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Engine No. 1, the small activist investment firm that won a total of three seats on ExxonMobil’s board of directors earlier this month, is launching an exchange traded fund that aims to reshape the broad market index fund.
Its Engine No. 1 Transform 500 ETF will mimic a broad market index fund at a low cost, while also giving investors a potentially powerful say in corporate governance. At an expense ratio of just five basis points annually, or 0.05%, Engine No. 1 will provide active corporate governance oversight on the constituent companies held in the ETF by a team of investors that just scored one the biggest proxy battle wins ever witnessed in Corporate America.
Engine No. 1 promises that like its campaign against Exxon, it will hold companies accountable for their environmental and social impacts through active voting on shareholder issues. The firm’s investment team will also actively monitor boardrooms on their performance on issues like reducing their environmental footprint, and work as active shareholders improve their overall long-term financial performance. In addition to environmental impacts like carbon emissions and climate change, other issues that Engine No. 1 will focus on include including gender and racial equity, disclosure surrounding political spending, and the promotion of safe workforces offering fair wages.
“It’s a broad market cap exposure, but we are driving our value on how we operate as active owners,” Yasmin Dahya Bilger, Head of ETFs at Engine No. 1, tells Forbes. “It gives all investors a chance to take a seat at the table and be part of transforming companies.”
The ETF will invest in a market-cap weighted index of the 500 largest U.S. stocks, tracking the Morningstar U.S. Large Cap Select Index. Unlike a passive Vanguard S&P 500 Index fund, investors in the ETF will also get a team of active investors who vote carefully on shareholder issues, set rigorous goals for boardrooms, and have the ability to successfully run change campaigns if necessary.
“A lot of what passes for ESG investing in the public markets today is focused on shifting investors’ exposure between different sectors or different companies, but not actually changing the underlying companies themselves,” adds Michael O’Leary, a managing director at Engine No. 1. “We decided, what if we focus instead on the impact we can drive, not by what companies we hold or buy, but by what we do as active owners of those companies.”
When Engine No. 1 took on Exxon earlier this year, few outsiders gave the small $250 million in assets firm much of a chance. Exxon, after all, is America’s most storied oil and gas driller, and the activists owned less than 1% of stock. It joined a long line of small fry investors who had tried to take on Exxon in shareholder campaigns, but its winning result in electing three directors to Exxon’s board came from a unique approach.
Engine N0. 1 built a detailed argument to take to Exxon’s shareholders that argued the driller’s financial performance was nothing short of disgraceful. They detailed tens of billions of dollars wasted on acquisitions, mistimed stock buybacks and uneconomic drilling programs. Their argument ultimately was that status quo would lead Exxon on a road to ruin. In an investigation last year, Forbes found Exxon was among a group of former blue chip corporate icons in America that had used cheap debt to leverage its balance to the hilt, with no payoff. Exxon’s ratio of net debt-to-revenues increased tenfold over a decade, our research showed.
Engine No. 1 also married its stinging economic argument with an environmental one. Exxon’s wasteful spending came at a cost, the firm argued, pointing out how it had failed to appropriately invest in renewable energy and low-carbon infrastructure. Utilities are increasingly prioritizing their capital expenditures on renewable energy production. Major corporations and landlords are closely monitoring and cutting carbon from their corporate footprints. Automakers like General Motors and Ford have bet that the electric vehicle, not the combustion engine, is the car of the future. Exxon, they argued, hadn’t invested adequately to keep pace with these changes.
To these arguments, Engine No. 1 found a receptive audience in Exxon’s deeply unhappy shareholder base. The firm’s campaign was aided by a team of deeply-experienced investors with the credibility to win voting support from major index funds and mutual funds.
Charles Penner, the firm’s point person on the campaign, was a partner at activist hedge fund Jana Partners. Founder Chris James had created two multi-billion dollar investments management firms. CEO Jennifer Grancio had helped found BlackRock’s wildly successful iShares business. Managing director Michael O’Leary helped create Bain Capital’s Double Impact Fund with former Massachussets governor Deval Patrick. They nominated experienced board directors with the credibility to win support from institutional investors like Vanguard, State Street and BlackRock.
This level of skill and experience is now going to be packaged by Engine No. 1 into a low-cost index fund product, to complement its existing ESG hedge fund. The Engine No. 1 Transform 500 ETF will trade under ticker: VOTE, underscoring its mission of engaging in corporate change.
The firm has already received important support: An unnamed institutional investor will commit $100 million as a seed investor in the fund. Furthermore, it has struck a partnership with $65 billion (assets) robo-advisor Betterment, which will put the fund in its ESG portfolios.
“We noticed last year that there was this particularly glaring gap between the index funds that were gathering all these assets like Vanguard and BlackRock. They tended to have really inexplicably abysmal voting records when it came to voting their shares on climate-related sustainability-related shareholder proposals,” says Boris Khentov, SVP of Operations at Betterment.
“To be able to participate in these kinds of campaigns and know that my portfolio is a part of that just feels really transformational. We believe that this product is groundbreaking and is going to create its own category of products,” adds Khentov.
