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Rating in Practice

Rating in Practice. Eiichiro Adachi Senior Researcher, The Japan Research Institute, Limited. Overview of SRI process. Research universe: approximately 2,000 (Tokyo Stock Exchange I + other top 500 market capitalization companies). Questionnaire on “environmental” and “social”activities.

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Rating in Practice

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  1. Rating in Practice Eiichiro Adachi Senior Researcher, The Japan Research Institute, Limited

  2. Overview of SRI process Research universe: approximately 2,000 (Tokyo Stock Exchange I + other top 500 market capitalization companies) Questionnaire on “environmental” and “social”activities Report on environmental and social activities News release Direct contact Japan Research Institute Corporate ratings Corporate profiles Yearly review “Economic” factors incorporated by STB Investment universe (250 – 300 names) Yearly review Review in a timely manner incorporating CSR activities, corporate scandals etc. Sumitomo Trust Decide industry weight Select stocks & decide active weight Sector bias from SRI viewpoints e.g. Overweight environmentally conscious industries Select stocks that are best in their respective industries in consideration of both “SRI alpha” and “STB alpha” Risk control Portfolio (50 – 100 names)

  3. Our principle • JRI believes that leading companies in terms of CSR are those who achieves : • Compliance with laws and regulations; • Advanced accountability and disclosure; • Good customer relations • Well-developed human resource management; • Sustainable operation in global market; • Enhanced relationship with society • Considerations for environmental issues • In addition to good financial performance, of course

  4. Social responsibility Environmental responsibility The 3 axes of evaluation Economical responsibility Traditional axis for equity investment Efficient management,, Financial contribution to shareholders, creditors, employees and government Compliance, Corporate governance, Disclosure etc. Corporate social responsibility Social responsibility Environmental consideration and contribution to local and global society Consumer relations, Disclosure of information, Training of employees, Appropriate response to global market, Commitment with society Evaluation axes that have not been paid enough attention to in the traditional equity investing However they will largely contribute to minimize corporate scandal risk and improve brand value etc.

  5. Research on questionnaires • JRI Sustainability Analysis started in 1999 with the Environmental Questionnaire. Since then, JRI has conducted Sustainability Survey every year. In 2003, the Social Questionnaire was added to our Survey. • Now, the Questionnaires are sent to 2,000 companies: about 1,500 companies listed in the first section of Tokyo Stock Exchange; and about 500 companies listed in the first or second section of Tokyo, Osaka or Nagoya Stock Exchange, and other markets such as JASDAQ. • Survey is conducted via internet: http://www.sohatsu.ne.jp/csr/ • In 2003, About 500 companies responded to our Survey in total. About 200 companies answered to both of the Environmental and Social Questionnaires. About 300 companies replied only to Environmental Questionnaire, whereas less than 20 companies responded only to Social Questionnaire.

  6. Image of the website for questionnaire

  7. Ecological responsibility (ER) Environmental policy Environmental management system Environmental accounting Environmental communication Environmental business/technology development Operation in global market • Environmental performance • Resource input • Water usage • Energy consumption • Greenhouse gas emissions • Waste discharge • Water discharge • Product assessment • Green procurement (raw materials) • etc. Examples of environmental questions

  8. Social responsibility Legal Related responsibility (LRR) Other Social responsibility (OSR) • Customer relations • Safety of products and services • Disclosure of information on products and services • Reflect customers and consumers opinions • Employee relations • Employability • Family friendly measures • Occupational health and safety • Diversity of employees • Operation in global market • Customer and employee relations • Supply chain management • Commitment to society • Volunteering of employees • Collaboration with NGO/NPO • Collaboration with educational sector • Communication with local community, etc. • Organization for compliance • Measures for compliance • Response at the time of breach of compliance • Corporate governance • Disclosure of information to shareholders and investors • Accountability • Management policy • Consideration of intellectual property etc. Examples of social questions

