Statement by the Harvard Corporation Committee on Shareholder Responsibility (CCSR) Regarding Aspects of Divestment Policy Related to Sudan

June 29, 2007

Over the course of the spring, the Corporation Committee on Shareholder Responsibility (CCSR) has considered certain aspects of Harvard's investment policy regarding companies with activities in Sudan. In particular, two issues have been examined. One concerns whether the University should depart from its longstanding practice of distinguishing between "direct" and "indirect" investments in applying decisions to divest from securities in specified companies. Another concerns a request by the Harvard Darfur Action Group (HDAG) that Harvard adopt a set of broad criteria, formulated by an independent organization known as the Sudan Divestment Task Force, which would raise the prospect of divestment from a significantly wider range of companies than those already identified by Harvard for divestment. We address each of these questions briefly below.

Indirect Investments and Divestment

Earlier this year questions were raised about the University's holdings of shares in certain publicly traded index related investments, known as exchange traded funds or ETFs, that own shares in companies from which the University had previously announced its decision to divest. As a first step, the CCSR asked the Advisory Committee on Shareholder Responsibility (ACSR) for advice on whether the University should extend its decisions to divest securities of certain companies with oil production activities in Sudan to include indirect investments, that is, securities of investment instruments which in turn may own securities of companies from which Harvard has divested. (The ACSR comprises faculty, students, and alumni.) Examples of indirect investments include ordinary mutual funds, index funds, exchange traded funds, closed-end funds, hedge funds, private equity funds, and partnerships and other investment vehicles where Harvard does not exercise investment control. Harvard's divestment restrictions have traditionally applied only to the University's direct investments. These include both securities directly held by Harvard Management Company (HMC), as well as direct holdings by outside investment managers engaged by HMC and acting on Harvard's behalf through separate accounts trading in the name of the President and Fellows of Harvard College. (While some institutions refer to such holdings by external investment managers in the name of their institution as "indirect investments," for Harvard such holdings are considered "direct investments" and subject to divestment policy.) By longstanding practice, HMC has responded to divestment decisions by selling securities held directly in specified companies, as well as directing its outside managers to do the same for securities held in the University's name.

A subcommittee of the ACSR held several meetings to consider this complicated and important question. It reviewed articles and editorials from the Crimson, materials from the Harvard Darfur Action Group (HDAG), and writings of President Derek Bok concerning the ethical issues raised by University investments. It also heard from representatives of HMC about the nature of direct and indirect investments, specifically in regard to Harvard's investment portfolio, and the potential practical and financial consequences of extending divestment decisions to indirect as well as direct holdings. The ACSR subcommittee presented its recommendations to the full ACSR, which after discussion unanimously adopted the subcommittee report and forwarded it to the CCSR.

The ACSR report addressed rationales for divestment, recent decisions by the University to divest holdings in PetroChina and Sinopec in light of activities related to oil production in Sudan, changes in the nature of investment practices that result from modern approaches to portfolio management, and challenges faced by universities in balancing competing ethical claims in regard to endowment management. After considerable discussion, the ACSR affirmed the University's divestment decisions related to PetroChina and Sinopec, noting that given the current situation in Darfur, "If it was appropriate to divest the securities of those companies previously, it is no less so now." At the same time, the ACSR concluded that the University should maintain its present policy distinguishing between direct and indirect investments.

The ACSR, as noted by its subcommittee, approached its task as "an effort to balance conflicting ethical ideals and obligations, and take[s] into consideration the practical possibilities associated with various choices." The ACSR considered the ethical implications of the University's investment in index funds that hold shares in companies linked to oil production in Sudan, while recognizing that "the University's essential functions - the provision of knowledge, the opportunities for scholarships, the hiring of the best professors - also have profound ethical content. As President Bok observed decades ago, '...The funds [universities] administer are not private funds but represent the indispensable means of carrying out important public functions. These functions themselves have ethical content whether they involve the search for useful knowledge or the ability to offer all deserving students the opportunity to enjoy a Harvard education regardless of their financial means.'"

