There is growing momentum globally for enhanced corporate transparency regarding the identification and management of material sustainability risks. From BlackRock’s updated proxy voting guidelines and annual letter to public company CEOs, to Vanguard’s open letter to directors, one thing is clear – investors are publicly advocating greater accountability from boards of directors and senior management regarding disclosure of key sustainability-related decisions that increasingly are viewed as inextricably intertwined with the corporation’s financial condition and/or operating performance. This trend will only accelerate, as private equity and venture capital fund investors and managers around the world are being urged to incorporate responsible ESG investment principles into their portfolio management practices1.
This is very much the case in both the United States and United Kingdom, where companies are facing mounting pressure from various stakeholders – including but not limited to major institutional investors, consumers, NGOs and other interested groups – to think beyond the generation of immediate shareholder return and focus instead on more sustainable business and investment strategies. Despite the current de-regulatory environment in the United States, at least at the federal level, a leading state legislature recently amended its corporate laws to facilitate “private ordering” activities in the ESG arena. Significant steps also are being taken in the U.K., in recognition of heightened interest among corporations and their various constituents in more effective sustainability practices and disclosures that transcend mere “greenwashing.” We discuss two recent cross-Atlantic developments that are particularly noteworthy.
Delaware’s Certification of Adoption of Transparency and Sustainability Standards Act
In an effort to establish a “voluntary disclosure regime to foster dialogue around sustainability and responsibility among participating Delaware business entities and their various stakeholders,” Delaware recently enacted the Certification of Adoption of Transparency and Sustainability Standards Act (the “Act”). The Act will become effective on October 1, 2018. While compliance is voluntary, the Act has broader significance because Delaware is the home of more than 50% of U.S. publicly traded corporations, many of which are multinationals grappling with multiple demands for improved ESG practices and/or disclosures from within and outside the United States.
The express intent of the Act is to “support Delaware business entities in their global sustainability efforts.” The statutory language makes clear that the legislature does not “purport to prescribe which sustainability standards an entity chooses to adopt.” To the contrary, the Act is “enabling legislation that permits a Delaware entity to signal its commitment to global sustainability” by designing and implementing its preferred compliance framework.
A Delaware-governed entity may seek a Certificate of Adoption of Transparency and Sustainability Standards from the Secretary of State that attests to the entity’s establishment of standards for managing its business activities in a sustainable manner, along with “assessment measures,” or performance metrics for gauging objectively whether the entity has met those standards. Once a certificate is issued, the Reporting Entity must comply with specific conditions to avoid losing its eligibility and becoming a “Non-Reporting Entity” (subject to a mechanism for restoration to “Reporting Entity” status). Under the Act, the board of directors is expected to play a critical role throughout the certification process – both in adopting resolutions setting forth the entity’s sustainability standards and performance metrics when initial certification is sought, and in connection with the entity’s submission of an annual renewal statement to the Secretary of State. Continued certification thus requires ongoing director oversight, including making such changes to the entity’s sustainability standards and/or assessment measures as the board “in good faith determines are necessary or advisable.”
Although the Act does not expressly require a certified reporting entity to publicly disclose all of the information contained in materials filed with the Secretary of State, either to obtain initial certification or to maintain its continued eligibility on an annual basis, certain provisions of the Act may be construed to impose some type of public reporting obligation. To illustrate, the statutory definition of a “Standards Statement” includes a requirement to identify “an Internet link on the principal website maintained by or on behalf of the [Reporting] Entity” where members of the public can find “a description of the process by which [such] Standards were identified, developed and approved and any Report filed or to be filed by the Entity are and will be readily available at no cost and without the provision of any information, and will remain available for so long as the Entity remains a Reporting Entity….” What all this will mean in practical terms must await the October 1 effective date.
The U.K. Corporate Governance Code
The U.K.’s Financial Reporting Council issued its long awaited amendments to The UK Corporate Governance Code this week (the “Code”). The Code, a set of principles rather than legislation, does not establish mandatory standards, but rather uses a “comply-or-explain” model and provides guidance to U.K.-listed companies designed to help them “demonstrate throughout their reporting how the governance of the company contributes to its long-term sustainable success and achieves wider objectives.”
Recognizing the rapidly changing environment in which companies, their shareholders and other stakeholders now operate, the Code notes that “[c]ompanies do not exist in isolation” and places significant emphasis on businesses building trust by forging strong relationships with key stakeholders. Unlike the previous corporate governance code, which placed greater emphasis on shareholders, the revised Code “puts the relationships between companies, shareholders and stakeholders at the heart of long-term sustainable growth in the U.K. economy.”2
Another significant change introduced by the newly amended Code is the attention placed on effective engagement with shareholders and stakeholders. Boards are encouraged to disclose annually how key stakeholder interests, including the interests of the workforce, have been considered in board discussions and decision-making. Moreover, emphasizing the need for meaningful disclosure, the Code, as amended, establishes a central role for the board in sustainability reporting. For example, the board is expected to assess the basis on which the company generates and preserves value over the long-term, and to describe in the annual report how opportunities and risks to the future success of the business have been considered and addressed, the sustainability of the company’s business model and how its governance contributes to the delivery of its strategy.
What to Expect
These and other ESG-related developments in the U.S., the U.K. and elsewhere make clear that corporate stakeholders, including most notably many large institutional investors, want more than short-term profits reflecting a narrow managerial vision of value creation. Market-based solutions continue to evolve and take hold around the world. As discussed in our alert available here, and as described above, we expect this trend to continue, or even accelerate, in the near term. Directors and senior management therefore should be prepared, even in the absence of new, more prescriptive regulation, to respond to driving non-governmental forces seeking change in the ESG realm through “private ordering.” Many companies have proactively considered and implemented innovative sustainability risk management and disclosure approaches that integrate and communicate material financial and non-financial information to the public, drawing upon voluntary reporting frameworks promulgated by such organizations as the Financial Stability Board’s Task Force on Climate-related Financial Disclosures, the U.S.-based Sustainability Accounting Standards Board, and the Global Reporting Initiative. Both regular corporate engagement with major stakeholders to understand their concerns, and procedures for ensuring that the board’s agenda facilitates informed and effective oversight of the company’s sustainability practices and disclosures, are essential ingredients of successful corporate governance in 2018 and beyond.
- See, e.g., UN Principles for Responsible Investment, Limited Partners’ Responsible Investment Due Diligence Questionnaire (Part I, November 2015); Incorporating Responsible Investment Requirements into Private Equity Fund Terms (Part II, July 2017); ESG Monitoring, Reporting and Dialogue in Private Equity (Part III, June 2018)↵
- Financial Reporting Council Press Release, A UK Corporate Governance Code that is fit for the future (July 16, 2018), available here.↵