This newsletter’s Table of Contents is as follows:
1.Effective evaluation to improve board performance
2.Non-GAAP Disclosures: Join the crowd?
3.Investors Petition the SEC to Develop ESG Reporting Requirements
4.Growing Proportion of Investors, Non-Investors Believe Lack of Gender Diversity Indicates Problem with Board Recruitment Process
5.Bullying at the boardroom table
6.Unilever U-turn tale shows how angry shareholders (and their asset managers) are securing change
7.Trust has to be as important as profit if banks and their boards are to regain their corporate legitimacy
8.Corporate crackdown! Businesses told to consider workers interests in new code
1. Effective evaluation to improve board performance
Investors, regulators, other company stakeholders and governance experts are challenging boards to examine and explain board performance and composition. Boards should address this challenge — first and foremost through a tailored and effective evaluation process. In doing this, boards can work to identify areas for growth and change to improve performance and optimize composition in ways that can enhance long-term value. Boards can also describe evaluation processes and high-level results to investors and other stakeholders in ways that can enhance understanding and trust.
EY reviewed the most recent proxy statements filed by companies in the 2018 Fortune 100 to identify notable board evaluation practices, trends and disclosures. Their first observation is that 93% of proxy filers in the Fortune 100 provided at least some disclosures about their board evaluation process. Other disclosures are listed as follows:
| Observations about Fortune 100 company board evaluation practices | % of total* |
|---|---|
| Performed individual director self-evaluation, in addition to board and committee evaluation | 24% |
| Used or considered using a third party at least periodically to facilitate the evaluation | 22% |
| Used both questionnaires and individual director interviews to conduct the evaluation | 26% |
| Provided board evaluation disclosures in their proxy statement | 93% |
| Identified in the proxy statement general topics covered in the evaluation | 40% |
| Disclosed in the proxy statement general actions taken as a result of the evaluation | 21% |
Interestingly, about 20% also disclosed, at a high level, actions taken as a result of their board evaluation. Some examples include:
- Enhanced director orientation programs
- Changes to board structure and composition
- Changes to director tenure or retirement age limits
- Expanded director search and recruitment practices
- Improvements to the format and timing of board materials
- More time to review key issues like strategy and cybersecurity
- Changes to company and board governance documents
- Improved evaluation process
Source: EY
2. Non-GAAP Disclosures: Join the crowd?
It’s been floated for a while but earlier this month, the Canadian Securities Administrators (CSA) released new proposed rules on how companies present non-GAAP financial measures to the market.
Non-GAAP measures are used by most public companies to explain their financial health to investors in a way they argue is more reflective of their business. While they vary between sectors, frequently used measures include adjusted earnings, adjusted EBITDA, free cash flow, cash flow per share, pro forma earnings, earnings before non-recurring items and others. In turn, analysts use these metrics to determine their view of the go-forward health of the company.
The challenge is that, unlike financial statements, non-GAAP measures are not audited. Some market observers point out that comparing one company’s non-GAAP measures to another’s in the same sector is like comparing apples to oranges. This becomes problematic if a company is believed to be using non-audited metrics to obfuscate their finances or play down poor performance.
How prevalent is the use of non-GAAP? A 2016 study by Veritas Research showed that the vast majority of TSX60 companies used some of these metrics in their reporting. And the issue is global: nearly 80% of S&P500 and FTSE 100 companies use non-GAAP measures to report their performance.
The CSA proposals are intended to provide issuers with clear and mandatory requirements regarding the disclosure of non-GAAP and other financial measures and prescribes reporting requirements for non-GAAP financial measures; supplementary financial measures; segment measures from the notes to the financial statements; and capital management measures from the notes to the financial statements.
Source: ICD Canada
3. Investors Petition the SEC to Develop ESG Reporting Requirements
A group of investors representing more than $5 trillion in assets under management petitioned the U.S. Securities and Exchange Commission on October 1, 2018 to develop a comprehensive framework that would require public companies to disclose environmental, social and governance (ESG) aspects relating to their operations. Petitioners include CalPERS, the New York State Comptroller and the U.N. Principles for Responsible Investment. The 19-page petition cites increasing demands by certain investors for information to better understand the long-term performance and risk management strategies of public companies. The petition notes that the voluntary “sustainability reports” that some companies have produced in response to these demands are insufficient and instead, an SEC-mandated comprehensive framework for clearer, more consistent and more fulsome, reliable and decision-useful ESG disclosure (above and beyond existing SEC disclosure requirements) would meet this demand. The petition does not lay out a framework for the SEC to consider other than a suggestion that the climate risk disclosure framework issued by the FSB’s Task Force on Climate-Related Financial Disclosure could be used by the SEC “as a starting point in promulgating its own Framework for comprehensive ESG disclosure.”
