July 20, 2020 Companies Need To Engage On ESG Issues Now Or Risk A Bruising 2021

By Bruce H. Goldfarb (as seen in Forbes)

Environmental, social and governance (ESG) issues are increasingly taking center stage in corporate elections around the world and, with most of this year’s “proxy season” behind us, the outcomes on ESG-related proposals are striking.

On Tuesday, BlackRock BLK +3.7% Inc., the world’s largest asset manager, publicly identified 244 companies that haven’t addressed climate change adequately enough, either through their practices or disclosures to shareholders. BlackRock voted against directors at 53 of those companies and said it will vote against directors at the other 191 next year if they fail to make “significant progress” over the coming 12 months.

BlackRock’s warning rings true for other asset managers as well. With the pandemic and social unrest bringing these issues front and center, companies need to begin reaching out to institutional investors and other stakeholders on ESG issues or risk some potentially bruising battles next year.

Consider some voting results this year:

• Five environmental proposals passed in 2020, whereas none passed in 2019. Chevron Corporation CVX -1.3%, J.B. Hunt Transport Services JBHT +3.2%, and Dollar Tree DLTR -1.2% were among the large-cap companies whose shareholders approved environmental proposals.
• On employment diversity proposals, the average support rose to 55.1% in 2020 from 38.5% in 2019. Diversity proposals garnered approval by shareholders at Fastenal Company FAST +1.6%, O’Reilly Automotive ORLY 0.0%, and Fortinet FTNT +1.4%, among other companies. The average support for board diversity proposals increased to 32.5% in 2020, from 18.7% in 2019.
• A larger proportion of proposals relating to political contributions were voted on in 2020 compared with 2019 (24 voted out of 27 filed in 2020, vs. 37 voted out of 60 filed in 2019).

Here’s a comprehensive look at ESG-related shareholder proposals this year vs. 2019.

It is especially worth noting that, due to the timing requirements under the proxy rules for submitting shareholder proposals, the ESG items on this year’s ballots were mostly submitted in late 2019 or early 2020 – well before issues such as Covid-19 and protests over racial and economic inequality began making headlines.

Given the wide range of concerns triggered by these developments, companies are certain to face even more proposals on diversity and inclusion, racial justice, socioeconomic inequality, health and safety, climate change and other ESG-related factors in the 2021 proxy season.

If they don’t engage with shareholders now, companies could find themselves not only with a bevy of proposals, but also an agitated shareholder base voicing concerns through the ballot box next year. The implications for the investor relations and public relations teams will be significant, and the legal efforts needed to address and remediate these matters may be costly. Better to act now.

How to Reach Out to Investors on ESG Issues

When companies engage with institutional investors on ESG matters, it’s important that they understand what approach to take, which metrics investors want to see to substantiate ESG progress, and how to assess their likely voting behavior. All of these factors are essential to communicate what the company is doing in the areas of ESG – and how effectively they are doing it.

As a starting point, companies need to understand the specific processes that different institutional investors use to assess ESG policies, as they vary widely across different asset managers. In some cases, there will be a centralized Investment Stewardship Group or similar body.

BlackRock, which has been highly visible on the topic of “corporate purpose” and ESG matters, describes its investment stewardship approach on its website.

State Street Global Advisors similarly discusses its process for what it calls asset stewardship. Other investors, however, may assign responsibility for ESG engagement to the regular portfolio management team. One clue: investment firms with a stated “core” emphasis on ESG will likely have a specialized function to evaluate the companies they own.

Identifying “Risks to Value”

To engage effectively with institutional investors, corporate management must develop a sophisticated level of knowledge about the ESG issues that have the greatest impact – economically and operationally – on the company’s business. In particular, management should identify those ESG issues that represent the most significant potential “risk to value” to the business and be prepared to address them when engaging with investors.

This responsibility often falls to the investor relations officer, but executives involved in ESG-related functions (including, potentially, general counsel, corporate governance officers, human resources professionals, diversity and inclusion officers, and sustainability officers) also have valuable input and may play a leading role in this regard.

Measuring and Reporting

Investors increasingly are demanding that companies use standardized ESG reporting metrics to substantiate their activities and progress. This reporting can be a challenge for companies, as there are many different protocols and services that provide measurement and ratings. The most common frameworks used by large U.S. public companies include the Global Reporting Initiative (GRI), the Sustainability Accounting Standards Board (SASB) and the Task Force on Climate-related Financial Disclosures (TCFD) standards.

GRI and SASB recently announced a collaboration to help companies more efficiently use both of those standards. However, other frameworks have been developed and companies should become cognizant of which reporting systems are favored by their institutional investors. State Street, for example, assigns companies an “R-Factor” score that measures the performance of a company’s business operations and governance with respect to financially material ESG issues.

The Time to Act is Now

Companies should not squander the opportunity to engage with investors on vital ESG issues early-on – next spring will be too late!

Before engaging with major institutional investors, a company should be armed with information on the kinds of ESG issues that have been of interest/concern to each investor (which will vary by industry), and how those investors have voted in the past. A proxy solicitation firm can be helpful in providing and analyzing this intelligence and strategizing with management regarding the investor engagement efforts.

It is a challenging time for public companies that are striving to manage their business in an economy disrupted by the pandemic – while at the same time responding to the ESG-related concerns of their investors, employees, customers, communities, public officials, and society-at-large. By engaging with investors now, companies can make meaningful headway in addressing complex ESG issues before they become a source of contention at the next annual meeting.

Without diminishing the seriousness of these issues, it’s good to remember that Charlton Heston’s character discovers the true composition of Soylent Green in 2022.