©Copyright 2000 Rogers Media. The following article first appeared in the August 2001 edition of BENEFITS CANADA magazine.

Ethical or socially responsible investing carries with it the appeal of doing the right thing with pension funds, and in certain circumstances, making pension funds work in the interests of active and retired plan members. While the appeal of ethical investing is apparent, it is risky business.

Ethical investing involves selecting investments on the basis of both financial and non-financial factors.

In addition to traditional performance measures, ethical investments consider social criteria such as what the company makes (tobacco manufacturers can be screened out), how the company produces its products (labour and environmental records) and the firm's support of certain political activities. Ethical investing can also include the fund's participation in community projects such as building affordable housing with the involvement of plan members.

FIDUCIARY DUTY

Those types of virtuous activities may be admirable but they carry a great deal of legal risk for pension plan administrators. These individuals are charged with the fiduciary duty of ensuring that investments are made in a prudent manner so that the long-term interest of all plan members are protected and advanced.

This interest is limited to ensuring members receive their pension benefits, not that they feel good about where their contributions are going. Combining financial and non-financial investment criteria makes it difficult for plan administrators to demonstrate that they have discharged their fiduciary obligations.

In order for a plan to make ethical investments, both the statement of investment policies and procedures for the plan, as well as its trust instrument, should permit ethical investments. It is interesting to note that the Financial Services Commission of Ontario also takes the position that administrators should notify members of ethical investment strategies.

Even with these standards, the use of pension assets for purposes other than securing retirement income for members is hard to legally justify. A plan that invests its assets in the pursuit of other social goals may end up in a situation where members suffer economic losses because good intentions have gone awry.

If the returns of a plan that follows an ethical investment strategy are less than those of plans that did not follow such a strategy and members suffer a loss in benefits, plan administrators could be exposed to legal liability on the basis that the investments were not prudent, and not in the long-term interests of the plan members.

COMMON GOOD

Ethical investments are a bit of a moving target. Members, themselves, may have different views of what constitutes an ethical investment. The absence of an easily understood investment policy that strays from the norm may give rise to discontent, which could form the basis for legal risk.

None of these concerns are intended as an endorsement of the view that pension funds should invest without considering where their funds are going. As institutional shareholders, pension funds can, and do, make their voices heard on matters of corporate governance, executive compensation and social concern. This type of direct action is preferable, and it presents less of a legal risk to plan administrators.

At the end of the day, providing good retirement benefits to members performs an important social goal on its own.

Achieving this goal through traditional financial criteria reduces legal risk and keeps plan administrators focussed on this very important responsibility. BC

Hugh O'Reilly is a partner with Torys in Toronto ho'reilly@torys.com.

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