By Russ Banham
Corporate Board member
As the 2019 proxy season commences, shareholder proposals continue to be ripped from the headlines. Board diversity, climate change, the opioid epidemic and gun violence will top the agenda in corporate boardrooms in 2019—with directors called upon to ensure that sophisticated policies are in place to address them.
Given the intense media attention surrounding all-male boards, mass shootings and severe hurricanes, floods and wildfires, such shareholder activism is not terribly surprising. What is unusual is the push by large investors to effect ESG-related changes by companies well before the annual meeting.
“The uptick in engagement is encouraging companies to take actions that previously were accomplished via the more antagonistic shareholder proposal process,” says Courteney Keatinge, director of ESG research at proxy advisory firm Glass Lewis & Co. “The increase in dialogue appears to be diminishing the number of shareholder proposals that go to vote each year.”
Investors have made their positions on ESG clear over the past two years—such issues are actually viewed as material to a company’s long-term financial performance, depending on the entity type.
“Investors are looking at ESG in a more nuanced manner,” Keatinge says. “ESG can have this ‘warm and fuzzy’ connotation—like planting trees and promoting nonviolence. But, these are not ‘feel good’ issues, they’re legitimate operational issues.”
In other words, something that is good for society can also be good for the bottom line. “This is not the tail wagging the dog,” says Anne Sheehan, former director of corporate governance at CalSTRS (California State Teachers’ Retirement System) and a senior advisor at global advisory-focused investment bank PJT Partners. “Companies should have a firm grasp of what risks they need to assess and the investments they need to make in response to our changing climate or other environmental and sustainability risks… there is business value in these decisions as much as social value.”
That sentiment is reflective of the position on ESG taken by large institutional investors like BlackRock, Vanguard and State Street Global Advisors (SSGA). Together, the three firms are the largest shareholder in 40 percent of all publicly listed firms in the U.S. and 88 percent of the S&P 500.
Over the past few years, the firms have been proactively posting their voting decisions online prior to annual meetings, giving individual investors the opportunity to see where they stand.
“Previously, if shareholders wanted to effect change, they submitted resolutions that went to vote,” says Sheila Hooda, CEO of Alpha Advisory Partners and a member of two boards (public company Virtus Investment Partners and Fortune 300 insurer Mutual of Omaha). “Now, with increased institutional engagement, companies are encouraged to take [early] actions that would have been handled through the shareholder proposal process in the past.”
BlackRock CEO Larry Fink made headlines when his annual letter to CEOs suggested ESG would factor into the $6.3 trillion investment firm’s decisions with statements like, “A company’s ability to manage environmental, social, and governance matters demonstrates the leadership and good governance that is so essential to sustainable growth, which is why we are increasingly integrating these issues into our investment process.”
This position has been proliferating across the investment universe, with Vanguard, State Street and other large investors helping to make ESG the “new normal” in shareholder demands. Among these is SSGA, the world’s third-largest asset manager, with nearly $2.8 trillion in assets under management. Matthew DiGuiseppe, vice president and head of Americas on SSGA’s Asset Stewardship Team, acknowledges that board discussions and evaluations have shifted toward corporate social responsibility, “thinking effectively about the impact of a company’s culture on long-term financial performance and strategy,” he says.
Keatinge agrees. “Board member must undertake a materiality assessment of what I call the ‘non-financial metrics’ to identify issues of material importance to a company’s long-term financial performance,” she said. “In doing these assessments, they may find that climate change or gun violence or the opioid crisis—depending on their business profile—are, in fact, material. If this is the case, board members must take pains to do something about it.”
Bye-Bye, Old Boys Network
While gun violence and opioids affect the performance of only a few companies, the gender diversity of boards affects most companies. A June 2018 survey by consulting firm Aon indicates that 68 percent of 223 institutional investors have expressed concerns over board gender diversity in their proxy voting.
Large institutional investors have put a bulls-eye on all-male boards. It’s been nearly two years since SSGA erected “Fearless Girl,” the bronze statue featuring a young girl squaring off against Wall Street’s symbolic giant bull, in New York’s Financial District in 2017. The firm’s message to the then-787 companies with all-male boards was crystal clear: Add women to your ranks now.
More than 300 companies have since heeded the demand. The remainder suffered the firm’s rebuke: SSGA voted against the chair of the board’s nominating committee entrusted to select new members.
Unquestionably, board diversity is gaining momentum as a priority. “With California breaking ground as the first state to require publicly traded firms to place at least one woman on their board of directors by the end of 2019, we believe board diversity will be a prominent issue among longer-term and activist shareholders alike,” says Dana S. Grosser,
spokeswoman for Vanguard, which tallies more than $5.1 trillion in investment assets. “Boards without women will increasingly be perceived as outliers,” says Marc Goldstein, executive director and head of U.S. research at proxy advisory firm Institutional Shareholder Services (ISS). “Our surveys indicate that far fewer investors are willing to admit that a lack of board diversity is not a problem. Boards have to get it right.”
