It is time to begin preparing for the 2020 proxy season and, though there are some minor rule changes, we believe this season will be defined by a focus on board diversity, social disclosure and shareholder engagement. As investors’ expectations mature, if not increase, in these areas, we’ve prepared a summary of developments to help guide your compliance efforts.
Board Diversity. For some perspective on director diversity, consider that, among S&P 500 companies, all-male boards of directors have disappeared, and 56% of boards now have at least three female directors. In the S&P 1500, 34% of boards include three or more female members stands, while just 5% remain all-male. Many institutional investors have well-publicized voting policies under which they will vote against (or withhold votes for) boards that lack of gender diversity. Proxy advisory firms also consider diversity when making recommendations to their clients. Glass Lewis, for example, adopted a policy in 2019 pursuant to which it will recommend voting against a Nominating Committee Chair of a board with no gender diversity.
Special Note to Illinois-Headquartered Companies: In August, Illinois enacted H.B. 3394 requiring publicly-traded companies headquartered in Illinois to disclose key diversity information in Illinois state filings. Required disclosures include:
- racial, ethnic and gender diversity of boards;
- how demographic diversity is considered in identifying and appointing director nominees and executive officers; and
- policies and practices for promoting diversity, equity and inclusion among the boards and executive officers.
The new law does not mandate any specific diversity, but it will require directors to self-identify the composition of its board with regard to gender and minority status. These disclosures may be required as early as Spring 2020, so Illinois-headquartered companies should consider adding a question to their D&O Questionnaires this year to confirm the accuracy of required information. Smaller companies without large institutional holders may not see such immediate pressure in their board composition, but it would be wise to begin preparing for diversification.
Until further guidance from the Illinois Secretary of State becomes available, more information can be found in our previous Client Brief.
Takeaway and Best Practice
Review whether your board’s diversity activities, policies and communications accurately reflect the correct “tone at the top.” Additionally, if you are a smaller company and have not yet addressed the issue, consider implementing a policy that will allow the company to achieve investors’ expectations and current best practices with respect to board composition.
Social and Environmental Disclosure. Similarly, there has been growing demand for disclosure of social and environmental policies and values, sometimes called “Environmental, Sustainability and Governance” or “ESG” policies. An increasing number of companies are using their proxy statements as a forum to communicate these matters.
Many organizations that rate companies (including ISS, Bloomberg and Sustainalytics) are separately rating companies based on their environmental and social initiatives and commitments. Investors also want to know how companies are addressing these issues from a profitability and risk management perspective, and the recommendations in this area from the Task Force on Climate-related Financial Disclosure, or “TCFD.” Many institutional investors have adopted policies on sustainable investing.
Arguably the greatest focus is on climate change – what are companies with heavy greenhouse gas emissions doing to reduce their footprint and what impact will climate change have on a business. An EY Report states that 38% of the investors that have cited climate change as an issue have asked companies to take steps to reduce emissions.
In summary, the proxy statement can be an important tool for a board to engage directly with investors and demonstrate both their commitment to social and environmental issues as well as summarizing concrete actions they have directed the company to take.
Takeaway and Best Practice
Movement toward ESG goals is a work in process for most companies. Be cautious with your disclosure. Consider describing policies and commitments as goals rather than indicating what specific progress you intend to make, lest that disclosure expose the company to liability if metrics are not achieved. Also, make sure the company’s ongoing disclosures in its 1934 Act filings and otherwise reflect consistency with your goals and policies. Today, none of this disclosure is required by the SEC, so the substantive legal risk is in bad disclosure, not no disclosure.
Shareholder Engagement. Shareholder engagement by boards has increased steadily over the past several years and, in our opinion, will continue to do so. The proxy statement is perhaps the single most efficient means through which a board can engage with shareholders and reaffirm discussions with specific investors.
Large shareholders have strong opinions on how certain facets of companies in which they have an ownership interest are run, particularly in the area of governance. The proxy statement is an effective tool to report on actual shareholder engagement while providing insights into board decisions as they relate to shareholder requests.
Many companies now disclose the level of engagement they have with shareholders.
Takeaway and Best Practice. Use the proxy statement to reflect what shareholder engagement the board has actually undertaken. Consider stating the percent of shareholders that the board has had communications with and the board’s willingness to meet with and engage in meaningful dialog with its larger shareholders. Be honest – but consistent – in disclosing responses to shareholder requests, complaints or suggestions.
Summary/Status of Relevant Rule Changes
D&O Questionnaires. No changes to SEC rules or NYSE or Nasdaq listing standards that require changes to the D&O Questionnaire, though Illinois-headquartered companies should consider adding a question to confirm diversity information that will now be required in state filings.
Hedging Disclosure. In December 2018, the SEC adopted rules requiring companies to disclose their hedging practices and policies for employees, officers and directors. The rules require companies to disclose whether employees, officers and directors are permitted to engage in hedging transactions to offset declines in a company’s stock price. The rules do not require disclosure of specific hedging transactions, but rather the companies’ policies. Note that this rule is in addition to the pre-existing requirement in CD&A that that requires disclosure of hedging policies for named executive officers to the extent material to their compensation. Next year will be the first year larger companies have to comply. Smaller reporting companies and emerging growth companies will generally have to comply beginning with the 2021 proxy season. Finally, the new rule applies to all companies subject to the proxy rules whereas the CD&A-related rule would not apply to smaller reporting companies and emerging growth companies.
 The Harvard Law School Forum on Corporate Governance and Financial Regulation Director-Shareholder Engagement Guidebook (March 2019) reports:
Sample Board Level Engagement
- Eldorado Gold: Disclosed that board and management engaged ~40% of shareholder base
- Crescent Point Energy: Disclosed that executives and the IR team engaged within the top 25 shareholders
- Kinross Gold Corp: Disclosed that board and senior management engaged 50% of issued and outstanding shareholders
- TransCanada Corp: Contacted 45% of shareholder base, engaged 35%. and engaged two proxy advisors
- Yamana Gold: Disclosed that the Compensation Committee engaged with over 50% of shareholder base
Pay Ratio Disclosure. This will be the third season of required pay ratio disclosure, which requires disclosure of the ratio of the total compensation of the CEO to that of a company’s median employee. Previously, the well-accepted advice was to provide the disclosure and say nothing more. Increasingly, we expect companies with ratios that are outliers in their industry to provide an explanation.