It is time to begin preparing for the 2021 proxy season and, though there are some minor rule changes, we believe this season will be defined by a focus first on COVID disclosures and second on board diversity, social disclosure and shareholder engagement. As investors’ expectations continue to increase in these areas, we have prepared a summary of developments to help guide your compliance efforts.
The impact of the COVID-19 pandemic will find its way into several sections of the proxy statement.
Compensation Disclosure. In September, the SEC Division of Corporation Finance issued Compliance and Disclosure Interpretation (CD&I) 219.05 addressing whether benefits provided to executives because of COVID-19 constitute perquisites or personal benefits for purposes of compensation disclosure. In general, an item is not a perquisite or personal benefit if it is directly related to the performance of an executive’s duties. Conversely, if an item has a personal component to the benefit (even if there is also a business component), it is considered a perquisite or personal benefit unless available to all employees on a non-discriminatory basis.
Corporate Governance Disclosure. Item 407(h) of Regulation S-K requires disclosure of the board’s role in risk oversight of the registrant. Stakeholders will be interested in how the board handled oversight of the registrant’s response to the coronavirus pandemic. Accordingly, you should consider expanding the risk oversight discussion to include disclosure of the board’s involvement in the different aspects of the company’s response.
Human Capital. The pandemic has caused increased interest in human capital matters, including remote working, health and safety of employees and the impact of these factors on business operations. Many companies already include ESG disclosure in their proxy statements, and it may now be beneficial to include a more detailed discussion about human capital in those sections of the proxy statement if ESG disclosures are made.
Letter to Stockholders. Many companies include a letter to stockholders at the beginning of the proxy statement. This letter would be a convenient place to include a summary of the impact of COVID-19 on the company and the company’s response.
Virtual Meetings. Though the use of virtual meetings has increased in past years, the COVID-19 pandemic resulted in an explosion in the use of virtual meetings in 2020 which we believe will continue and only increase. For 2021, you should consider whether how the technical aspects of virtual meetings worked and whether/how the technology can or should be improved upon (examples would be how the Q&A portion of the meeting worked and whether questions need to be submitted in advance). Also, it is important to note that Regulation FD applies to virtual meetings, so if there is a technical glitch and some participants are unable to hear a portion of the presentation, if that portion is material, Regulation FD disclosure would need to be made via a press release on Form 8-K.
Board Diversity. For some perspective on director diversity, consider that, among S&P 500 companies, all-male boards of directors have disappeared, and a majority of boards now have at least three female directors. In the S&P 1500, close to a majority of boards include three or more women. Many institutional investors have well-publicized voting policies under which they will vote against (or withhold votes for) boards that lack gender diversity. Proxy advisory firms also consider diversity when making recommendations to their clients.
Special Note to Illinois- and California-Headquartered Companies
Illinois now requires 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 board and executive officers.
The law does not mandate any specific diversity but requires companies to self-identify the composition of their board members with regard to gender and minority status.
As noted in our earlier Client Update, by the end of 2021, California-headquartered publicly traded corporations (either domestic or foreign) will be required to have at least one director from an “underrepresented community.” By the end of 2022, any such company with a board of between five and eight members must have at least two such directors, and any such company with a board of nine or more members must have three such directors.
Accordingly, Illinois- and California-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.
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.
Environmental, Social and Governance Policies
Similarly, there has been growing demand for disclosure of social and environmental policies and values, sometimes called “Environmental, Social 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 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. As a result, many Fortune 500 companies have begun disclosing such information in their proxy statements. Key disclosures in 2020 included: climate change/emissions; renewable energy; waste; energy efficiency and water.1
Arguably the greatest focus is on climate change – for example, what are companies with heavy greenhouse gas emissions doing to reduce their footprint and what impact will climate change have on a business. As noted in a recent Ernst & Young report, many investors who care about climate change will try to impact companies’ policies in reducing emissions and other areas that impact the environment. That report states that 67% of reporting companies voluntarily disclosed a measure of related performance in climate change, most often expressed in a percentage reduction in emissions against a baseline.2
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 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 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.
Consider using the proxy statement to identify the percent of shareholders that the board has had communications with and the board’s willingness to meet with and engage in meaningful dialogue with its larger shareholders. Be honest – but consistent – in disclosing responses to shareholder requests, complaints or suggestions.
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.
For further information, contact your CFMB lawyer or:
About Croke Fairchild Morgan & Beres
Croke Fairchild Morgan & Beres is a corporate law firm providing services to businesses, private equity and venture firms and their portfolio companies, public companies, founders and family offices. Formed by partners who worked at preeminent international law firms, the firm boasts a deep bench of sophisticated and experienced corporate lawyers. With offices in Chicago, Lake Forest, and Milwaukee, our team provides exceptional legal service while affording our clients the benefits of working with a small, agile, and driven law firm. For more information, please visit us online at crokefairchild.com.