& Securities

Institutional Shareholder Services (ISS) has launched its Annual Benchmark Policy Survey (available here) to help inform potential changes to its voting policies for the 2024 proxy season. This year, ISS largely focuses on global environmental and social topics, particularly climate change, as well as compensation, governance and stewardship topics such as U.S. non-GAAP incentive metrics, director independence classifications for professional services and cross-market / foreign private issuer policies.

The survey will close on September 21, 2023, at 5pm ET. ISS will also host roundtable discussions and other engagements as part of its policy update process. ISS typically announces proposed policy changes in October and adopts its final policy changes in mid – to – late November. More information on ISS’s policy development process is available here.

Compensation: Non-GAAP Incentive Pay Program Metrics (U.S.) ISS notes that U.S. companies routinely use board-approved non-GAAP metrics in their incentive pay programs, and that performance results (and consequently the payouts) can be significantly affected by those non-GAAP adjustments. ISS further notes that many companies do not disclose in the proxy statement a line-item reconciliation of non-GAAP to GAAP for incentive program metrics (as permitted by Instruction 5 to Item 402(b) of Regulation S-K, which provides that non-GAAP target levels are not required to be reconciled, but that disclosure must be provided as to how the non-GAAP financial measures are calculated from the company’s audited financial statements). In light of increased investor scrutiny of non-GAAP adjustments, including adjustments related to COVID-19, the Russia-Ukraine conflict and litigation costs, according to ISS, an increasing number of investors believe that line-item reconciliations are necessary in order to make an “informed assessment of executives’ incentive pay.” ISS asks whether companies should be required to disclose a line-item reconciliation of non-GAAP adjustments to incentive pay metrics in their proxy statements.

Director Independence: Professional Services (Global). The provision of professional services (such as legal, audit or consulting services) by a director (or their immediately family member) often involves close collaboration with senior executives and involvement in decision-making at the company, which ISS considers to impair independence if in excess of a de minimis amount (currently $10,000 per year in the U.S.) Recognizing that a company’s audit or law firm may employ thousands of people, many of whom have no involvement in providing services to that company and have received no compensation from revenue received from that company or may be employed in a different office or practice area, ISS asks, assuming full disclosure of relevant information by the company, whether and how its policy may be adjusted.

Cross Market Companies / FPI Policy (Global). Noting that U.S.-listed companies that qualify as Foreign Private Issuers (FPIs) are permitted to follow the governance and disclosure rules of their “home market,” defined as their country of incorporation, ISS is requesting feedback on whether companies that have a non-U.S. secondary listing should be reviewed under ISS’s less stringent FPI policy or the policies applicable to such non-U.S. market. 

Environmental and Social Topics (Global)

ISS has continued its focus on environmental and social topics. On June 8, 2023, ISS announced enhancements to its Environmental & Social Disclosure QualityScore Methodology which ranks companies based on E&S factors covering such topics including, but not limited to, labor relations and occupational health disclosures, workforce diversity and equality, gender pay gap, human rights disclosures, natural resources and climate-related disclosures. ISS’s Global Voting Principles (available here) also focus on these topics and provide that “a company’s governance, social and environmental practices should meet or exceed the standards of its market regulations and general practices and should take into account relevant factors that may impact significantly the company’s long term value creation.” In this year’s survey, ISS appears to be targeting the creation of consistent global principles across markets on environmental and social issues including on matters such as the meaning of “materiality.”

