Board Oversight Disclosure.
Over the past several years, companies have increasingly used their proxy statements to communicate how their boards have exercised oversight over key matters. We expect this trend to accelerate in the 2020 proxy season. This trend is being driven both by institutional investors' desire for a greater understanding of the governance of their portfolio companies and companies' desires to efficiently and effectively disseminate information into the marketplace to enhance their shareholder engagement programs. "Voluntary" disclosures that are increasingly becoming common include descriptions of board's oversight of long-term strategy, culture, diversity, ethics, human capital management, cybersecurity, climate change, sustainability, human rights, political contributions and lobbying expenditures. Companies also have been increasingly including factors that connect to relevant ESG topics as part of their skill matrix in their proxy statements. In our Survey, we found that 52 of the Top 100 Companies identified ESG factors as a skill set in their director skills matrix or as part of their director biography.
Proxy Advisory Firms.
The lead-up to the 2020 proxy season has been filled with significant changes for proxy advisory firms. In August 2019, the SEC published two interpretive releases (Release No. 34-86721 and Release Nos. IA-5325; IC-33605) aimed at proxy advisory firms. The guidance could see proxy advisory firms change the way they present their reports and, more importantly, it may push investment advisers to demand proxy advisory firms do more so investment advisers can fulfill their fiduciary duties. A proxy advisory firm has already challenged the legality of a portion of the guidance in court. In addition, the SEC has proposed a rule that could fundamentally change the way that proxy advisory firms operate. The rule proposes that proxy advisory firms provide companies with reports in advance, give them a forum to publicly respond to the report and require more comprehensive conflicts of interest disclosures. Although this rule will not be in effect for the 2020 proxy season, we expect the guidance and the reverberations of the proposal to impact the dynamic this year.
Pay for Performance.
Pay for performance continues to be a key consideration of investors, and using the proxy statement to effectively explain the connection between a company's pay program and business performance is paramount. In recent years, in light of investor advocacy for objective performance criteria and reduced discretion, companies have measured performance for compensation purposes almost exclusively through the use of financial and operational metrics. As stakeholders, including institutional investors, expect companies to operate in a manner that demonstrates a commitment to their employees, community and the environment, ESG-related metrics are finding their way into plan design. Our Survey showed that 15 of the Top 100 Companies include so-called "soft" metrics tied to corporate responsibility, environment/ sustainability and diversity in their incentive plan design. We expect this trend to continue in 2020, as companies are finding that the compensation program can serve as an effective response to shareholder questions (and proposals) on ESG-related issues.
Litigation.
Shareholder litigation with respect to proxy statements is not new, but it is increasingly focusing on technical errors and violations. Even immaterial regulatory "foot faults" can trigger litigation, or the threat of litigation, that is an unnecessary distraction for the company in the run-up to the annual meeting. To minimize the likelihood of nuisance suits, have your proxy drafted or reviewed by securities regulation experts who are up to date on the latest requirements and can confirm that the proxy is technically compliant with all applicable regulations; even small refinements in the regulations can be drawn upon by litigants. Lawsuits may also focus on disclosures about perceived conflicts of interest, particularly as to third-party advisors, because such issues can be one of the few avenues for enterprising plaintiffs to attempt to undercut a shareholder vote of approval. Where appropriate, including disclosures about past work by the advisor—whether for the company or for a transaction counterparty—may discourage lawsuits challenging the validity of a vote.
Shareholder Proposals.
The last several years has seen an increase in shareholder proposals aimed at social and environmental topics, and we expect this trend to continue. At the same time, the SEC staff has issued guidance for three consecutive years (Staff Legal Bulletins 14I, 14J and 14K) covering its approach to evaluating the significance of social policy issues and the criteria for micromanagement in the context of the ordinary business exclusion. The SEC continues to urge boards to weigh in on the significance to the company of social policy issues and has stated that the absence of that analysis may impact whether the staff can concur in exclusion on ordinary business grounds. The SEC staff has also recently announced that it may begin to respond orally, or decline to state a view, in response to Rule 14a-8 no action letter requests. We expect these developments to necessitate a more strategic approach to shareholder proposals, including consideration of when and how to respond, if and when to involve the board or a committee, and what to do in the absence of SEC concurrence.
Board Diversity.
In July 2019, we finally reached the point where each S&P 500 company had at least one woman on its board. No longer is the discussion about whether diversity is the "right thing"; the focus has shifted to how boards can support the development of diverse talent in management and increase diversity at the board level. In this environment, effectively telling your company's "story" on diversity in your proxy is vital. Adhering strictly to the vague requirements for diversity disclosure under Rule 407 of Regulation S-K will no longer satisfy institutional investors focused on this important issue. Strong disclosure will describe the company's policy and perspective on diversity and describe board processes with respect to director candidate identification, as well as ensure related disclosure on charter requirements and governance guidelines tie together. Over three quarters of the Top 100 Companies in our Survey included director photos in their proxy statements and presented aggregated diversity information for all directors, while 56 of the Top 100 Companies also presented diversity information in distinct categories.
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