The petition comes on the heels of Senator Warren’s September 14, 2018 bill, the Climate Risk Disclosure Act, which if passed, would require the SEC to issue rules requiring public companies to disclose climate change-related risks, including climate change scenario analyses similar to those called for by the FSB Climate Task Force referenced in the petition, as well as companies’ direct and indirect greenhouse gas emissions, the total amount of fossil fuel-related assets they own or manage and their management strategies related to physical risks posed by climate change.
Source: David Polk
4. Growing Proportion of Investors, Non-Investors Believe Lack of Gender Diversity Indicates Problem with Board Recruitment Process
Institutional Shareholder Services Inc. (ISS), a leading provider of corporate governance and responsible investment solutions to financial market participants, released the results of its annual Governance Principles survey.
In total, ISS received 669 responses to this year’s Governance Principles Survey, from 638 different organizations. Responses were received from 109 institutional investor representatives while 469 representatives of corporations also weighed in. Consultants, corporate directors, academics, trade associations, and other non-investor entities made up the rest. Board Gender Diversity figured prominently in the findings.
Specifically, ISS asked respondents in last year’s Governance Principles Survey if they considered it problematic if there were zero female directors on a public company board. This year, ISS revisited the same questions to identify any year-over-year changes on this topic. This time around, a higher number of both investors and non-investors responded that a lack of gender diversity on corporate boards would indicate a problem in the board recruitment process. More than 80 percent of investors indicated that they considered it to be problematic. That was up from 69 percent last year. Specifically, 45 percent of investors replied “Yes, the absence of at least one female director may indicate problems in the board recruitment process,” while 37 percent replied “Yes, but concerns may be mitigated if there is a disclosed policy/approach that describes the considerations taken into account by the board or the nominating committee to increase gender diversity on the board.” More non-investors, meanwhile, also migrated toward a “yes” from a “maybe” response while moving more decisively away from “no.” This year, more than 60 percent of non-investors replied “yes” in some form, up from 54 percent last year. This year, “Yes, the absence of at least one female director may indicate problems in the board recruitment process” was the most frequently chosen response for non-investors, with one-third selecting this choice.
Source: ISS
5. Bullying at the boardroom table
When we experience or learn about bullying around the boardroom table, we’re often taken aback, shocked and disbelieving. Surely, we rationalise, these are intelligent adults, eminently capable of conducting themselves in a manner that’s well above that of the schoolyard tyrant? And surely they appreciate that bullying is simply not on, that it breaks just about every workplace health and safety regulation?
The harsh reality, though, is that boards and boardrooms, just like everything else in our world, are pretty much a microcosm of life in general, filled with a cross section of people.
These are occasions when chairs need to do what they’re there to do…and that’s step in, take charge of the situation, act as the first among equals and bring the bully or bullies into line.
Unfortunately, experience also suggests there are too many boards and too many chairs who allow this unlawful and wholly unacceptable behaviour to continue.
Example 1: The Chair of the board is at a company where the smart, highly competent MD invariably gets his way on issues. When occasionally the board would look to change or refine some of his recommendations, he would continue to argue his position, on and on and on…and by sheer attrition, would eventually win the day. When things were not going to plan for him, his face would start to go red and he was visibly furious.
Example 2: On another occasion and during an interstate visit, a female MD talked about one of the non-executive directors who thankfully had just resigned. This guy would yell abuse at her over particular issues at board meetings. He’d even go a step further, taking it upon himself – and bypassing the MD – to direct management to do certain things for him.
When she advised him his actions were inappropriate, that management reported to her, he stormed into the room, thumping her on the chest in a most intimidating manner. The chair did nothing until two of the other directors went to the extraordinary extent of putting in a formal, written complaint.
Example 3: There are too many cases where the directors know certain managers are bullies but because they’re also good business people, they only tell them not to do it before turning a blind eye.
In all of these scenarios, the behaviours are inexcusable – and chairs that don’t properly and promptly address it are not fulfilling one of their primary responsibilities. Furthermore, when boards know about it but don’t take action, they expose both themselves and the company under work health and safety legislation.