• ISS Policy Application Global Consistency. ISS asks how and whether globally-applicable environmental and social topics, particularly climate change, biodiversity and human rights, should be evaluated consistently or whether ISS should take a market-specific approach considering country and/or region-specific standards, regulations or practices.
• Double Materiality. ISS notes that some climate-related regulatory regimes and governance guidelines, such as the EU’s Corporate Sustainability Reporting Directive, the Global Reporting Initiative and the OECD Corporate Governance Principles (2023 version), employ a “double” or “dynamic” materiality approach that is focused both on (1) the effects on the company from external sources and (2) the company’s externalities or impacts on the environment and society. ISS asks respondents how and whether their organizations consider “double materiality” in assessing environmental and social topics. ISS also solicits feedback on what kinds of actions/disclosures respondents believe are appropriate for investors to expect insituations where evidence exists that an environmental or social risk may be material to a company.
• Board Risk Oversight for High GHG Emitters. ISS’s benchmark policy considers a board of directors at a high GHG emitter to be materially failing in its risk oversight responsibilities if the company did not have an overall ISS assessment of at least “Meets Standards” on climate-related disclosure. ISS is seeking feedback on a proposed change that would require that each of the pillars of “Governance,” “Strategy,” “Risk Management,” and “Metrics and Targets” must meet the level of “Meets Standard,” as well as the overall assessment. The question in this year’s survey seeks to determine whether respondents consider boards of directors of such companies to be materially failing if each ISS climate disclosure pillar, as described above, is not at the “Meets Standard” threshold.
• Say on Climate/Transition Plans. This year’s survey includes nine questions on Say on Climate and transition plans, eight of which request investor only responses.
  • Applicable Standards. In light of continued focus on climate transition strategies, ISS requests feedback on the guidelines, standards and frameworks that organizations consider relevant when drafting or assessing a company’s climate transition strategy or plan (e.g., ICAPs Expectations Ladder, IIGCC guidelines, SBTi guidelines, TCFD guidelines, etc.).
  • Climate Transition Plans. ISS requests feedback from investors on the following: (1) whether the approach for assessing a climate transition plan differs if the company is in the Climate Action 100+ Focus Group or operates in a high-impact sector (e.g., energy, utilities, transportation, cement, aluminum, steel or chemicals); (2) provide a ranking of common disclosure and other shortcomings identified by ISS of company climate transition plans submitted to shareholder votes in the previous few years (e.g., insufficiently robust governance framework regarding climate-related matters, no or limited information on actions taken to reduce GHG emissions or on financial impacts of climate transition risks, no commitment to submit climate transition strategy or progress on climate strategy to a shareholder vote in the future, no or limited disclosure of capital expenditure (CapEx) related to climate risk management and CapEx investments’ contribution to meeting targets, no or limited disclosure of how a company’s advocacy activities support its targets, and no or limited linkage or executive compensation with climate commitments/targets); and (3) whether they take into account certain CapEx related factors when evaluating a climate transition plan.
  • GHG Emissions Targets. Specific to GHG emissions targets, ISS asks investors: (1) to indicate what they believe to be acceptable target levels for GHG emission reduction target-setting purposes (e.g., 1.5°C, well below 2°C, or 2°C); (2) which GHG emission reduction targets, if any, they expect a company’s climate strategy to include (e.g., Scope 1&2 absolute/intensity; Scope 3 (where relevant) absolute/intensity); and (3) feedback on target-related factors such as use of appropriate sector-based scenarios to set targets, whether targets are ambitious enough to meet country’s decarbonization goals and whether targets have received science-based validation).
  • Say on Climate Plans. ISS asks whether organizations consider the same or similar criteria when evaluating management Say on Climate plans as when evaluating shareholder resolutions that ask companies to report on or issue GHG reduction targets and which factors organizations consider in assessing implementation or progress reports following approval of proposals of climate transition plans by shareholders.
• Shareholder Proposals. ISS requests investor feedback as to the most and least helpful parts of an ISS E&S shareholder proposal analysis, ranging from summary of request and proponent and board statements (as opposed to only links to the detailed proponent submission and board response in proxy statements), ISS topical background reports, summary of related company actions, background information on regulatory changes or expectations of changes to happen soon, peer comparisons and third-party reports, related controversies and media attention and summary of additional findings.
• Anti-ESG. ISS asks investors how tolerant they would be of reduced disclosure and transparency regarding ESG by a company resulting from risk involving the increased politicization of ESG.