Responsible investment and charities – clarity on the way?

17 May 2021

It is increasingly common for investors to opt for a "responsible" investment strategy, i.e. one which considers environmental, social and governance (ESG) factors as well as financial performance. However, where the investor is a trustee, questions arise as to how ESG considerations co-exist with the trustee’s duty to exercise their investment powers with care and prudence.

The Charity Commission consults on draft guidance

In January 2020, the Charity Commission began a listening exercise which revealed that some charity trustees felt that the Commission’s existing guidance contained insufficient assurance that trustees could take a responsible approach to investment if that might harm their financial returns. On 8 April, the Commission published a consultation (due to close on 20 May), seeking views on draft revised responsible investment guidance. A few days later, in the case of Butler-Sloss v Charity Commission [2021] 4 WLUK 58, the High Court granted permission for charity trustees to bring proceedings to obtain declaratory relief and directions where they wished to adopt "responsible" investment policies.

Why did the High Court grant permission? The Commission’s draft guidance is, the court held, arguably inconsistent with the 1991 case of Harries v Church Commissioners for England (commonly referred to as the "Bishop of Oxford" case). The divergence of opinion highlighted the need for the proceedings to clarify the law.

What is the law in this area?

Some thirty years on, the Bishop of Oxford case remains the leading case in this area for private and charitable trustees. In that case, the court held that “… the circumstances in which charity trustees are bound or entitled to make a financially disadvantageous investment decision for ethical reasons are extremely limited”. This is, thankfully, not currently an issue for many ESG portfolios – which have consistently outperformed their benchmarks. It does, however, create a challenge for charities which wish to invest in smaller companies or start-ups with greater ESG potential or screen out large parts of the economy that are environmentally damaging, because this could create less diverse portfolios (at least in the short term). ESG considerations may not fall within a charity’s objects, but may be in keeping with the preferences of both the trustees and other charity stakeholders.

Does the guidance go far enough?

The draft Charity Commission guidance does not deal with this point directly, but does introduce a much wider set of circumstances in which a charity trustee could justify the risk of accepting lower economic returns on investment. For example, the guidance includes a general statement that "You can take a responsible investment approach even if there is no apparent direct conflict with your charity’s charitable purposes, if you can show this is in the best interests of your charity". The focus remains, appropriately, on acting in the overall best interests of the charity and its objects, and the guidance acknowledges the role that negative and positive screening may have in that wider context:

Some examples of taking this approach to financial investment are: … a heritage charity avoiding investments in fossil fuels because the trustees have evidence that this would damage its reputation, reduce donations and not be in the charity’s best interests”.

By linking investment decisions to donations (rather than focusing on the actual impact of the investment itself), this is consistent with the Bishop of Oxford case because it becomes in the financial interest of the charity to invest ethically. However, for institutional charities, it could be more difficult to prove that a blanket ban on investing in certain parts of the economy would bring in more donations than the amount that would be lost in investment returns. For all charities, including private family charities that do not rely on donations from the public, it is also difficult to assess the impact of a specific investment policy on its reputation.

The draft guidance also does not address the fundamental moral issue: many trustees and charity stakeholders want to invest assets ethically and responsibly regardless of whether it can be said that all their ethical concerns fall within the confines of the charity’s objects. This should be more straightforward for a new charity which can build these considerations into its constitution from the start, but still leaves an area of uncertainty for existing charities with narrow objects. The guidance confirms the general fiduciary principle that "as a trustee, you must not allow your personal motives or prejudices to affect the decisions you take" but changing public perceptions on the importance of investing for the greater good could shift the expectations on charity trustees still further – from permissive to imperative responsible investment.

Looking ahead, the courts may soon have the opportunity to clarify or revise the conclusions of the Bishop of Oxford case to bring the law in line with the Charity Commission’s draft guidance. The resources of the UK’s charities are well positioned to make a positive dent in the estimated $2tn per year that will be required in the transition to a more sustainable global economy and the Charity Commission can continue to play an important supervisory role to support that.