The Full ESG Experience: Strategy and Shareholder Activism

By Lyndon Park and Josh Schulnick

It’s now common practice for most investors to drive ESG recommendations full force, with many publishing their own standards, guidelines and best practices. While the volume of ESG communication from individual investor outlooks largely reflects similar themes and messaging, how do public and private companies navigate the varied trends and satisfy all of their individual investors’ expectations?

And at the same time, boards are tasked with dodging the rise of ESG-pronged shareholder activism. In a recent panel discussion, experts in ESG and activism defense discussed this convergence and how companies can be best prepared. 

Investor Outlook: The E, S and G 

Benjamin Colton, Co-Head of Stewardship at State Street Global Advisors (SSGA), acknowledges ESG as a scope of inherent opportunity while also highlighting the implications of systemic risk. He describes SSGA’s guidelines and core themes, which are outlined in more detail in President and CEO Ron O’Hanley’s 2022 letter. SSGA wants to see a thoughtful and long-term strategic governance plan that incorporates oversight and responsibility of key ESG issues that defend the company’s long-term strategy. This governance piece needs to show how the board is actively thinking about the issues and that it is fully engaged in the process. While climate change and emissions will have different implications across industries, companies in high-emitting sectors need to communicate their transition plans against the particular nuances that they face. 

But it’s human capital management (HCM) that influences all companies, regardless of industry. Colton describes HCM as one of SSGA’s prime opportunities for value creation and asserts that the ignorance thereof is one of the greatest impacts to systemic risk. When it comes to diversity and thought around equity and inclusion, Colton indicates that research points to a critical mass of value by harvesting those benefits. Investors will be expanding their guidelines to include a larger percentage of requirements in the areas of gender and ethnicity, particularly at the board level, but there is deeper interest in how boards are communicating their thoughts on these issues alongside their engagement in assessing the risks.

It’s not just large companies, Colton says, that need to be aware of these issues or showcase their thought leadership. Smaller and emerging companies also need to be conscious of the risks and opportunities and should follow suit by engaging their boards on them. SSGA’s R-Factor™, a proprietary ESG scoring methodology based on the SASB standards, is a great way for all companies to evaluate their scores and access resources and measures for improvement. By using this tool, Colton says that small companies can be equipped to think about engaging their investors on the same issues that apply to larger businesses. 

The Convergence of ESG and Shareholder Activism 

In addition to navigating the nuances of investor guidelines and expectations while driving authentic ESG strategies, companies need to be conscious of the convergence with shareholder activism. The best preparations, as commented by Amy Lissauer, Global Head of Activism & Raid Defense at Bank of America, are derived in transparency and active communication. She explains that through regular dialogue with investors, companies can provide disclosures on an ongoing basis and, in turn, gain deeper confidence from their shareholders. ESG strategies need be forward-looking and rooted in long-term value for the business; “…not just what sounds good or what an activist might want to hear,” she says. 

Shareholder activism, by nature, has no distinction in evaluating a board’s support (or lack thereof) regarding ESG. What is new and novel is that ESG is now recognized as a financially material issue, comments Colton. Lissauer further expands the scope of this convergence by outlining the new dichotomy of ESG shareholder activism: traditional operating activists vs. ESG-oriented investors. In the first instance, traditional activists are incorporating ESG themes into their claims and are increasingly leveraging any backing they can get from investors to support their proposals. The latter — true ESG oriented-investors — are genuinely engaged in folding ESG into their deals, but use activism to help force them. 

So how are companies supposed to manage this? Lawrence Elbaum, Partner & Co-Head of Activism Defense at Vinson & Elkins, says that he is increasingly being asked by companies for help pinpointing their exposures and how to manage them. They ask about everything from knowing the right inputs, metrics and protocols to board structure and how to tackle environmental issues. “Not one company is impervious to hearing about E, S or G issues,” Elbaum summarizes. 

Lissauer replies by saying companies need to actively engage with their shareholders and reach out to gauge their perspectives. Then they should continuously evaluate those concerns and fold the appropriate measures into their long-term strategies. Companies should also have their communication strategy prepped and ready to go if and when activists come knocking. By doing the legwork in advance — providing disclosures and laying out the evidence of board engagement on those issues — companies have more defense, especially against an activist demand that doesn’t quite make sense for the long term or the operational strategy of the business. 

Colton adds that reactionary measures hold less weight when it comes to dealing with activism. When contested situations arise, investors care more about the long-term strategy and less about “name calling and the airing of dirty laundry,” he says. Regarding negotiations with bargaining chips such as board seats, investors see this as evidence of a board’s lack of confidence in their own company’s long-term sustainability.

Long-Term Strategy Evaluation and Communication

ESG strategies should be a journey, comments Hillary Flynn, Director of ESG, Private Investments at Wellington Management. “It’s not a box-checking exercise.” Flynn echoes the other panelists by saying that companies should regularly reach out for feedback from their investors so that their strategy can grow. The frameworks and rating agencies provide enormous foundations for a company to create value through an ESG lens, but the right strategy is not explicitly clear. She adds that good governance, in particular, is hard to define — it depends on a company’s stage within its own lifecycle. Therefore, defining good governance should be an exercise resulting from sincere engagement and focus on best practices that align with the company business. 

CEOs are often entrenched in transactional practices, and they frequently focus on just financial and operational activity. However, when actively engaging with the board and investors on ESG, feedback on nuances such as shareholder rights, board composition, executive compensation, and other key focal points can make greater inroads and help strengthen a company’s preparedness for potential activism situations. 

Flynn recommends that companies should always be transparent and communicate as much as they can about why their decisions on any of the above-mentioned issues make sense. Knowing why they are appropriate and how they will evolve in the long term provides a key layer of confidence to investors. And it should be communicated early, clearly and often. 

To hear the full panel discussion, download Convergence — ESG and Shareholder Activism Trends.”