Game theory and corporate governance: conditions for effective stewardship of companies exposed to climate change risks^†

† Prepared for the 1st Global Conference of Stranded Assets and the Environment September 24 and 25, 2015; Oxford, UK.

ABSTRACT

Engagement between investors and corporate boards has been suggested as a pathway to mitigate stranded asset and climate change risks. Debate is ongoing as to whether divestment or active ownership strategies are more appropriate to deliver long-term value and environmental sustainability. The paper tests the effectiveness of owner engagement strategies by studying the conditions for cooperation between investors and their companies. Characteristics of investors and companies are modelled in game theoretic frameworks, informed by semi-structured interviews with professionals from the energy and finance industries, and academia, NGO, and regulatory sectors. Conditions for mutual cooperation between investors and companies are characterized as prisoners’ dilemmas. A number of parameters are examined for their impact on the development of sustained cooperative equilibria, including: the benefits and costs of cooperation; the degree of strategic foresight; individual discount factors; and mutual history. Challenges in the formation of investor coalitions are characterized and solutions are proposed.

KEYWORDS:

• Engagement
• stewardship
• divestment
• ESG
• stranded assets
• game theory

Acknowledgements

The authors extend their sincere thanks to the 13 interviewees who informed the development of this work. Constructive comments from the two anonymous reviewers are also appreciated.

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

† Prepared for the 1st Global Conference of Stranded Assets and the Environment September 24 and 25, 2015; Oxford, UK.