Category: Corporate Governance
What ESG backlash? KPMG survey finds companies plan to increase spending on ESG
ESG backlash notwithstanding, a recent global survey conducted by KPMG of 550 company directors and members of management showed that the vast majority of global organizations plan to increase spending on sustainability initiatives over the next three years. Why? KPMG’s US ESG Audit Leader told Bloomberg that the “key reason” at the moment for the increased interest in ESG “‘is really regulatory pressure.’ Regulations are forcing companies to ‘inject the same level of rigor into [their] sustainability reporting that is required of financial reporting….Historically, sustainability reporting has sat with a very small group of under-resourced people,’ [she said]. Now as requirements evolve, ‘the amount of effort and rigor that needs to go into reporting has changed substantially.’” But these expenditures are not designed purely for compliance, KPMG concluded; they are also considered “a valuable tool for enhancing financial performance both now and in the future.” Nevertheless, “organizations are facing real challenges in delivering against this objective”; as KPMG observed, there seems to a “a disconnect between perception and preparedness.”
Fifth Circuit grants petition for rehearing en banc for Nasdaq board diversity rule
In August 2021, the SEC approved a Nasdaq proposal for new listing rules regarding board diversity and disclosure, accompanied by a proposal to provide free access to a board recruiting service. The new listing rules adopted a “comply or explain” mandate for board diversity for most listed companies and required companies listed on Nasdaq’s U.S. exchange to publicly disclose “consistent, transparent diversity statistics” regarding the composition of their boards. (See this PubCo post.) It didn’t take long for a court challenge to these rules to materialize: the Alliance for Fair Board Recruitment and, later, the National Center for Public Policy Research petitioned the Fifth Circuit Court of Appeals—the Alliance has its principal place of business in Texas—for review of the SEC’s final order approving the Nasdaq rule. (See this PubCo post and this PubCo post) In October 2023, a three-judge panel of the Fifth Circuit denied those petitions, in effect upholding Nasdaq’s board diversity listing rules. Given that, by repute, the Fifth Circuit is the circuit of choice for advocates of conservative causes, the decision to deny the petition may have taken some by surprise—unless, that is, they were aware, as discussed in the WSJ and Reuters, that the three judges on this panel happened to all be appointed by Democrats. Petitioners then filed a petition requesting a rehearing en banc by the Fifth Circuit, where Republican presidents have appointed 12 of the 16 active judges. (See this PubCo post.) Not that politics has anything to do with it, of course. That petition for rehearing en banc has just been granted by the Fifth Circuit—on Presidents’ Day—and the opinion of the lower court was vacated.
Center for Political Accountability introduces Guide to Model Code
In 2020, the Center for Political Accountability introduced the CPA-Zicklin Model Code of Conduct for Corporate Political Spending, designed to provide a “thorough and ethical framework” for corporate political spending. The preamble states that the Code is a “public commitment to employees, shareholders and the public to transparency and accountability. It not only mitigates risk but also demonstrates the company’s understanding that its participation in politics must reflect its core values, its respect for the law and its responsibilities as a member of the body politic.” The goal is to help companies adopting this code to avoid the reputational and financial harm that might result from a failure to align corporate values and political spending. Ultimately, the CPA observes, “directors and officers are responsible and accountable for the political choices and broader impact that may result from their company’s election-related spending, no matter how financially immaterial it may seem.” Now, the CPA has developed a Guide to Becoming a Model Code Company, designed to help companies and their boards understand the Model Code and how it can help them manage election-related political spending in high-risk environments—think the 2024 election cycle now upon us. According to the President of the CPA, the Guide was developed based in part on questions raised by companies at a recent roundtable on corporate political spending at NYU’s Stern School.
Gensler talks about AI (and a bit about climate)
Yesterday, in remarks at Yale Law School, SEC Chair Gary Gensler talked about the opportunities and challenges of AI. According to Gensler, while AI “opens up tremendous opportunities for humanity,” it “also raises a host of issues that aren’t new but are accentuated by it. First, AI models’ decisions and outcomes are often unexplainable. Second, AI also may make biased decisions because the outcomes of its algorithms may be based on data reflecting historical biases. Third, the ability of these predictive models to predict doesn’t mean they are always accurate. If you’ve used it to draft a paper or find citations, beware, because it can hallucinate.” In his remarks, Gensler also addressed the potential for systemic risk and fraud. But, in the end, he struck a more positive note, concluding that the role of the SEC involves both “allowing for issuers and investors to benefit from the great potential of AI while also ensuring that we guard against the inherent risks.”
Does shareholder primacy mean just maximizing profits—and what does Exxon have to do with it?
