Sustainable Investing Through the Supply Chain: Electric Vehicles

ESG in Action

The shift to electric vehicles means major changes across the supply chain and involves multiple ESG challenges. As the auto industry strives to institute sustainable practices, investors need to engage with governments and corporates to encourage and accelerate the process of change.

The automotive industry is fast transitioning to an electric vehicle (EV) future. This has huge implications for vehicle assemblers, component manufacturers, extractive industries—and responsible investors.

The shift to EVs means major changes through the supply chain. EV engines need far fewer components than internal combustion engines but have much heavier and more complex batteries. These in turn use a higher proportion and greater variety of minerals—around six times more than conventional vehicles. And extracting and refining those minerals involves multiple environmental, social and governance (ESG) challenges.

Our research and engagement programs show that it takes a holistic approach to identify companies that are managed both profitably and responsibly at each stage of the EV supply chain.

Rising EV Adoption Highlights ESG Issues

As the world’s auto manufacturers and their subcontractors execute plans for new EV products, the EV industry is transitioning rapidly from niche provider to mass producer. The demand for minerals is growing fast and the related ESG impact is rising too. But the ethical issues don’t stop with extractive industries. Across auto components manufacturing, vehicle assembly and related energy infrastructure (such as electric power utilities and charging point providers), it’s important to ensure the supply chain is managed and financed responsibly.

Mineral Extraction and Processing Are the Most Prominent Concerns…

Across the whole EV ecosystem there is likely to be a huge increase in demand for six types of mineral: copper and aluminum (for instance, to upgrade electric power networks, and for EV wiring, engines and battery cases); cobalt, lithium and nickel (EV battery constituents); and rare earth elements—a group of chemically similar metallic elements used in electric motors. This raises the risk that the environmental and social benefits of transitioning to EVs could be offset by the waste and water pollution and high emissions resulting from increased mineral extraction and processing.

That’s why responsible investors need to pay particular attention to these industries and engage not only with the producers but also with governments. After all, sovereign entities must institute the policy frameworks necessary to guide the sustainable development of the industries.

…but EVs Require a Wide Range of New Technologies Too

Mineral extraction and processing feature at the beginning of the EV value chain. Next come battery cell manufacture (the production of electric power sources with processed minerals); battery pack assembly (in which the individual cells are assembled into composite enclosures); and the manufacture of the EVs themselves (including battery integration).

Each stage requires advances in technology. Consequently, it’s important to ensure that companies at each link in the supply chain have both adequate R&D resources and a commitment to apply them responsibly. For instance, a leading German automotive company will spend around €73 billion on electrification, hybrid powertrains and digital technology over the next five years—far more than its European peers. More recently, a US automotive manufacturer committed US$35 billion by 2025.

EV Era Dovetails with Automotive 2.0

The transition to EVs goes hand in hand with the wider “Automotive 2.0” project for the autonomous driving era. This initiative should result in a significant cut in emissions, both through more economical usage of vehicles and through techniques like “platooning” (fuel-efficient convoys travelling smoothly at constant speeds). It should also lead to a reduction in auto accidents and fatalities.

From a technology perspective, Automotive 2.0 will require vastly increased volumes of data and data processing capability plus more sophisticated software to create the “brain” of next-generation vehicles. These new capabilities have the potential to transform the journey experience and with it the original equipment manufacturers' (OEMs') branding, monetization and customer relationships. Investors must engage with companies to ensure their management teams are ready to grasp this array of new opportunities and avoid obsolescence.

Engagement Promotes Sustainable Practices

Our research and firm-wide engagement program shows that some companies are successfully embracing responsible practices and planning for change while others are lagging. We also see clear evidence from successive meetings with management that companies will respond to constructive investor engagement in a positive way. While there is a long way to go until we can identify responsible participants in every part of the supply chain, we continue to work diligently to achieve this aim and are making good progress.

EV Transition Calls for Green Financing Structures

We also encourage responsible financing alongside responsible management. We believe green bonds and sustainability-linked bonds with robust key performance indicators (KPIs) can be effective enablers of the EV transition, especially as the criteria for these sectors have been clearly defined in the EU taxonomy.

We have already seen some exciting structures that help further the EV transition, and we have been engaging with other potential issuers to encourage them to follow examples of best practice.

Further green and KPI-linked bond issuance in the sector also increase diversification in the wider green bond market and so helps investors create better-balanced investment portfolios.

Increased Engagement Leads to Improved Outcomes

The automotive supply chain is huge and complex. The transition to EVs—in particular, the special requirements for battery manufacture and charging infrastructure—add further investment considerations and opportunities from an ESG perspective.

Governments and corporates are now striving to embed sustainable practices throughout the supply chain, and we can see our engagement efforts are making a positive impact. As investors worldwide increase their focus on engagement, we are confident they will accelerate improvement throughout the auto industry and across its suppliers.