Learning how to implement sustainable business practices can be challenging for companies in any industry, and boards may wonder how to integrate sustainability issues into discussions with management. NACD has compiled a set of resources offering practical information to help boards discuss climate-related risks, as well as opportunities associated with environmentally- and socially-sustainable business practices.
The first step is to assess why sustainability and social responsibility are such hot topics for the boardroom. Two important factors to consider are the political environment and shareholder expectations.
Signals From the Current Administration
President Donald J. Trump in June announced that the United States would be withdrawing from the Paris climate agreement, an international deal in which 191 countries have pledged to work toward goals to restrict the increase in temperatures globally to less than 2.0°C and reduce the amount of greenhouse gases being created.
The president in April also signed an executive order aimed at “promoting energy independence and economic growth,” curtailing federal environmental regulations. The order instructs the Department of the Interior to lift former President Obama’s ban on coal leasing activities on federal land.
Watchdog group Environmental Integrity Project recently reported that this year, the Trump administration, when compared to the prior three presidential administrations in the same period, has collected approximately 60 percent less in fines from companies’ violations of pollution-control regulations.
Opposing Pressure From Shareholders
Despite strong signals from the current administration that enforcement of environmental-related regulations will decrease over time, shareholders are applying an opposing pressure on corporations.
More than half (56%) of shareholder proposals introduced this year on proxy ballots related to social, environmental, or policy issues, and Proxy Monitor reports that this proportion is the highest it has seen since it began tracking such data in 2006.
Shareholder proposals relating to environmental and social issues 10 years ago sought fairly basic changes such as increased clarity into companies’ environmental policies. The proposals now seek, for example, enhanced disclosures around what the company is doing to manage climate risks and how executive pay links to sustainability initiatives, the Wall Street Journal reports.
Proposals about environmental issues received a record breaking average of 27 percent support this year, according to Proxy Monitor. That percentage was 21 percent last year and fell in the teens before that.
Meanwhile, State Street Corp., a global financial services and investment management firm with $2.47 trillion in assets under management, published a report earlier this year in which they found that traditional obstacles (like the lack of quality data about ESG) to investing more heavily in companies that prioritize ESG initiative are diminishing.
“Over the long-term, environmental, social and corporate governance issues can have a material impact on a company’s ability to generate returns,” Ron O’Hanley, president and CEO of State Street Global Advisors, said in a press release.
Resource centers are repositories for NACD content, services, and events related to top-of-mind issues for directors. In these resource centers, individuals can find practical guidance, tools, and analyses on subjects varying from board diversity to cyber-risk oversight. Below we have highlighted a sample of helpful materials from our new resource center on sustainability and social responsibility.
The handbook, produced in conjunction with EY, centers around four key recommendations:
Directors should understand the company’s definition of sustainability in the context of the company’s strategy and specific circumstances.
The board and management should align on the sustainability message and information the company chooses to report publicly.
Boards should clarify roles for oversight responsibility for sustainability activities, including external reporting.
Directors need to establish parameters for sustainability reporting to the board regarding the information required to support robust discussions with management.
A number of items included in the resource center provide expert commentary on myriad issues related to sustainability and social responsibility. A favorite of mine is “Living in a Material World,” an article written by Veena Ramani, program director of the Capital Markets Systems, at sustainability-focused nonprofit Ceres.
Ramani discusses the corporate director’s critical role in engaging with management over which sustainability issues are material for the enterprise. She offers four suggestions for board members who want to address the materiality of certain sustainability risks.
Boardroom Tools & Templates
The resource center houses several tools and templates to assist directors as they oversee sustainability-related risks and opportunities. One such tool is the “Self-Assessment: Is Your Board Sustainability-Ready?” evaluation. Directors can answer a set of questions to gauge their board’s level of engagement—or lack thereof—in sustainability oversight.
Videos and Webinars
The NACD BoardVision—Sustainability Oversight video in the resource center features a candid discussion by EY subject matter experts Brendan LeBlanc and Kellie Huennekens on how investors are engaging with boards around sustainability and social responsibility issues. (A transcript of the video is also available here.)
Our hope is that you find this resource center useful and visit it often. We will continue to update it regularly with new and interesting content. If you would like help finding resources on a specific subject matter, please let us know. We welcome the opportunity to engage with directors on pressing needs and concerns.
It remains appropriate for the boards of companies to prioritize discussion of the application of executive clawbacks in their compliance and compensation agendas, regardless of the initiatives in Congress to reform the Dodd-Frank Wall Street Reform and Consumer Protection Act.
Michael W. Peregrine
Indeed, a series of public developments this year should be prompting boards to consider expanding the scope of existing “clawback” provisions listed in executive compensation agreements. When well-crafted, they can help prevent fraud, malfeasance, or damage to the corporate reputation.
A Short History
The concept of compensation recoupment as an executive sanction has its roots in the corporate responsibility provisions of the Sarbanes Oxley Act of 2002 and related enforcement actions by the Securities and Exchange Commission (SEC). Section 304 of the Sarbanes-Oxley Act empowered the SEC to compel public company CEOs and CFOs to reimburse the company for certain bonus and incentive-styled compensation that would not have otherwise been paid for misconduct.
The limited scope of Section 304 led Congress to include broader clawback rules for listed companies under Dodd-Frank. Generally speaking, Dodd-Frank provides for the exchanges to require companies to have a clawback policy as a listing condition. Pursuant to Dodd-Frank, proposed rules call for clawback policies to cover all executive officers, applied without respect to whether there has been any misconduct by the executive officer and extend to a longer look-back period. Proposed rules would also extend the clawback rule to more types of incentive compensation.