In reaching its recommendation, the ACSR took time to explore the practical realities faced by HMC in effectively investing endowment funds in a highly interconnected and fluid global economy and the potential costs to the University associated with extending divestment policy to indirect holdings. Today, large institutional investors tend to buy "baskets" of securities (such as exchange traded funds and mutual funds, which include index funds) that have specific characteristics with respect to liquidity, price volatility, and expected return. HMC makes very substantial investments in such funds as a way of exposing the portfolio to, for example, anticipated movements in specific industries or in economies relative to the entire market. Some of these funds held by HMC are representative of broad market indices and allow HMC to quickly increase and decrease exposure to markets that are subject to potential liquidity fluctuations and/or to gain access to markets HMC would not otherwise be able to access. Examples include the iShares MSCI Emerging Markets Index (an ETF), which enables one to buy exposure to 280 securities invested in 22 emerging market countries, and the iShares FTSE/Xinhua China 25 Index, which enables one to buy exposure to the 25 largest Chinese enterprises, some of which one cannot purchase directly because of Chinese regulation. Unlike a customized index fund which may be hard to expand or liquidate, highly liquid ETFs and other index funds have proven to be an extremely valuable vehicle by providing an efficient way to mitigate risk in turbulent markets.

The ACSR expressed concern about the potential far-reaching consequences of extending divestment decisions beyond Harvard's direct holdings in particular companies to its indirect holdings in baskets of securities. Such an extension could profoundly affect the liquidity of the portfolio, the ability of HMC to manage risk, and the portfolio's overall return. The ACSR concluded "HMC has achieved its unusual performance through broad diversification and internationalization of the portfolio accomplished through an extensive use of various indirect instruments and funds. It seems very clear that if we really follow through on the idea of applying our divestment policy to indirect holdings, we will be deciding to ask HMC to develop a new approach to managing the endowment."

The ACSR accordingly recommended no further action with respect to the divestment of Harvard's indirect holdings. The committee did, however, recommend that the University take one additional step in relation to its divestment policy, informed in part by the materials submitted by the Harvard Darfur Action Group:

We further recommend that the University inform third-party fund managers of its decision to divest, and encourage these managers to take the University's policy into consideration in relation to [their own] direct purchase of securities.

The CCSR reviewed the ACSR's thoughtful report and has concluded that no change in the University's divestment policy with respect to indirect investment is called for. However, the CCSR has decided to adopt the ACSR's recommendation regarding third-party fund managers and will instruct HMC to advise all managers of commingled funds of all decisions regarding divestment taken by Harvard, encouraging them to take such policies into consideration as they make their own investment decisions. (Securities that are held by outside managers in Harvard's name are "direct investments" as noted above, and are automatically subject to the University's divestment policies.)

Proposed Alternative Model for Divestment

A second question regarding investment policy vis-à-vis companies doing business in Sudan has been raised by the Harvard Darfur Action Group (HDAG). HDAG wrote to President Bok urging the University to adopt a set of general criteria for divestment developed by the Sudan Divestment Task Force (SDTF). According to the SDTF, the adoption of such broadly worded criteria would raise the prospect of divestment from "a few dozen" multinational companies operating in Sudan, and of extending the range of proscribed companies well beyond those directly engaged as equity partners in the major oil production ventures now active in Sudan. In addressing this request, it is helpful briefly to review the considerations that have thus far informed the CCSR's divestment decisions regarding companies operating in Sudan.

