Activist Funds Make Waves

A new class of social investor doesn't believe in boycotting problem companies -- it's opting to reform them from within

Socially responsible investment managers are known for avoiding shares of companies that pollute the environment, deny health benefits to employees, or violate other ethical or environmental criteria. Yet Green Century Capital Management, which specializes in social investing, owns shares of ConocoPhilips (COP ) and ExxonMobil. The Walden Social Equity Fund holds two oil companies, BP (BP ) and Apache (APA ). And MMA Praxis Core Stock, a fund that follows Mennonite teachings, holds Wal-Mart Stores (WMT ) shares.

These stocks may not meet the typical screening criteria used by socially responsible funds. But for these managers, being shareholders allows them to lobby management to make changes. That's better, they say, than simply avoiding undesirable businesses or whole industries. "Our interest is not just in keeping our hands clean but [also] in making the world a better place," says Mark Regier, who oversees shareholder activism at MMA in Goshen, Ind.

Socially responsible funds are just a blip on the mutual fund radar, but they have a robust growth rate. Some 200 funds boasts assets of $37.4 billion, up 21% from a year ago, according to Lipper. The sort that invest in once-taboo companies make up just a small part of the social investing sector.

Investors don't necessarily surrender anything in performance to pursue nobler goals, but individual fund returns do vary. The Green Century Balanced Fund has a 24% a year average annual return for the three years ended Oct. 10, beating the Standard & Poor's 500-stock index by eight percentage points, according to Morningstar (MORN ). Walden's fund, on the other hand, has been a laggard, with a 13% average annual return. By contrast, the Vanguard Calvert Social Index Fund -- a more traditional fund that screens out offenders -- is up an average 15% a year.

Managers of activist funds say sticking with problem companies allows investors to start a dialogue, bring resolutions before shareholders at annual meetings, and press management for improvements. MMA Praxis, for example, held on to Wal-Mart after the retailer was booted from the Domini 400 Social Index in 2001 over labor and human-rights conditions at some suppliers. "If you are concerned about the people who are hurt by Wal-Mart's policies, you will be doing absolutely nothing for them if you are not a shareholder," says Regier. Social funds, along with allies at pension funds and religious groups, filed almost 300 shareholder resolutions in the 2004-05 annual meeting cycle, according to the Interfaith Center on Corporate Responsibility.


The push toward greater activism is happening as simple screening methods have come under increased criticism. Studies by Meir Statman, head of Santa Clara University's finance department, have found that social investing funds' avoidance of certain companies had no discernible impact on share prices. Last year environmentalist Paul Hawken published a paper showing that screening criteria were being applied inconsistently: Tobacco giant Altria (MO ) and oil services and defense contractor Halliburton (HAL ) were held in some funds. "The term 'socially responsible investing' is so broad [that] it is meaningless," wrote Hawken. Earlier this year the socially responsible funds attracted unfavorable attention when they grappled with how to treat Starbucks (SBUX ). Pax World Funds, with $2 billion in assets, dropped the coffee chain after it put its name on an alcoholic beverage, even though the company is widely considered to be a paragon of good workplace and environmental values.

Taking on corporate managers through shareholder resolutions is a slower and more complex process than simply screening out offenders, but this method has a growing track record of accomplishments. One by one, almost all the major oil companies have dropped out of a lobbying group seeking drilling rights in Alaska following shareholder pressure. Nike (NKE ), Gap (GPS ), and TJX (TJK ) have agreed to investigate and report on conditions at the factories of their overseas suppliers. And Wal-Mart created a unit with 200 employees that last year oversaw audits of some 7,600 factories, according to the company.

The TJX example illustrates, however, that the activist strategy can take time to show results. Timothy Smith, Walden's director of socially responsive investment, says he and other investors first raised the issue of overseas working conditions at TJX suppliers five years ago. Initially the company wasn't responsive. In part, that was because only a small portion of sales came from its house-brand labels. At the company's 2002 annual meeting, Walden's resolution asking for a report on vendor working conditions garnered the support of just 5% of shareholders. The next year a resolution on vendor standards got 8% of the vote, then 10%. Last year the company hired an outside expert to investigate. "It's a work in progress," says Smith.

The Mennonite funds have also been active trying to raise coffee bean prices for individual farmers who produce a great deal of the world's coffee crop. Big coffee buyers such as Procter & Gamble (PG ) have long relied on huge commercial outfits that paid the growers little. In a November, 2002 letter, MMA and others sought to persuade P&G to buy directly from small farmers. Less than a year later the company agreed to buy "fair trade" beans -- the term for coffee sold by farmers' nonprofit cooperatives -- for its specialty Millstone label.

Green Century, a money-management firm started by environmental advocacy groups, takes an unusual approach to qualify as a shareholder for some of the companies it deems harmful to the earth. Instead of holding shares of ExxonMobil (XOM ) or Chevron (CVX ) in its mutual funds, the management company itself buys shares. That way, the funds don't own them, but the socially responsible point of view can be heard. Says Green Century President Amy Perry: "We exist to change corporate environmental behavior."

By Aaron Pressman

    Before it's here, it's on the Bloomberg Terminal.