As you know, the shareholder primacy theory is widely attributed to the Chicago school of economists, beginning in the 1970s, with economist Milton Friedman famously arguing that the only “social responsibility of business is to increase its profits.” Subsequently, two other economists published a paper characterizing shareholders as “‘principals’ who hired executives and board members as ‘agents.’ In other words, when you are an executive or corporate director, you work for the shareholders.” The idea, in effect, is that, as owners, shareholders may legitimately require that the company conduct its business in accordance with their desires. Of course, this idea has been subject to criticism by many as improperly ignoring the interests of other stakeholders, such as employees, customers and the community—so-called “stakeholder capitalism.” Under Friedman’s version of shareholder primacy, the desire of shareholders has long been presumed to be to maximize value and increase profits. But is it? The author of this article in Fortune makes the argument that the ongoing Exxon litigation against Arjuna and Follow This, two proponents of a climate-related shareholder proposal, throws into sharp relief a schism that has formed among adherents to the idea of shareholder primacy. The question posed is “what do shareholders really want, and are companies ever allowed to ignore them? Arjuna and Follow This own Exxon stock and are trying to dictate how the energy giant behaves. However, they are demanding more than dividends: They want Exxon to commit to more ambitious emissions reductions, and to some, that’s just as bad as companies admitting an obligation to workers or the community.” Does shareholder primacy necessarily mean just maximizing profits?
SEC Chief Accountant urges focus on professional skepticism and audit quality
SEC Chief Accountant Paul Munter has posted a new Statement. What’s on his mind? Apparently, he is disturbed that, in recent inspections of audits, the PCAOB has reported a “troubling” increase in deficiency rates—meaning the PCAOB found that there was insufficient audit evidence obtained to support the auditor’s opinion. Deficiency rates went from 29% in the PCAOB’s 2020 inspections to 34% in its 2021 inspections, up now to 40% in its 2022 audit inspections. This, he warned, was a “troubling trendline in PCAOB inspections results”—emphasis again on “troubling.” What does he prescribe? A “commitment to high-quality audits,” which, “in turn, calls for the auditor to exercise objective, impartial judgment and rigorous professional skepticism in gathering and evaluating evidence throughout the audit to support the audit opinions provided.” To be sure, both auditors and audit committees “should pay particularly close attention to areas that have been frequently identified as causes of deficiencies in PCAOB inspections.” In addition, he advises that “auditors should conduct engagements with a mindset that the investors, rather than management, are the audit client.” This commitment to high-quality audits, he contends, is the only way for auditors to protect the investing public. He offers advice for both auditors and audit committees.
What happened with proxy votes in 2023?
Starting off the new year, consultant Semler Brossy’s latest report analyzes proxy results for 2023 among the S&P 500 and the Russell 3000, including votes on say on pay, environmental and social shareholder proposals, director elections and equity plans. According to SB, last year saw improvements in say-on-pay vote results and a decline in approval rates for E&S shareholder proposals. There was little change in the rate of favorable votes for director nominees, while there was an increase in vote failures for equity plan proposals. And SB shows that unfavorable vote recommendations from ISS apparently do make a difference.
Exxon employs “direct-to-court” strategy for shareholder proposal. Will others do the same?
Back in 2014, a few companies, facing shareholder proposals from the prolific shareholder-proposal activist, John Chevedden, and his associates, adopted a “direct-to-court” strategy, bypassing the standard SEC no-action process for exclusion of shareholder proposals. In each of these cases, the court handed a victory of sorts to Mr. Chevedden, refusing to issue declaratory judgments that the companies could exclude his proposals. (At the end of the day, one proposal was defeated, one succeeded and one was ultimately permitted to be excluded by the SEC. See this PubCo post, and these News Briefs of 3/18/14, 3/13/14 and 3/3/14.) Now, ten years later, ExxonMobil has picked up the baton, having just filed a complaint against Arjuna Capital, LLC and Follow This, the two proponents of a climate-related shareholder proposal, seeking a declaratory judgment that it may exclude their proposal from its 2024 annual meeting proxy statement. In summary, the proposal asks Exxon to accelerate the reduction of GHG emissions in the medium term and to disclose new plans, targets and timetables for these reductions. Will Exxon meet the same fate as the companies in 2014? Perhaps more significantly, Exxon took this action in part because it viewed the SEC’s shareholder proposal process as a “flawed” system “that does not serve investors’ interests and has become ripe for abuse by activists with minimal shares and no interest in growing long-term shareholder value.” If Exxon is successful in its litigation, will more companies, likewise faced with environmental or social proposals and perhaps perceiving themselves beset by the same flawed process, follow suit (so to speak) and sidestep the SEC?
