Week 4

Question 1

What is the purpose of making SFDR mandatory (2 answers)?

Answer 1

Transparency: lowering information asymmetries
Comparability: common sustainability indicator

Question 2

What is the mandatory ‘greenness’ certification companies have to give themselves?

Answer 2

Funds are required to report their sustainability labels:
Article 6: Brown/ Gray: no ESG alignment, financial objective only

Article 8: Light-green: financial objective + alignment with ESG characteristics

Article 9: Dark-green: financial objective + having a sustainability objective

Question 3

What are the 2 problems with measuring impact?

Answer 3

(1) Publicly traded funds have very large portfolios
Impossible to do detailed due diligence/ monitoring on all portfolio firms (for 100% sustainable investments goal)
Exclusion limits investment scope –> idiosyncratic risk

(2) How do we quantify sustainability?
Morningstar: to what extent does the company revenue contribute to the SDGs?

Question 4

Name 2 measures to quantify the sustainability of an investment

Answer 4

1. Revenue weighted approach
   Impossible to get 100%
2. Pass-Fail approach
   What about fossil fuel firms that invest in renewables?

Question 5

Name 5 drivers for value creation in PE / VC

Answer 5

Product differentiation
Leverage of reputation
Cost advantages economies of scope
Economies of scale
Absolute cost advantages

Question 6

What is the formula for Economic Value Added (EVA)?

Answer 6

Conventionally: value added consists of financial gains only

𝐸𝑉𝐴=(𝑅𝑂𝐼𝐶 −𝑊𝐴𝐶𝐶)×𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐶𝑎𝑝𝑖𝑡𝑎𝑙

Plus: Clear, considering both assets and expenses

Minus: But it does not allow us to apply this method to intangible assets

Question 7

How does sustainability affect value creation over time? (2 perspectives)

Answer 7

Constraining perspective: investing in sustainable projects induces costs

Climate risk perspective: lowering WACC, increasing ROIC when investing in sustainability projects

Question 8

Name the 2 risks of climate risk

Answer 8

Transition risk (Bolton & Kacperczyk, 2023)
Firms: risk is the uncertain rate of adjustment toward carbon neutrality.
Investors: risk embodies evolving beliefs about the transition to cleaner energy.

Salient events: climate change taken seriously
Technological innovation: keeping out competitors (short term)
Climate policy tightness: firms that have high carbon emissions now, need to incur higher costs later (long term)

Question 9

What are the 7 steps for the IMM impact measure?

Answer 9

1. Expected output: number of people using services or products, #𝑝𝑒𝑜𝑝𝑙𝑒
2. Expected impact of output: E[𝑌_𝑖𝑚𝑝𝑎𝑐𝑡 ]=#𝑝𝑒𝑜𝑝𝑙𝑒×𝛿×𝑋^∗ 𝛿 : change in outcome (e.g., reduction sexual assault by 10%) 𝑋^∗: monetary value of impact (e.g., VSL, costs sexual assault, etc.)
3. Probability of impact realization: discount rate calculated based on study-specific and additional risks E[𝑌_𝑖𝑚𝑝𝑎𝑐𝑡 ]×𝛽; 0<𝛽<1
4. NPV of terminal value: projecting output for 5 years post ownership, discounted based on stability impact TV_impact×𝜃; 𝜃→5%, 10%, 20%
5. Potential impact of outcome: risk-adjusted impact (3) + NPV of terminal value (4)
6. Stake: (5) ×𝐼𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡_𝑆𝑡𝑎𝑘𝑒_%
7. Expected investment amount: $ amount of equity or debt invested

IMM: (6) / (7)