While these proposed clawback rules have not been adopted by the exchanges, shareholder advisory services like Institutional Shareholder Services and Glass-Lewis & Co. have taken a lack of a clawback policy into account when evaluating a public company’s corporate governance practices and making voting recommendations on directors. As a result, financial restatement-based clawback provisions are now accepted as a common public company practice, and increasingly so within large, financially sophisticated nonprofit organizations.
The utility of clawbacks as a corporate responsibility measure has attracted renewed attention because of a series of corporate, legislative, and regulatory-related developments.
One of the most prominent of these was the decision by the board of a prominent financial services company to claw back in excess of $60 million in compensation benefits from two senior executives following a major corporate controversy involving certain sales practices. Yet in another development, the board of United Continental Holdings took a different position when it decided not to seek compensation clawback from a CEO who had been terminated in connection with a federal investigation of the company’s conduct, in which he had been tangentially implicated.
Additionally, the Department of Justice weighed in on clawbacks when it issued new guidelines for compliance program effectiveness. Under these guidelines, the use of financial incentives (such as clawbacks) to motivate compliant behavior is considered to be an important element of program effectiveness.
Also notable was a recent governance survey suggesting an increased willingness of boards to terminate CEOs for unethical conduct. Another development was the 15th anniversary of the Sarbanes-Oxley Act earlier this summer, which is prompting many boards to renew awareness of the tenets of corporate responsibility.
A Possible Response
These developments combine to keep clawbacks in the mainstream of current governance discourse, not only from the perspective of corporate responsibility, but also from that of effective corporate compliance—notwithstanding legislative efforts to repeal Dodd-Frank and questions on the related enforcement focus of the SEC.
Matters of clawback review could be delegated jointly to the executive compensation and audit/compliance committees, as matters of executive compensation recoupment fall within both of their respective committee charters.
The focus of the joint committee review would likely be on the expansion of clawbacks, from incidents of restatement of corporate financials, to executive misconduct which is implicated in such matters as a fraud-based governmental or internal investigation, material ethical misconduct, and damage to the corporate reputation.
In their deliberations, those committees may wish to consider two additional, important factors. One is the fact that expanded clawback provisions cannot fairly be considered a corporate best practice at this point. Enhanced media and shareholder attention to the concept of clawbacks is not the equivalent of a broadly accepted governance conduct. It may be, however, that these recent developments could accelerate the movement towards clawbacks as a best practice.
The second consideration is the effect that any expanded clawback coverage could have on board-management relationships, executive team morale, and on broader issues of talent development and retention. The board should anticipate some amount of resistance from executive leaders to the concept of expanded clawbacks, especially if it cannot yet be promoted as a best practice.
The Timing is Right
There may be no best practice available yet to guide the board or committee discussion about expanded clawbacks. And there may be no single right answer about how any one company should address the issue. But the need for reasonable methods to incentivize appropriate executive behavior suggests that the timing is right for such a discussion. Indeed, the wrong answer might be to simply ignore it.
Michael W. Peregrine, a partner in McDermott Will & Emery, advises corporations, officers, and directors on matters relating to corporate governance, fiduciary duties, and officer/director liability issues.
The practice of conducting full-board, committee, and/or individual-director evaluations has largely become commonplace. Ninety percent of respondents to the 2016─2017 NACD Public Company Governance Survey: Aggregate Resultssay their companies conduct full-board evaluations. Approximately 78 percent of respondents facilitate committee evaluations, and 41 percent conduct individual director evaluations, the survey finds.
The New York Stock Exchange since 2003 has required listed companies to disclose how their boards address evaluations. Although Nasdaq-listed companies have no such requirements, many conduct these assessments to enhance governance standards. NACD has long been an advocate for routine board, committee, and individual-director evaluations as part of a larger strategy of continuous improvement.
In keeping with these listing requirements and recommendations from our research, NACD recently created the Resource Center on Board Evaluations. Resource centers are repositories for NACD content, services, and events related to top-of-mind issues for directors. In these resource centers, individuals can find practical guidance, tools, and analyses on subjects varying from board diversity to cyber-risk oversight. Below we have highlighted a sample of helpful materials from our new board-evaluations resource center.
The NACD Directorship magazine article “The Argument for Yearly Board Evaluations” by Salvatore Melilli, national audit industry leader for private markets at KPMG, examines the importance of assessments specifically for private company boards. Less than half (48%) of respondents to the 2016─2017 NACD Private Company Governance Survey say their boards conduct full-board evaluations. Melilli’s article highlights several reasons why evaluations are critical to improving oversight evaluations. They can help vet company and board culture, identify gaps in talent or skillsets, and streamline processes for the board to engage in difficult conversations with the executive team.
Boardroom Tools & Templates
This resource center’s boardroom tools and templates are segmented by evaluation type—full-board, committee, and individual-director levels. The tools offer questions and considerations that help boards and directors ask questions that can drive healthy conversations about strengths and areas of improvement.
Videos & Webinars
An NACD video series featured in the resource center focuses on the role board evaluations play in improving governance practices. One video in the series, called “Why Confidentiality is Key,” focuses on the benefits of confidentiality in the evaluation process. Another video, “Transform Insight into Action,” discusses the value of creating tailored educational or development programs based on insights that emerge from evaluations.
If you would like help finding resources on a specific subject matter, please let us know. We welcome the opportunity to engage with directors on pressing needs and concerns.