Across central and eastern Europe, the extent to which countries have launched themselves off the ESG starting blocks varies greatly. Nina Röhrbein reports

While western European investor have paid plenty of attention to environmental, social and governance (ESG) issues in Asia’s emerging markets, closer to home the emerging markets of central eastern Europe (CEE) have been neglected.

Few fund managers - such as Austrian Erste Asset Management (Erste AM), Estonian Limestone Investment Management (Limestone) and Polish TFI SKOK SA - have launched sustainable equity funds in the region and only a couple more have signed the UN Principles for Responsible Investment (UN PRI).

At the beginning of December, the initiative counted three Estonian investment managers, one Polish professional service partner, one Slovakian investment manager and three investment managers and two professional service partners in Turkey among its CEE signatories, highlighting the fact that international ESG standards are not yet commonly followed in CEE.

“If investors want to invest in emerging markets, their focus and ideas are on Asia - such as China and India - rather than CEE, particularly the further geographically removed they are from CEE,” says Wolfgang Pinner, head of social investment at Erste AM. “Some investors also view the CEE region simply as a part of Europe, which is especially true for those countries that already form part of the EU.”

Hermes Equity Ownership Services (EOS) has also seen progress in its discussion with companies in CEE. “Companies are more open to discussion of sustainability issues because they are looking for funding and transparency helps to attract investors,” says Hans Hirt, director at Hermes EOS. “Now we also have better access to companies at the highest level. Previously, in most cases CEE companies interested in ESG were the ones attempting to have initial public offerings (IPOs) in Western Europe or those specifically targeting investors from these markets. However, compared to Western Europe, the management and reporting of ESG issues are very much in their infancy in CEE.”

Issues, such as energy prices and global warming, have brought a lot of attention to ESG, says Alvar Roosimaa, fund manager of Limestone New Europe SRI Fund.

“CEE is an open region undergoing rapid development, which means that new ideas are taken on quickly,” he says. “More bottom-up reasons for increased ESG awareness stem from the EU convergence, which creates financial aid opportunities if projects are presented according to certain standards.”

But beyond basic regulation, any development on ESG is still up to enthusiastic local stock exchanges or ministries. Aviva Investors has been calling on stock exchanges to promote sustainability by embedding ESG in the listing rules. According to Steve Waygood, head of sustainability research and engagement at Aviva Investors, Russia has explored whether or not its stock exchange should have a sustainability index, while in their submission to the Rio +20 conference, Croatia called for corporate accountability and transparency to be on the Earth Summit agenda.

One of the reasons for the relatively weak ESG market and the small number of investors is the lack of information. “Few companies have understood the value of ESG data,” says Martin Pitura, managing director at GES Investment Services Poland. “And when published, the information is often poor.”

There is something of a west-to-east tilt. From Russia and the Ukraine, the further west you go, the more interested people are in ESG, believes Pinner. Poland is widely believed to be in the lead when it comes to ESG and on par with southern European countries. Companies in the Czech Republic and Slovenia are also quite advanced, while Turkey is ahead of the average on ESG.

According to the European SRI Study 2010 by the European Sustainable Investment Forum (Eurosif), the Polish SRI market amounts to €1bn, which represents approximately 0.3% of total financial assets under management.

Corporate governance is the most important factor of the ESG umbrella for Polish investors, as transparency in many corporate governance areas is required by law. Sustainability reports of listed companies, however, are still considered a media exercise, according to Eurosif.

Over the last few years, Poland has been promoting ESG. In October 2008, the first internet portal in Poland devoted to responsible investing called Odpowiedzialne-Inwestowanie.pl started up. In 2009, the Warsaw Stock Exchange launched the first corporate social responsibility (CSR) index in CEE, the RESPECT index.

Poland also created four broad sustainability advisory panels for CSR promotion, responsible investment, CSR education and sustainable consumption. The panels resulted in recommendations to the government and social partners on how to promote these issues in Poland, says Pitura, who is part of the advisory group for responsible investment. Suggestions include educational programmes and potential future legislative guidance.

The laggards in ESG, according to Pitura, are Romania, Bulgaria and the Balkan countries.

In Russia, ESG issues are limited to governance only. “Governance is one of the key risk factors associated with investing in Russia,” says Sergey Bubnov, responsible for Russia, at Renaissance Asset Managers. “Traditionally corporate governance has been quite poor, which is why there have been quite significant abuses of shareholder rights, especially in the 1990s. Since then, tougher regulation and companies seeking listings in the West have meant the number of these shareholder rights abuse cases has been reduced.”

However, in Russia environmental issues are still disconnected from the investment community. “If anything the environmental fines for companies operating under Russian law are usually lower than the cost of adhering to environmental regulations,” says Bubnov.

Pinner believes environmental problems are a legacy of Communism. “The communist rulers focused on the social side,” he says. “They cared far less about environmental issues - the further east you go, the less companies are concerned about the necessity to conduct their business in an environmentally-friendly way. They still need to realise that their business case should include social, environmental and regulatory aspects.”

“Because of the limited access to environmental and social information positive screening is limited,” adds Pitura. “Negative screening, however, is relatively common.”

In new democracies the rule of law, the legal system and financial regulations are recent, which is why some studies suggest that corporate governance matters even more in emerging markets. It also explains why best practice is still developing. “CEE companies do not yet have a culture of communication with investors around ESG issues and transparency has yet some way to go,” says Hirt. “We are focused on the board balance, seeking strong independent directors in order to make sure that minority shareholders’ rights are respected and pay particular attention to related party transactions.”

For Limestone, transparent governance is a key requirement when working with a company. The firm’s approach is based on the belief that in a rapidly developing environment engagement works best. “Awarding investors’ money to best-in-class companies or excluding a lot of companies because of a lack of information solves neither investors’ nor society’s problems,” says Roosimaa.

Institutional investors are the most likely to push ESG in CEE as they are the first to think about new ideas and asset classes, reduced risk and good performances although external pressure can also come from a parent company.

The only threat to the advance of ESG in CEE could be a severe economic downturn, during which, many believe, the sustainability idea would suffer.