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Institutional Shareholder Services (ISS) has released results of its Annual Benchmark Policy Survey and ISS’ first-ever Climate Survey previewing possible policy changes for the upcoming 2022 proxy season. ISS will typically publish draft policy updates based on these results in late October and release final policy updates in mid-November after a comment period.
The Benchmark Policy Survey results, available here, focus on executive compensation, diversity, virtual meetings and other governance topics. The Climate Survey results, available here, focus on minimum criteria for boards in overseeing climate-related risks, shareholder voting rights with respect to climate transition plans, criteria for good management-presented climate transition plans and on the importance of Net Zero goals and other climate risk management criteria. Asset managers and public companies were the primary respondents to both surveys. The responses generally varied across investor and non-investor lines on key topics such as compensation, diversity, virtual meetings, governance practices and climate change.
Key takeaways from the survey results are as follows:
Benchmark Policy Survey
- Executive Compensation
- ESG Metrics in Executive Compensation (Global). Both investors and non-investors agree that incorporating non-financial environmental, social and/or governance (ESG) metrics into executive compensation programs is an appropriate way to incentivize executives, however, their rationale differs. A small majority (52%) of investors believe that ESG-related metrics should only be used if the metrics are specific and measurable and their associated targets are communicated to the market transparently, compared to 27% of non-investors. A greater proportion of non-investors (46%) than investors (34%) believe that ESG-related metrics that are not financially measureable can be effective ways to incentivize positive outcomes for a company. A majority of investors (81%) and non-investors (71%) agree that ESG-related metrics can be incorporated into short-term and long-term incentives.
- Mid-Cycle Changes to Long-Term Incentive Programs (U.S. & Canada). Investors and non-investors have differing viewpoints on mid-cycle changes to long-term incentive programs given the pandemic. A significant majority of non-investors (76%) believe that mid-cycle changes may be reasonable for companies that have incurred long-term negative impacts from the pandemic. A majority of investors (53%), however, feel that regardless of the pandemic, mid-cycle changes are problematic.
- Long(er)-Term Perspective on CEO Pay (U.S. & Canada). ISS’ current quantitative pay-for-performance screen evaluates one-year CEO pay as a multiple of the median of CEO peers. A majority of investors (85%) and non-investors (67%) agree that a longer-term perspective (e.g., three years) would be helpful.
- Diversity, Virtual Meetings and Corporate Governance Practices
- Racial Equity Audits (Global). In response to increased shareholder proposals requesting companies to perform independent audits on racial bias, ISS asked for opinions on the topic. A significant minority (44%) of investors believe that where permissible, most companies would benefit from the audit, regardless of whether the company has adequate corporate programs to address racial equity or company-specific racial equity controversies, whereas, only 18% of non-investors agreed. Both investors (47%) and non-investors (54%) believe that determining whether a company would benefit from an audit depends on company-specific factors. Of the respondents selecting company specific factors, investors (89%) and non-investors (73%) believe that the most relevant factor is that the company is involved in significant racial and/or ethnic diversity-related controversies.
- Virtual-Only Meetings (Global). In last year’s survey, the vast majority of investors preferred a hybrid meeting approach allowing for a conventional in-person meeting with additional facilities for shareholders to attend virtually. ISS asked which practices are problematic in connection with holding virtual-only meetings. Investors and non-investors agreed that the greatest concerns are around the inability to ask questions at the virtual meeting. Investors specifically, cited, as the most detrimental factor, circumstances where management may “curate” which and how many questions to answer during the meeting to avoid addressing difficult questions; whereas non-investors ranked this as only the fifth most problematic practice.
- Companies with Pre-2015 Problematic Governance Provisions – Multiclass Stock, Classified Board, Supermajority Vote Requirements (U.S.). ISS currently recommends voting against directors of newly public companies that adopted certain problematic governance provisions in connection with an initial public offering (IPO), including multiple classes of stock with unequal voting rights without a reasonable sunset, classified board structure and supermajority vote requirements for amendments to governing documents. ISS asked if it should consider issuing adverse voting recommendations at companies that continue to have certain problematic governance provisions where such provisions existed prior to 2015 when ISS adopted a new policy change and grandfathered such companies from its then new policy. Both investors (94%) and non-investors (57%) agree that ISS should consider adverse voting recommendations if a company continues to have (i) dual-class structure with unequal voting rights, (ii) supermajority vote requirements to amend governing documents, or (iii) a classified board structure even if the company went public prior to ISS’ 2015 policy.
