviewing all the fundamental and ESG information in totality, analysts rate each company from 1 to 100 based on the materiality of each subcategory (E, S & G), resulting in an aggregate score for every company under coverage. For Tencent, our aggregate score was 61.86 and has improved consistently over the course of the last two years. Notably, its environmental pillar score of 73.90 has improved over that same time frame. ESG engagement A key dimension of our fi rm’s ESG capabilities is EOS at Federated Hermes, a global team of ESG subject-matter experts who directly engage with thousands of corporate issuers to better understand and improve their sustainable path forward. The EOS engagement team has been meeting with Tencent since 2015. Our high-touch engagement with Tencent has prompted some encouraging responses, particularly regarding board diversity and measurable progress on climate disclosure and digital rights. Ensuring diversity of board oversight is vital to good decision-making, which helps build a long-term sustainable business. In the fi rst quarter of 2019, EOS engaged with senior leadership on board composition, and in the summer of 2019, we received confi rmation that the board acknowledged that gender diversity throughout the organization should be improved. The company confi rmed its commitment to taking initial steps to grow the talent pool for independent directors, including expanding the search to candidates beyond traditional technology and business backgrounds. In August 2019, the company successfully appointed a female director with a health science background, one of the key areas where the company is offering smart industry solutions through cloud and innovative technologies. Tencent continues to implement its board diversity policy to ensure that the board has the appropriate balance of skills, experience and diversity of perspective. For years, EOS has also been engaging with Tencent on digital human rights. In April of 2020, EOS discussed data governance and privacy policies with the company. Chinese regulations include requirements to protect personal information and individual privacy online. In general, the Chinese Cybersecurity Law follows the example set by the earlier European Union General Data Protection Regulation. Since the new regulations came into force, Tencent has made improvements to its privacy and security disclosures—especially by providing more clarity on the underlying purpose of personal data collection and how the company processes that information. EOS suggested to Tencent that it could improve standards further by providing additional clarity on how the company implements and monitors its privacy policies in offshore jurisdictions, where local laws and regulations differ from Chinese legal standards, especially around human rights. Next steps Tencent is not the only major technology company facing diversity, cybersecurity and regulatory risks, which are steadily rising, especially for social media enterprises. The company has displayed progress, but we continue to engage on its broader diversity agenda under human capital management and look for opportunities to set more specifi c targets at the executive management level. EOS also continues to engage with the company on increased data governance disclosures. Greater transparency in its annual report or separate sustainability reporting would demonstrate the fi rm’s commitment to data privacy and protection. As global policy makers, regulators, investors and other stakeholders step up demands that companies disclose their non-fi nancial performance and footprint, Chinese business leaders like Tencent and the government itself are stepping up their emphasis on ESG practices. We believe Tencent is likely to seize the opportunity to increase its ESG focus not only in response to these pressures but also because of its growing awareness that strong ESG practices can pave the way to a more resilient business and open up new markets for sustainable products and services. Investors should carefully consider the Federated Hermes International Growth Fund's investment objectives, risks, charges and expenses before investing. To obtain a summary prospectus or prospectus containing this and other information, contact us or visit FederatedInvestors.com. As of 3/31/2021, Tencent was 3.29% of the Federated Hermes International Growth Fund. The holdings percentages are based on net assets at the close of business on the date above, and may not necessarily refl ect adjustments that are routinely made when presenting net assets for formal fi nancial statement purposes. Because this is a managed portfolio, the investment mix will change. Current and future portfolio holdings are subject to risk. Mutual funds are subject to risks and fl uctuate in value. The case study is shown to demonstrate engagement. EOS does not make any investment recommendations and the information is not an offer to buy or sell securities. International investing involves special risks including currency risk, increased volatility, political risks, and differences in auditing and other fi nancial standards. Prices of emerging-market and frontier-market securities can be signifi cantly more volatile than the prices of securities in developed countries and currency risk and political risks are accentuated in emerging markets. Due to their relatively high valuations, growth stocks are typically more volatile than value stocks. The use of derivative instruments involves risks different from, or possibly greater than, the risks associated with investing directly in securities and other traditional instruments. There is no guarantee any investment approach will be successful. Past performance is no guarantee of future results. G85066-23 (6/21) FederatedInvestors.com Federated Securities Corp. © 2021 Federated Hermes, Inc. .