Issue link: https://digital.shearman.com/i/1512772
Shearman & Sterling LLP 23 | Evolving Notions of Board Effectiveness 2. Challenge Increasing Social and Political Risks Boards are increasingly faced with risks related to the impact of social and political reactions to business models, operational decisions, shifts in strategy, diversity, equity and inclusion efforts and other aspects of the business that may not only affect stockholders but also other stakeholders including employees, communities, customers, suppliers and the public at large. There is a shifting perception of the level of corporate responsibility that a company must bear when dealing with complex societal issues, and this can lead to companies being drawn into issues that seem disconnected from the business but relate to the company's overall influence as a corporate citizen. Sometimes the issues may be unanticipated and seem to come out of nowhere and can therefore be deeply surprising to board members in terms of how the company's well-meaning actions are interpreted (or misinterpreted). In other cases, the board may be fully behind company actions or strategies that may face withering criticism from some quarters and need to determine how to respond in a way that protects the company's reputation and brand. The emergence of anti-ESG activism may force boards on the defensive and require them to carefully balance the interests of stockholders and other stakeholders and the company's culture against the arguments of those who may disagree and take public and damaging swipes at the company's brand. These issues can be very difficult for a board to navigate because they are not evaluated on economics or business outcomes alone. Often, these challenges involve complicated questions of how the emotional, social and political perceptions of large and sometimes opposing constituencies will be affected depending on what steps are taken. Sometimes these decisions seem reduced to seeking the least bad outcome as there are possible negative impacts from every approach. Board Effectiveness Implications • Board Leadership and Composition • It goes without saying that when dealing with social and political impact issues, strong leadership is required to keep the board focused on the company's core values and to continually guide and remind the board that staying close to those values should be the first principle in approaching these issues in the short and longer term. From a board composition perspective, board diversity and a well-thought-out skill set can be critically important in allowing the board to deliberate on the complexity of these issues with greater clarity and understanding and avoid blind spots or bias in formulating a successful path forward. • Board Culture and Dynamics • While diversity of experience and viewpoints can be highly valuable in evaluating and responding to social and political developments impacting the company's business, the subject matter often gives rise to strong emotions, passionate points of view and even heated discussion. This emphasizes the importance of not only building a diverse board but a cohesive one. The board must find ways to build the kind of trust that leads to every member of the board embracing and respecting the contributions of other members and feeling a sense of confidence in the outcomes of the collective decision making of the board as a whole. 3. Challenge Greater Scrutiny on Individual Directors The recent corporate governance focus on board diversity, board skills and board refreshment, which has manifested in skills and diversity matrices in proxy statements of public companies, has also over time increased the focus on the attributes of individual directors among investors and activists. Institutional Shareholder Services (ISS) has for some time targeted specific directors (heads of Compensation or Governance committees in particular), in particular for perceived governance weaknesses, but focus on the personal attributes of particular directors, including age, tenure, diversity, skills or independence is a more recent development. Activists, particularly those who are seeking board seats or considering a proxy fight are looking more carefully at existing directors. New Rule 14a-19, the SEC's "Universal Proxy Rule" now requires companies and activists soliciting proxies for alternative directors to include both the company's and the activist's nominees on each proxy card, allowing In the 2023 proxy season, 75 out of 100 of the Top 100 Companies in the United States identified diversity as an important attribute for directors.