- Recurring Adverse Director Recommendations (U.S.). In circumstances where management sought shareholder approval to eliminate a governance provision viewed by ISS to be “adverse” (such as supermajority vote requirement to amend governing documents or a classified board), but the proposal failed to receive the requisite level of shareholder support needed for approval, investors generally (45%) feel that ISS should continue to recommend withholding support from directors every year that there is not a management proposal on the ballot to reduce the voting requirement. A majority of non-investors (56%) believe that a single attempt by the company to remove the supermajority requirements is sufficient and representative of shareholder views.
- Special Purpose Acquisition Corporations (SPACs) and Governance Provisions
- Special Purpose Acquisition Corporations (SPACs) (U.S. & Canada). ISS currently evaluates SPAC transactions on a case-by-case basis, with a main driver being the market price relative to redemption value. ISS asked whether it should generally recommend in favor of SPAC transactions, irrespective of the merits of the target company combination or any governance concerns. The rationale for this potential change in policy is generally because: (i) the redemption feature of SPACs may be used regardless of if or how an investor votes on any SPAC transaction, as long as such transaction is approved; (ii) unless a SPAC transaction is approved, the public warrants will not be exercisable and will be worthless if they are not sold prior to the SPAC’s termination date; and (iii) if a SPAC transaction is not approved and consummated, public investors may need to wait until the termination date to receive a liquidating distribution if the shares are not sold beforehand. The majority of survey respondents do not have an opinion or their organization does not own SPACs (62% of investors and 77% of non-investors). Those in the SPAC space are divided where slightly more than half favor a change to support SPAC business combination proposals and the remainder believe that ISS should continue to judge the acquisition on its merits and negative recommendations, and that when warranted, may send a signal even if the proposal is ultimately approved.
- Transaction Proposals Conditioned on Support of Poor Governance Provisions (U.S.). Companies sometimes “bundle” or “cross-condition” transaction votes with proposals for governance provisions that may negatively impact shareholders. ISS cites that this “all-or-nothing” choice may pressure shareholders into accepting the governance provisions if they favor the transaction overall. ISS asked participants for the best course of action for a shareholder who supports the underlying transaction, but disfavors certain governance provisions. A large majority of investors (79%) and non-investors (58%) would agree to support the transaction, but not the other ballot items, citing that the company could waive the cross-condition requiring shareholder approval of the governance provisions if needed to close the deal.
Global Policy Survey on Climate
- Board Accountability (Global). With respect to companies whose operations, products, or services are considered to contribute strongly to climate change, ISS asked respondents to choose which actions are considered as the minimum that should be expected of those companies. Respondents were asked to select all factors they would consider to be a significant indicator that the relevant board is failing in its management of climate change risk. Company actions that receive significant support from investors and non-investors as minimum standards include:
- Clear and appropriately detailed disclosure of its climate change emissions governance, strategy, risk mitigation efforts and metrics and targets, for example such as according to the Task Force on Climate-Related Financial Disclosures (TCFD) framework (88% investors, 75% non-investors).
- Demonstrate improving disclosure and performance (even if it is not yet in line with peers or with Paris Agreement goals) (66% investors, 63% non-investors).
- Targets and emissions reductions at least in line with industry peers (55% investors, 49% non-investors).
- Declare a long-term ambition to be in line with Paris Agreement goals for its operations and supply chain emissions (Scopes 1, 2 & 3 targets) that could reasonably be seen to be in line with limiting global warming to “well below 2 degree C” (Paris Agreement goals) (72% investors, 44% non-investors).
With respect to companies whose operations do not as strongly contribute to climate change, a majority of investors (53%) and fewer than half of non-investors (44%) believe that minimum expectations for companies that are not as strongly contributing to climate change should be less, but there still should be some expectations.