  9. Total 20.8% Electric Power & Gas 93.3% Insurance 41.7% Rubber Products 40.0% Precision Instruments 36.4% Glass & Ceramics Products 36.0% Pharmaceutical 33.3% Information & Communication 33.3% Electric Appliances 32.0% Chemicals 29.2% Oil & Coal Products 28.6% Marine Transportation 27.3% Nonferrous Metals 26.1% Foods 25.0% Air Transportation 25.0% Construction 22.8% Transportation Equipment 22.0% Machinery 20.5% Other Products 20.0% Wholesale Trade 18.4% Textiles & Apparels 17.3% Mining 12.5% Retail Trade 12.3% Metal Products 12.1% Land Transportation 12.1% Securities 11.1% Iron & Steel 10.8% Banks 9.3% Services 8.0% Pulp & Paper 7.1% Other Financing Business 7.1% Real Estate 6.9% Fishery, Agriculture & Forestry 0.0% Warehousing & Harbor Transportation Services 0.0% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% (Total number of valid response = 315) Response rate on Env. questionnaire in 2002 • Sensitivity is quite deferent in each sector.

  10. 100% Environmental questionnaire Electric Power & Gas 90% 80% y = 1.122x + 0.153 70% 2 R = 0.5267 60% Information & Communication Pharmaceutical Electric Appliances 50% Insurance Air Transport Glass & Ceramics Products 40% 30% Oil & Coal Products 20% 10% Social questionnaire 0% 0% 10% 20% 30% 40% 50% 60% Response rate on questionnaires in 2003 • Sensitivity is quite deferent in each sector.

  11. Research on environmental reports • The environmental reports are other important source of information for our research. (Source) Ministry of the Environment, Japan

  12. Fishery and Agriculture Mining Construction Food Textile Pulp and Paper Chemical Pharmaceutical Petroleum Rubber Ceramics Steel Nonferrous Metal Metal Goods Machinery Electrical Products Transportation Apparatus Precision Instrument Other Manufacturing Wholesale Retail Bank Securities Insurance Other Financial Real Estate Land Transport Marine Transport Air Transport Warehouse Information & Communication Electric Power and Gas Service Evaluation of companies (1) • Based on our research, appropriate scores are set to each question. The companies are grouped into the following 33 sectors according to Tokyo Stock Exchange. JRI adopts “best in class” approach, so the companies are rated within each sector.

  13. Environmental Score 400 350 300 250 200 150 100 50 Social Score 0 50 100 150 200 250 300 350 400 Positive correlation among environmental and social performance Case of Electric Appliances Sector • Integrated CSR rating is mostly consistent.

  14. Evaluation of companies (2) • The scores are summed up within each three pillar (ER, LRR, OSR). some of the questions, however, are excluded from evaluation, for they are regarded as those need further investigation for fair evaluation. • For each three pillar (ER, LRR, OSR), in order to find appropriate weightings to extract the difference in the level of performance of each company, Principle Component Analysis (PCA) is applied, instead of simply summing up all points. • At last, 3 pillars are weighted respectively as follows: ER(50%), LRR(25%) and OSR(25%). By summing up the principal component scores, the total score for each company is obtained.Thus, the ratings of companies are determined. To determine the final ratings, further research and analysis are sometimes carried out by analysts. • Principal Component analysis: One of the popular multi-variable analysis methods to find the weight for each variable that best describes the trend of the data.

  15. LRR Compliance Corporate governance Disclosure and accountability Environmental policy EMS E-communication E-performance E-risk management Overseas operation etc. ER Customer relations Employability Operation in global market Commitment to society OSR Outputs for SRI fund managers Evaluation through PCA ER score CSR rating • Profiles Sheets for each company on environmental and social performance, which contain wide information from our Sustainability Survey and other information sources. • Ratings within each sector (from A to C) • Additional Information (ex. Monthly news topics, focus reports, etc.) LRR score OSR score

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