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Overboard of ESG

09 December 2019 by Ben Harber FCIS and Olajumoke Kupoluyi ACIS

Overboard of ESG

We look at the importance of ESG and overboarding to investors

In this article, we continue to analyse the key areas of focus by investors as we enter the last month of 2019 and begin preparations for 2020. In our last article, we reviewed one of these areas (stakeholder engagement) and will be briefly reviewing Environmental, Social and Governance reporting (ESG), and overboarding here.

Environmental, Social and Governance (ESG)

Investors are becoming increasingly interested in the disclosure of ESG issues and will often review these aspects before investing in a company. ESG covers a wide range of issues and can be grouped into the following non-exhaustive list:

  • Environmental e.g. climate change, access to natural resources, energy use, pollution, sustainability;
  • Social e.g. corporate culture, diversity, overboarding, stakeholder engagement, community; and
  • Governance e.g. company leadership, audits, shareholder rights and the policies and procedures implemented.

The recent changes to the Financial Reporting Council’s (FRC) UK Stewardship Code (applicable for reporting years beginning on after 1 January 2020) demonstrates the increased investor focus in this area and makes it clear that, “environmental, particularly climate change, and social factors, in addition to governance, have become material issues for investors to consider when making investment decisions and undertaking stewardship”.

Sustainable Development Goals (SDG’s) are also used frequently by a number of institutions including governments, companies as well as investors following their establishment in 2015 by the UN. SDG’s are 17 interconnected goals aimed at achieving a better and more sustainable future for all and include goals such as gender equality, climate action and economic growth. A number of companies, such as BMO Global Asset Management and Legal and General Investment Management, have, where possible, linked SDG’s to their strategy and investment choices.

Ahead of the next reporting year, companies will need to ready themselves for increased disclosures to meet investor expectations as well as growing regulation. They will need to think about their ESG strategy and may consider the following:

  • what is the purpose of the company? what is its role in society as a corporation?
  • what are the company’s Sustainable Development Goals (SDG’s)? how are they linked to their strategy and business plans?
  • how does ESG affect the business, e.g. climate change and what does the company do from a risk management perspective to guard against any potential impacts of ESG on the business.

Companies should approach ESG reporting tactically (from the view point of investors), and integrate examples within their reports/statements on purpose, strategy and/or culture. Understandably, there is no one-size-fits-all on how companies should report on ESG issues within, however it is important that companies remain truthful and authentic in their application, providing real life, substantial evidence such as case studies within their annual reports for 2020. For example, what challenges has the company faced, what plans does the company have in place to overcome these/how did the company overcome them?

Over-boarding

Another key area of increasing focus amongst investors and proxy voting agencies this year was overboarding. This was a result of changes to the code, voting guidelines of proxy voting agencies such as ISS, Glass Lewis, large institutional investors such as Legal and General Investment Management (LGIM) and Blackrock.

Furthermore, the increased focus on Directors’ responsibilities, time commitment and stakeholder engagement in the Code (as well as other regulatory requirements) mean that there is an upward increase in the time commitment required from Non-Executive Director’s (“NED’s) in order for them to discharge their duties sufficiently and effectively.

Whilst there are varying definitions of overboarding, a NED is generally regarded as overboarded if they hold more than five public company directorships (with the role of a chair being counted as two directorships).

This is the view of ISS, LGIM and Glass Lewis and a number of institutional investors. In recommending the reappointment of a NED, proxy voting agencies will also consider each role carefully, for example Glass Lewis “may consider relevant factors such as the size and location of the other companies where the director serves on the board, whether the director serves as an executive or non-executive director of any large privately-held companies, and the director’s attendance record at all companies.” Whilst most guidelines refer to public company directorships only, agencies and institutional investors will still look all board positions that a NED may hold such as appointments to private or non-listed companies, charities etc. therefore companies should take note of this and consider this when reviewing a Director’s commitments.

Greater investor scrutiny in this area is expected in 2020 especially with the increase in votes against the reappointment of Directors this year including that of Sir Nigel Rudd who saw 27% of Meggitt’s shareholders vote against his re-appointment in April 2019 due to overboarding concerns (in 2017, he received 31% of votes against his reappointment and retired from his role at Destiny Pharma shortly after). A statement published by the Company six months following the AGM stated that they believed that Sir Nigel continued to have sufficient time to dedicate to his role at Meggitt.

So what are the practical considerations/questions company secretaries should be thinking about ahead of the next reporting year and general meeting season?

Undertake a review of the Directorships of all board members:
o Determine what other Directorships they hold – public companies, charities, trusts
o Are any Directors overboarded or close to overboarding?
If any are overboarded, have discussions been held with those board members concerned and/or the board/Nomination Committee? Do they plan to step down from any of their directorships?
How will this be explained to investors? Are there any ramifications of this on that Directors re-election at the AGM?

2020 will see increased investor scrutiny as they review the disclosure of companies, with particular focus on the quality of the disclosures especially around purpose, culture and stakeholder engagement.

There will no doubt be increasing pressure on companies as they continue to navigate this arena and attempt to strike a balance in providing sufficient information to investors and ensuring that the company remains compliant with increasing regulation. 

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