The message to all chairs is clear: when you get bullies, you need to act like the parent of a wayward child. You need to take charge, call it as it is and be what a chair should be…the first among equals.
Source: Governance Matters
6. Unilever U-turn tale shows how angry shareholders (and their asset managers) are securing change
It took just a few days after Unilever made public its proposal to move its headquarters to the Netherlands for the company to be faced with its first obstacle. Iain Richards, head of responsible investment at Columbia Threadneedle and one of the consumer goods company’s biggest shareholders, lambasted Unilever in a rare public statement in March, accusing the maker of Dove soap of not engaging with investors ahead of its decision. In the months that followed, a parade of shareholders, from well-regarded fund manager Nick Train to big asset management houses Legal & General Investment Management and Aviva Investors, condemned Unilever’s plans in private and in public.
The company was forced to ditch its proposal earlier this month. Unilever’s about-turn was the latest example of how disgruntled shareholders are successfully pushing for change at the companies they invest in, after years of being criticised for not holding businesses to account.
Andy Griffiths, executive director at the Investor Forum, a group that lobbies UK companies on behalf of big investors, said that a decade ago asset managers had been accused of being asleep at the wheel as business after business struggled.
“The industry got a real battering during the financial crisis. It was very popular for the government to say ‘where were the shareholders?’ . . . The shareholders were definitely on the field this time [on Unilever].”
In the wake of the financial crisis, the UK government asked economist John Kay to review equity markets. His 40,000-word report, which argued that “promoting good governance and stewardship is . . . a central, rather than an incidental, function of UK equity markets”, is credited by many in the industry in driving change in how big investors interact with the companies they own.
As well as political pressure, asset managers have also faced growing questions from their clients, whether big investors such as pension funds or smaller individual investors, on issues from high pay to gender diversity.
In response, many of the UK’s largest fund houses have bulked up their corporate governance teams and are increasingly willing to use their votes at companies’ annual meetings to signal their displeasure.
Public floggings of companies is in stark contrast to just a few years ago, when asset managers typically raised concerns behind closed doors and rarely criticised boards in public or used their AGM votes to signal upset.
According to Euan Stirling, global head of stewardship at SLA, the UK’s largest listed asset manager, said there was a “continuing trend of shareholders more steadily and forcibly enforcing the rights they have”.
Source: FT
7. Trust has to be as important as profit if banks and their boards are to regain their corporate legitimacy
Central to governance is the role of boards and the job they perform.
Although they’ve said little publicly about how they see their roles, in a confidential research setting, they have conceded their role should be about far more than profit: it should be about maximising trust.
For the past three years I have used confidential, high-level interviews and forums to examine the views of board members (including members of bank boards) in order to understand the tensions and trade-offs they make as they navigate social, environmental and stakeholder concerns.
Many find it hard to break out of self-reinforcing systems that maximise
- shareholder primacy
- profit maximisation
- remuneration structures that reward profit maximisation
- a legalistic and risk-based approach to decision-making
- short-term approaches to incentives and returns reinforced by reporting cycles and the global marketplace for chief executives.
Underpinning these issues is an awareness of the importance of maintaining corporate legitimacy, or a “social license to operate”.
Last month the UK Labour opposition released a report calling for changes to the way boards work entitled A Better Future for Corporate Governance: Democratising Corporations for their Long-Term Success.
It recommends a model similar to those used in a number of mainland European countries.
Using either a single or a two-tier board structure, employees and long term shareholders and other stakeholders are given a place at the table in order to guide corporations to long term success.
Boards capable of engaging in and strategically managing both pragmatic and moral legitimacy strategies are more likely to adapt, innovate and sustain their corporations over the long term in the face of emerging challenges.
There is a growing consensus businesses have a broader purpose than profit: an implicit social contract. Recognising this is the only way they can rebuild trust and be assured of a continued social licence to operate.
Source: The Conversation
8. Corporate crackdown! Businesses told to consider workers interests in new code
British companies are, for the first time, being told to pay regard to the people on whom their success rests: their employees. In many ways that step, contained in the Financial Reporting Council’s new “shorter, sharper” corporate governance code, is an important one.
Workers haven’t previously merited a mention but the regulator’s revised code asks boards to “describe how they have considered the interests of stakeholders when performing their duty under Section 172 of the 2006 Companies Act”.
Directors are also asked to “create a culture which aligns company values with strategy and to assess how they preserve value over the long term”.
Source: The Independent