- “Say on Climate” Management Climate Transition Plan (Global). ISS asked which factors would be a “deal breaker” for shareholders to vote against a management proposal for a shareholder advisory vote (“say on climate”) to support the company’s climate transition plan. Respondents were asked to select as many as they felt applied. Generally, non-investors have fewer deal breakers than investors. Popular responses for investors and non-investors include a lack of:
- Clear and appropriately detailed disclosure of climate change emissions governance, strategy, risk mitigation efforts and metrics and targets, for example such as according to the TCFD framework (81% investors, 63% non-investors).
- Improvement on disclosure and performance (even if it is not yet in line with peers or with Paris Agreement goals) (58% investors, 52% non-investors).
- Targets and emissions reductions at least in line with industry peers (52% investors, 37% non-investors).
- A long-term ambition to be in line with Paris Agreement goals for its operations and supply chain emissions (Scopes 1, 2 & 3 targets) that could reasonably be seen to be in line with limiting global warming to “well below 2 degrees C” (Paris Agreement goals) (76% investors, 37% non-investors).
- A strategy and capital expenditure program in line with GHG reductions targets that could reasonably be seen to be in line with limiting global warming to “well below 2 degrees C” (Paris Agreement goals) (63% investors, 19% non-investors).
- Reporting to show that its corporate and trade association lobbying activities are in alignment (or are not in contradiction) with limiting global warming in line with Paris Agreement goals (60% investors, 16% non-investors).
Investors were also concerned with a lack of:
- Management Climate Transition Plan Vote Targeting (Global). ISS asked respondents what they would consider when evaluating a management climate transition plan proposal. A substantial majority (62%) of investors and a significant number of non-investors (46%) consider that the plan is the primary place to vote to express sentiment about the adequacy of climate risk mitigation, but that escalation to votes against directors may be warranted in future years if there is multi-year dissatisfaction.
- “Say on Climate” Shareholder Proposal (Global). ISS asked when respondents think a “say-on-climate” shareholder proposal requesting a regular advisory vote on a company’s climate transition plan warrants shareholder support. Responses were notably split. About one-third (31%) of non-investors believe that a shareholder “say on climate” proposal is never appropriate and it should be left for the company to decide, and an additional one-third (38%) of non-investors believe a shareholder proposal would be appropriate on a case-by-case basis only if there are gaps in the company’s current transition plan or climate reporting. The most popular response among investors (42%) believe shareholders should always have the right to test the efficacy of the company’s approach.
ISS Specialty Climate Voting Policy (Questions to Inform Potential Changes to Data and Benchmarking Available Only to Subscribers)
- High-Impact Companies (Global). ISS noted that Climate Action 100+ has identified 167 companies that are disproportionately responsible for GHG emissions and are responsible for urgent emissions reduction if 1.5-degree goals are to be met. The majority of investors (83%) and non-investors (69%) believe that these companies should be subject to more stringent evaluation with additional indicators.
- Net Zero Initiatives (Global). Investor (86%) and non-investor (52%) respondents support ISS’ evaluation of a company’s participation in initiatives that, generally, seek to see companies align with net zero goals (e.g., net zero by 2050 emission pathway) in evaluating whether climate-related concerns should impact ISS’ voting recommendation in director elections.
- Net Zero Goals (Global). In response to which elements are the most important indicators of a company’s alignment with net zero goals, investors considered the following factors important: clear board oversight of climate change (74%); a commitment to clear and appropriately detailed disclosure of its climate change emissions governance, strategy, risk mitigation efforts and metrics and targets, for example such as according to the TCFD framework (67%); medium-term targets for reducing its GHG emissions by between 2026 and 2035 on a clearly defined scope of emissions (66%); an announced long-term ambition of net zero GHG emissions by 2050 consistent with a maximum temperature rise of 1.5 degrees C above pre-industrial temperatures (62%); long-term targets for reducing its GHG emissions by 2050 on a clearly defined scope of emissions (62%); and short-term target for reducing its GHG emissions up to 2025 on a clearly defined scope of emissions (59%). Responses from non-investors were mixed, with clear board oversight of climate change receiving the greatest support (47%).