NYSE’s proposed listing standards for Natural Asset Companies bite the dust
Last year, the NYSE proposed to adopt new listing standards for the common equity securities of a “Natural Asset Company,” a new type of public company defined by the NYSE as “a corporation whose primary purpose is to actively manage, maintain, restore (as applicable), and grow the value of natural assets and their production of ecosystem services.” Although existing regulatory and listing requirements would continue to apply to NACs, the proposal contemplated, in addition, a fairly elaborate new NAC governance and reporting ecosystem involving specific provisions in corporate charters, new mandatory policies (environmental and social, biodiversity, human rights, equitable benefit sharing), new prescribed responsibilities for audit committees and a new reporting framework, including mandatory “Ecological Performance Reports.” (See this PubCo post.) Why did the NYSE introduce this proposal? Notwithstanding all of the developments in ESG disclosure and investing (such as ESG funds), the NYSE contended that “investors still express an unmet need for efficient, pure-play exposure to nature and climate.” According to the Intrinsic Exchange Group, which pioneered the NAC concept and advises public sector and private landowners on the creation of NACs, “[b]y taking a NAC public through an IPO, the market transaction will succeed in converting the long-understood—but to-date unpriced—value of nature into financial capital. This monetization event will generate the funding needed to manage, restore, and grow healthy ecosystems around the world and bring us closer to achieving a truly sustainable, circular economy.” At the time of the proposal, I asked whether this proposal would be a game changer to rescue our environment or merely a chimera? The answer, at least for now, seems to be chimera. In December, the SEC instituted proceedings to determine whether to approve or disapprove the proposal, asking for comment on a number of questions that were based broadly on concerns raised by commenters, such as issues regarding the licensing arrangements for NACs and the relationship between NYSE and IEG. Then, on January 17, 2024, the NYSE withdrew its proposal. Why?
Atlantic herring get their day in court—does it spell the end of Chevron deference?
On Wednesday, SCOTUS heard oral argument—for over three and a half hours—in two very important cases, Loper Bright Enterprises v. Raimondo and Relentless, Inc. v. Dept of Commerce, about whether the National Marine Fisheries Service (NMFS) has the authority to require Atlantic herring fishing vessels to pay some of the costs for onboard federal observers who are required to monitor regulatory compliance. And they’re important because… why? Because one of the questions presented to SCOTUS was whether the Court should continue the decades-long deference of courts, under Chevron U.S.A., Inc. v. Nat. Res. Def. Council, to the reasonable interpretations of statutes by agencies. The doctrine of Chevron deference mandates that, if a statute does not directly address the “precise question at issue” or if there is ambiguity in how to interpret the statute, courts must accept an agency’s permissible interpretation of a law unless it is arbitrary or manifestly contrary to the statute. Of course, the conservative members of the Court have long signaled their desire to rein in the dreaded “administrative state,” especially when agencies are advancing regulations that conservative judges perceive as too “nanny state.” And overruling Chevron is one way to do just that. (See, for example, the dissent of Chief Justice John Roberts in City of Arlington v. FCC back in 2013, where he worried that “the danger posed by the growing power of the administrative state cannot be dismissed,” not to mention the concurring opinion of Justice Neil Gorsuch in the 2016 case, Gutierrez-Brizuela v. Lynch, where he referred to Chevron as an “elephant in the room” that permits “executive bureaucracies to swallow huge amounts of core judicial and legislative power.” And then there’s Justice Brett Kavanaugh’s 2016 article, Fixing Statutory Interpretation, in which he argues that Chevron is a “judicially orchestrated shift of power from Congress to the Executive Branch.” See the SideBars below.) But, in recent past cases, SCOTUS has resolved issues without addressing Chevron, looking instead to theories such as the “major questions” doctrine. (See this PubCo post.) The two cases now before the Court, however, may well present that long-sought opportunity. Depending on the outcome, their impact could be felt far beyond the Marine Fisheries Service at many other agencies, including the SEC and the FDA. Will we soon be seeing a dramatically different sort of administrative state? To me, it seemed pretty clear from the oral argument that SCOTUS is likely to jettison or significantly erode Chevron. Among the most conservative justices at least, there didn’t seem to be a lot of interest in half-measures—been there, done that. (The concept of the Court’s limiting its decision to whether statutory silence should be treated as ambiguity, as some had hoped, did not even come up for serious discussion.) But what approach the Court might take—overrule Chevron with no alternative framework suggested, adopt a version of “weak deference” as outlined in a 1944 case, Skidmore v. Swift & Co., or possibly even “Kisorize” (as they termed it) Chevron by imposing some serious limitations, as in Kisor v. Wilkie—that remains to be seen.
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