Will divesting make it better? Photographer: Luke Sharrett/Bloomberg
Will divesting make it better? Photographer: Luke Sharrett/Bloomberg

Stanford University’s decision to divest from coal companies will be examined closely by many endowments and foundations that are under growing pressure to boycott companies involved in socially questionable activities, as well as by the growing number of those pressing them to do so.

What they will find is a careful, albeit partial, compromise approach to an issue that is not as black and white as many would like to see.

The argument for divestment is relatively straightforward. By publicly boycotting a company, influential investors place pressure on it -- both direct and indirect -- to abandon or modify an undesirable activity. As we were reminded pointedly by the late Nelson Mandela’s remarks after he was released from 27 hard years in prison, news of such boycotts can also deliver well-needed moral support to those engaged in the front lines of the battle.

Critics doubt the effectiveness of such actions, especially when they come at a cost. Boycotts work only if individual actions translate into consequential collective action (which, most often, they fail to do). In some cases, the move itself can be clouded by disagreements on morality and ethics. And in most cases, implementation can be tricky and quite leaky.

Even when the underlying case for divestment appears relatively clear-cut, endowments and foundations face a complex decision-making process. And they are not the only ones. Similar difficulties feature today in Western governments' discussions on whether to impose biting sectoral sanctions on Russia, as well as in how individual countries should respond to foreign corporate takeover bids by companies known to engage in asset-stripping.

In Stanford's case, the question was whether to take a stand on climate change by withholding capital from fossil-fuel companies. While far from guaranteed to alter corporate behavior, such a move involves costs. Most important, the university could potentially forgo investment returns that help support worthwhile educational initiatives, including financial aid. Implementation is also tricky, particularly if the relevant investments are part of an index fund, or a commingled pool run by an external manager, rather than held directly.

Stanford appears to have opted for a compromise that strikes a balance between two previously stated university objectives: “to maximize the financial return of assets” and to consider whether "corporate policies or practices create substantial social injury" in making investment decisions.

The boycott applies to “the most carbon-intensive methods of energy generation" where "other sources can be readily substituted for it." So coal-mining companies are covered, but oil companies aren't. The divestment will be imposed only on direct holdings in a potential universe of 100 publicly traded companies. The university will recommend that its external managers “avoid investments in these public companies as well,” but will not force them to do so.

Stanford’s approach, while not new and certainly not comprehensive, is nevertheless an important illustration of how endowments and foundations can try to combine what is theoretically desirable with what is operationally feasible. In addition to moving the debate forward, this small but notable step provides an approach that others can emulate. It should be part of a broader effort, and it sends a clear message that will encourage and empower those looking to address an important social problem.

To contact the writer of this article: Mohamed A. El-Erian at M.El-Erian@bloomberg.net.

To contact the editor responsible for this article: Mark Whitehouse at mwhitehouse1@bloomberg.net.