On Wednesday 30th October, subsequent to Ethical Partners publishing this article on our view on Woolworth’s sustainability reporting, we became aware of the serious under-payments issue that Woolworths recently uncovered. Woolworths management team has initiated a full review of the factors that drove this issue as well as a company-wide review to ensure that this issue is not larger than the initial evidence suggests, guiding to a potential cost of $200-$300m allocated mostly to repaying previously under-paid wages. We expect further details at the February 2020 result release.
Unfortunately under-payment of wages is becoming an increasingly more common occurrence in corporate Australia, potentially partly because of the extremely complex nature of wages agreements under Enterprise Bargaining Agreements versus the various Awards under which workers are protected. However, it is our view that companies simply must do better. Upon speaking directly with Woolworths about this issue we were encouraged by the transparency and genuine nature that it has handled the disclosures once it was in a position to publicly address the issue. We are confident management is genuine about changing and improving its approach to calculating worker entitlements, rectifying previous under-payment and holding itself accountable for its mistakes. We note CEO Brad Banducci will forgo his FY20 short term incentive (STI) and Chairman Gordon Cairns will take a lower Board Fee in FY20.
We will continue to monitor the situation closely.
By Andrew Wilson – Ethical Partners, Senior Analyst and Dealer
Ethical Partners recently met with the Sustainability team at Woolworths (ASX: WOW) to discuss its latest Sustainability Report (August 2019) and various related issues of note. Simply put, we were impressed with the path that Woolworths has taken, the progress to address previous gaps and we believe the passion to genuinely create a better outcome for all stakeholders will also help shareholders.
As previously mentioned by Ethical Partners, we believe ESG risks are inter-twined with the risk/reward equation for investors. It is our premise that if a business is on a positive sustainability journey and honest with respect to addressing its shortcomings then all else equal it should be a more attractive investment. We point to a recent paper from Bank of America Merrill Lynch which concludes from empirical evidence that companies with high (good) ESG scores have a lower cost of capital, have lower risk of bankruptcy, have lower risk of ESG controversies and typically provide more alpha to portfolios. We also believe the significant progress achieved by Woolworths with respect to addressing the sustainability risks can in part be attributed to the non-binding shareholder resolutions brought by NGOs at AGMs in 2017 & 2018. Generally speaking, we feel this is an appropriate and effective tool to generate market awareness of issues and provide the catalyst for companies to address points of vulnerability.
In meeting with management we were keen to explore how Woolworths had progressed its approach to human rights risks in its supply chain, notably as it pertains to concerns in the horticultural industry. In November 2017 (in response to a potential shareholder resolution which was subsequently withdrawn) Woolworths committed to addressing risks in the fresh food supply chain with respect to labour hire firms. This evolved further with the introduction of the Responsible Sourcing Policy in July 2018 and what is noted as “a collaborative approach from all stakeholders” - be it labour hire providers, suppliers, growers and unions.
We saw evidence of this in the 2019 Sustainability Report where Woolworths could disclose the progress it had made in two major steps. The first was delineating the fresh suppliers across four key categories: Minimum, Moderate, Priority and Specialised. Within these categories there were increasing levels of oversight, transparency, risks and auditing required with Woolworths over the last 12 months on-boarding direct suppliers to the Responsible Sourcing Program. From this, there have been 676 audits which represents 99.8% of Priority Sites and 97.8% of moderate sites. It was notable that approximately one third of the audits (categorised Purple) did highlight significant issues that Woolworths is working through with relevant suppliers.
The second major step in Responsible Sourcing related specifically to the horticultural suppliers in Australia, being the focal point for stakeholders and the media around Human Rights concerns. By way of background, Woolworths sources 96% of the fresh fruit and vegetables from Australia across 423 different suppliers. Woolworths chose correctly to categorise all horticultural suppliers as specialised, with all horticulture suppliers now being held to the highest standards within their defined framework, with the most oversight and compulsory auditing. They conducted both announced and unannounced visits and we note 97% of suppliers (by value) have chosen an auditor (e.g. Sedex) and new labour hire provider protocols have been implemented. These are again positive steps.
Outside of the significant social and ethical positives that come of this type of action there is genuine economic benefits for both the company and shareholders in our view, whether it be by minimising risk of reputational damage or ensuring consistency of supply in a higher margin part of the store. We note in the aforementioned Bank of America Merrill Lynch ESG research that highlighted that happy employees can translate to happy shareholders, specifically, they found stocks with higher industry measured staff approval ratings on average outperformed those with low ratings by 5% pa in the US over the last 5 years. Further, as can be seen from the chart below, ESG related controversies can weigh significantly on a stock price for well over 12 months after becoming apparent, and we believe taking the steps outlined above go some way to mitigating those related risks from the supply chain.
How Woolworths can further build on these positives
There are some important developments we are looking for from Woolworths to build on this positive momentum. Firstly, we applaud Woolworths’ courage in being transparent on having challenges in its supply chain and we look forward to seeing further progress in addressing these issues and holding Woolworths accountable as shareholders for the commitments they have made. Furthermore, we believe the next step for Woolworths and the broader industry is to look at branded products. We have been actively encouraging the supermarkets to consider this issue.
To conclude, we believe the above steps are symptomatic and consistent with a business on a positive ESG trajectory and dovetail neatly with the steps to demerge the liquor and gaming exposed Endeavour Group (the company confirmed last week this will be formally brought to a vote at the December AGM). We are cognisant that there are still risks within the Woolworths portfolio which we continually assess but we have incremental comfort from the refreshing approach management has taken to date. We view Woolworths favourably as an investment given its approach to ESG, a positive industry backdrop (inflation, lack of competition intensity), a strong balance sheet, earnings upside risks, management strength and a relatively attractive valuation.
Woolworth’s Sustainability Report 2019, August 2019
ESG Matters – US, Top 10 Reasons you should care about ESG. S Subramanian, Bank of America Merrill Lynch, Sept 2019
About Ethical Partners:
Ethical Partners Funds Management is an independent, boutique Australian fund manager that is fully owned by its staff. It has a dual focus on performance and investing ethically. Its investment approach directly manages risk for its clients, provides the ability to invest in line with clients' values and actively advocates for change. Funds under management are approximately $1.6bn. More information is available at: www.ethicalpartners.com.au. Ethical Partners owns Woolworths shares in some of the Funds it manages.
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During October 2020 the Fund returned 2.85% versus the S&P/ASX 300 Accumulation Index of 1.89%, outperforming the market by 0.96% (after fees). Overweight positions in Insurance stocks and an underweight position in Metals & Mining contributed to relative performance while overweight positions in Consumer Staples and Media & Entertainment detracted from relative performance.
We speak with Anthony Mellowes, CEO, SCA Property Group (ASX: SCP) about recent strong sales figures from its centres, improved rent collection and its focus on sustainability. The Ethical Partners Australian Share Fund holds an overweight position in SCP.
During September 2020 the Fund returned -3.40% versus the S&P/ASX 300 Accumulation Index of -3.60%, outperforming by 0.20% (after fees). Overweight positions in Insurance stocks and an underweight position in Construction stocks and Healthcare detracted from performance while overweight positions in Industrials (specifically Building Products) and underweight positions in Information Technology and Energy contributed to performance