In 2005, the CCSR decided that Harvard should divest its direct holdings in PetroChina agreeing with the recommendation of the ACSR and in view of declarations by the U.S. Congress and the U.S. Secretary of State describing the situation in Darfur as involving a "genocide" in which the Sudanese government was complicit. In presenting its recommendation, the ACSR emphatically underscored the University's "strong presumption against divesting itself of securities for reasons unrelated to investment purposes, and against using divestment as a political tool or a 'weapon against injustice'-not because there are not many worthy political causes or deeply troubling injustices in the world, but because the University is first and foremost an academic institution." The ACSR stressed that "the University, as an academic rather than a political institution, must take great care to avoid leveraging its endowment or prestige in ways that could embroil the institution in political and social controversies not directly related to its academic pursuits, and thus compromise the core values and independence of the academic enterprise."

In deciding to recommend the divestment of PetroChina shares despite the strong presumption against divestment, the ACSR engaged in a highly particularized analysis that pointed toward an extraordinary pattern of circumstances. Among the multiple factors it emphasized were the salient importance of oil to the Sudanese government as a strategic asset and source of revenue, available to fund military and other operations; the reports that oil-related activities themselves had exacerbated the humanitarian crisis in Sudan; the magnitude and scope of the role of PetroChina's closely affiliated parent company, China National Petroleum Corporation (CNPC), in Sudanese oil production activities; the importance of CNPC's Sudanese activities in its overall range of foreign oil activities; CNPC's status as a direct partner of the state-owned Sudanese oil company, Sudapet, in the leading oil production joint venture in Sudan (known as the Greater Nile Petroleum Operating Company, or GNPOC); the express inclusion of that joint venture on the list of entities with which persons in the United States are prohibited from doing business under U.S. sanctions law; and the lack of realistic opportunity for an owner of a small fraction of PetroChina shares to exercise significant "voice" in the affairs of the company, which is 90 percent owned by a company wholly owned by the Chinese government. The CCSR found these considerations to be compelling.

Subsequently the CCSR concluded that the considerations that led to divestment from PetroChina also counseled in favor of divesting from Sinopec, another company principally owned and controlled by the Chinese government and engaged directly with Sudapet and CNPC as one of a small number of equity partners in another major active oil production joint venture in Sudan.

In the light of its decisions regarding PetroChina and Sinopec, the University has continued to monitor the activities of companies actively engaged in Sudanese oil, with special attention to those publicly traded companies that are equity partners with Sudapet in the major oil production joint ventures now active in Sudan. This approach involves ongoing case-by-case assessment of companies, in view of the set of considerations that informed the decision to divest from PetroChina in 2005.

In light of the strong presumption against divestment and the particular salience of oil production activities in providing revenues to the Sudanese government, the CCSR believes that the University should continue to adhere to its narrowly tailored case-by-case approach, focused on publicly traded companies that are direct equity partners of Sudapet in the major oil production ventures now active in Sudan, rather than adopt a more expansive model that would potentially call for divestment of a range of companies operating in various industries and not themselves equity partners in those active oil production ventures. The CCSR also recognizes that this is an area in which line-drawing is inevitably a complex matter, and in which different institutions and thoughtful individuals of goodwill are apt to prefer somewhat differing approaches and reach somewhat differing outcomes in view of similar concerns.

The CCSR intends to continue the case-by-case approach informed by the considerations outlined in the 2005 statement regarding PetroChina. In its ongoing review, the CCSR has decided that an additional company, Oil and Natural Gas Corporation (ONGC), should be added to Harvard's divestment list. ONGC is 90% owned by the Government of India; its remaining shares are publicly traded. Through a wholly owned subsidiary, ONGC holds a 25% stake in the Greater Nile Petroleum Operating Company, in which CNPC and Sudapet are among the other joint venture partners. While Harvard does not, at present, have any direct holdings of securities issued by ONGC, we have directed Harvard Management Company that it should avoid such holdings in the future.

In closing, the CCSR expresses its appreciation to the ACSR for its careful analysis and thoughtful consideration of the complex issues surrounding the possibility of extending divestment policy to indirect investments. It also thanks the members of HDAG for their deep and ongoing concern about the grievous humanitarian crisis in Darfur and for their continuing thoughtful contributions to the public dialogue about possible institutional responses.