ISS’s 2018 survey reveals that more than 80 percent of investors consider all-male boards to be problematic, up from 69 percent the prior year. Small wonder many interviewees anticipate that broader representation of women in both leadership and governance ranks will guide much of the proxy discussions in 2019. At present, the U.S. ranks 14th among global markets in gender diversity in the boardroom, according to a 2018 U.S. Board Study reviewing diversity in the boardroom by ISS.
That may be changing, now that U.S. boards are compelled to voluntarily disclose more information about each director, such as their “skill matrices” across age, tenure, varied experiences, expertise and outside commitments. “It’s important for investors and shareholders to have more transparency about who sits on the board and whether that person’s diverse background, experiences and skill sets are aligned with the long-term strategic needs of the enterprise,” says Friso van der Oord, director of research at the National Association of Corporate Directors (NACD).
“Board members have to pick the best candidate—period,” says Stephen Kasnet, vice chair and lead director at both Granite Point Mortgage Trust and Two Harbors Investment Corporation. “If they’re required to pick one or more women, the challenge is to pick not the most capable women, but the most capable directors.”
Also on the ESG agenda is climate change. EY’s survey of investors indicates that nearly eight in ten (79 percent) believe climate change is a significant risk, with 48 percent stating that enhanced reporting of these risks is a priority.
ISS has long supported shareholder proposals requesting companies to disclose information on their climate change risks. The subject reached a turning point in 2017 when Exxon, Occidental and PPL Corp. passed landmark resolutions to disclose the risks that climate change posed to their businesses. Goldstein projects that similar resolutions will be in the offing this year, “as investors succeed in achieving heightened disclosures of climate change risks on a company-by-company basis,” he says.
ISS recently aligned its policy with recommendations by the Task Force on Climate-Related Financial Disclosures. Chaired by Michael Bloomberg, the Task Force’s guidelines call for greater transparency and board oversight of climate change exposures. The effort paid off. “During the 2018 proxy season, more than 65 resolutions regarding climate change were submitted by U.S. investors, of which 17 involved risk assessments based on the so-called two-degree scenario,” Goldstein notes.
Two-degree scenario proposals are an outgrowth of the Intergovernmental Panel on Climate Change’s determination that two degrees Celsius above pre-industrial levels is the uppermost limit in global temperatures tolerable to the environment.
The proposals generally call for greater disclosure of companies’ preparedness for climate change and efforts to account for climate-related risks and opportunities. Despite rising investor interest, proactive measures by companies led to the withdrawal of the majority of two-degree scenario resolutions in 2018, says Keatinge. “We had awaited an onslaught of such resolutions, but they were withdrawn or negotiated away,” she says. “Ultimately, only five went to a vote, and of those five only two received majority support.”
That’s because many companies had already committed to enhancing disclosure. “This is heartening, and the credit is due the investors,” Keatinge adds.
Ron Schneider, director of corporate governance services at DFIN, agrees, noting that this represents a seismic shift in investor perspective. “When we saw shareholder proposals on climate change in the past, they didn’t get the support of the largest indexed investors,” Schneider says. “While these investors recognized that the climate was changing, they had difficulty connecting the impact to long-term financial performance and shareholder value. That has now changed.”
Sheehan from PJT Partners cites the value of water conservation to a soft drink manufacturer. “If a company is a water-intensive business, conserving water through processes that allow for the reuse of water, for instance, will have positive bottom line impact,” she explains. “That’s also good from an ESG standpoint. For a soft drink maker, these are not two separate silos.”
The opioid crisis, firearms and pay equity are also on investors’ ESG agenda. For example, following the February 2018 mass shootings in Parkland, Florida, multiple shareholder proposals asked that retail companies stop selling guns or part ways with the National Rifle Association. In response, Walmart and Dick’s Sporting Goods placed new restrictions on gun sales, while others like MetLife, Delta Airlines and FedEx voted to cut ties with or discontinue preferential treatment of the NRA.
“For some companies, gun violence is an issue of material importance,” says Keatinge. “An example is Sturm Ruger, whose shareholders at the 2018 annual meeting approved a proposal for the company to detail its plans to track violence associated with its firearms, disclose its research on ‘smart’ gun technology, and assess the risks that gun violence poses to its reputation and long-term financial performance.” Sturm Ruger has until February to produce a report addressing the shareholder’ concerns.
In 2018, a number of first-time shareholder proposals involved the opioid crisis. Keatinge and others anticipate more of the same this go-round. “Shareholders at Depomed (a distributor of opioid painkiller Nucynta now known as Assertio Therapeutics) voted in the majority to approve policies enhancing the board’s governance of the impact on the bottom line of continuing to distribute opioids,” Keatinge says.
These varied actions demonstrate the potential for investors and shareholders to, at a minimum, raise the level of dialogue around ESG issues—and possibly effect change.