Stakeholder capitalism in the ESG era may drive heightened expectations as well as regulations for reporting, transparency and accountability — plus greater pain for those who fail to achieve needed levels of compliance. BDO’s Amy Rojik suggests boards should take a proactive approach to ESG and similar stakeholder capitalism, ensuring sufficient resources, appropriate controls and focused communications.
The Rise of ESG Reporting and Transparency
A growing recognition of the broader impact companies have on society and the planet is influencing both shareholder proposals and board priorities. A review of shareholder proposals from 2020 to 2021 reveals a notable uptick in ESG-related proposals, according to an analysis by Sullivan & Cromwell LLP. Employee-related diversity, equity and inclusion (DEI) proposals nearly doubled year-over-year from 46 to 89, and the number of climate-related proposals climbed significantly from 48 to 85. Boards that engage shareholders on these and other applicable topics and demonstrate how specific initiatives address them can help increase investor confidence.
The value of prioritizing ESG is highlighted by the growing overlap between areas of shareholder interest and regulatory scrutiny. The SEC seeks to protect investors through increased transparency and has signaled regulatory actions that reflect that goal. These include approval of Nasdaq’s recently effective diversity and disclosure rules, proposed SEC amendments regarding trading plans and expected expansion of human capital and climate-related disclosures in public filings. As boards seek to address shareholder priorities, practices that help mitigate risk often support a proactive stance on regulatory compliance as well.
Long-Term Benefits of Collaboration for Boards and Compliance
Stakeholder capitalism should factor into both board and compliance department planning. Those considerations will continue to inform regulatory requirements that improve transparency through a lens toward enhancing long-term value creation for the benefit of shareholders. For example, developing a robust ESG strategy can help address and mitigate risk, improve access to capital and promote overall resilience.
Of course a key challenge is the lack of a standardized reporting framework for ESG initiatives. While there are several widely used frameworks, there is also significant movement toward convergence of global ESG reporting standards under the newly formed International Sustainability Standards Board (ISSB).
As reporting frameworks evolve and disclosure requirements increase, boards, reporting management and compliance departments should continue to collaborate to determine how they can best communicate non-financial information about progress on ESG initiatives.
This process includes not only identifying metrics that quantitatively and qualitatively measure progress on defined ESG objectives and demonstrate the positive impact of these efforts over time but further considers the reporting systems, policies and procedures needed to ensure the integrity of the data collection and disclosure. A well-designed and effective reporting program can provide investors with the relevant, actionable information needed to inform decisions, which addresses regulator goals as well.
Fostering a Culture of Accountability
BDO’s 2022 shareholder meeting agenda notes that a common thread of the need for greater accountability and transparency runs through many shareholder priorities. Three areas of particular interest include:
- Voting rights: By providing all investors with access to the voting process, not just those with the most shares, boards can directly increase accountability to all shareholders. Proxy advisory firms Glass Lewis and Institutional Shareholder Services (ISS) echo this sentiment through their own voting recommendation policies. Both firms now support votes against all U.S. companies with multiclass or other unequal voting rights. Moreover, institutional investors like BlackRock are also pushing for equal voting rights.
- Sustainability: Nowhere is the need to address the needs of multiple stakeholders any clearer than in the changes taking place in reporting, control and compliance with environmental issues. For example, Fink maintains that “Every company and every industry will be transformed by the transition to a net zero world. The question is, will you lead, or will you be led?” As time passes, the need to comply with more regulations plus provide greater transparency regarding the E in ESG will only accelerate.
- Compensation strategies: Compensation strategies are also facing greater scrutiny, not only as a social issue (the S in ESG) but also as companies in many different industries struggle with a labor shortage. A 2021 Pearl Meyer survey of companies found nearly half of respondents (47 percent) had experienced higher than usual employee turnover rates. As companies seek to attract and retain top talent, they should balance those efforts with compensation strategies that are aligned with stakeholder expectations. At the executive level, leadership performance is now often measured against longer-term incentives, which include sustainability initiatives as well as financial performance benchmarks.
In 2020, the SEC updated Item 101(c) of Regulation S-K, which requires certain disclosures related to human capital resources. More recently, SEC Chairman Gary Gensler indicated the agency is considering additional human capital disclosure requirements. As labor shortages have put new pressures on human capital management, boards and compensation committees are further considering expanding aspects in support of employee development and fostering an inclusive environment. As compensation strategies continue to evolve, compliance departments can help the company meet evolving applicable disclosure and regulatory requirements related to human capital management.
The push for ESG initiatives plus a greater focus on compensation practices is causing more companies to expand employee benefits beyond salary and bonuses. BDO’s latest board survey found that companies are reworking pay-for-performance strategies to complement ESG goals, with 19 percent increasingly tying annual and long-term incentives to ESG metrics. A defined ESG strategy can bolster recruitment and retention efforts to aid human capital management, which is particularly important during the current labor shortage. Employees are voicing the desire to work at organizations that share similar values to their own. BDO’s 2021 Fall Board Pulse Survey of public company board directors found more than half (51 percent) are emphasizing DEI values, 37 percent are enhancing employee benefits and nearly one-third (32 percent) are focusing on social responsibility and philanthropy.
Shaping Sustainable Success
By embracing stakeholder capitalism with a view to creating long-term value, boards are positioning their organizations to capture opportunity while mitigating risk. But as companies adjust corporate posture to address evolving shareholder and “other” stakeholder priorities, it is important that compliance departments be part of the conversation.
Ultimately, companies need to ensure their compliance departments are resourced adequately to perform as needed in an era of heightened reporting requirements and transparency.