On November 12, 2020, Institutional Shareholder Services ("ISS") announced its policy updates for the 2021 proxy season, effective for meetings on or after February 1, 2021.1 Key updates include the following: 2
- Board Diversity. Effective for meetings on or after February 1, 2022, ISS will recommend voting against the chair of the nominating committee (or other directors on a case-by-case basis) where the board has "no apparent racially or ethnically diverse members." For 2021, ISS will only identify in its reports when a board lacks racial and ethnic diversity.
- E&S Risk Oversight. Effective for meetings on or after February 1, 2021, ISS will consider "poor risk oversight of environmental and social issues, including climate change" as a material failure of risk oversight that can result in an ISS recommendation to vote against directors.
- Exclusive Forum Provisions. Effective for meetings on or after February 1, 2021, ISS will recommend votes for charter or bylaw provisions that specify (i) "the district courts of the United States" as the exclusive forum for federal securities law matters and (ii) "courts located within the state of Delaware" as the exclusive forum for corporate law matters for Delaware corporations, in each case in the absence of serious concerns about corporate governance.
These topics are discussed in full below, and a chart detailing the complete list of policy updates is included.
Director Composition: Racial/Ethnic Board Diversity
Citing investors' increased focus on ethnic or racial diversity on boards3, ISS announced its adoption of the following policy:
- For 2021, ISS reports for companies in the Russell 3000 or S&P 1500 indexes will only highlight boards that lack racial and ethnic diversity (or lack disclosure of such). Accordingly, ISS will identify in its reports when a board lacks racial and ethnic diversity but will not use any lack of racial and/or ethnic diversity as a factor in its vote recommendations on directors in 2021.
- For 2022, as described above, if a company in the Russell 3000 or S&P 1500 indexes has no apparent racially or ethnically diverse board members, ISS will generally recommend voting against or withhold from the chair of the nominating committee (or other directors on a case-by-case basis).
The ISS policy updates specifically note that aggregate diversity statistics provided by the board will only be considered if they are specific as to racial and/or ethnic diversity. For 2022 voting recommendations, an exception will be made "if there was racial and/or ethnic diversity on the board at the preceding annual meeting and the board makes a firm commitment to appoint at least one racial and/or ethnic diverse member within a year."
As rationale for the policy, ISS notes that many investors have expressed interest in seeing ethnic or racial diversity on boards and, in its discussion of the policy change, ISS pointed to, among other things, its own survey results, the signing of a law into California mandating board diversity4 and certain large institutional investor policies.5
Director Accountability for Governance Failures
Currently, ISS voting policy provides that ISS will recommend, under extraordinary circumstances, a vote against directors, committee members or the entire board due to, among other things, material failures of governance, stewardship, risk oversight or fiduciary responsibilities at the company. Examples of risk oversight failures currently include "bribery, large or serial fines or sanctions from regulatory bodies, significant adverse legal judgments or settlements, or hedging of company stock."
Effective February 1, 2021 under its new policy, ISS is adding to that list of such risk oversight failures "demonstrably poor risk oversight of environmental and social issues, including climate change." In its policy updates, ISS did not provide further clarification of such "poor risk oversight" would mean in practice, but in its executive summary, ISS noted that some commenters to the proposed policy had provided their views of factors to consider in assessing whether a board has demonstrated poor risk oversight, including:
- "failure to respond to an environmental or social shareholder proposal that gets more than 30 percent shareholder support";
- "failure to disclose information under the TCFD framework"; and
- "failing to credibly align the company's strategy…to Paris Agreement goals of limiting warming to well below 2 degrees Celsius."
Shareholder Litigation Rights
Exclusive Forum Proposals
Cases Arising Under Federal Securities Laws
- Charter and bylaw provisions designating US federal courts as the exclusive forum for cases arising under federal securities law, which had previously been held to be impermissible by the Delaware Court of Chancery, were deemed to be facially valid under Delaware law in a March 2020 ruling by the Delaware Supreme Court.6 In light of these developments, ISS adopted a new policy to generally recommend a vote for federal forum selection provisions in the charter or bylaws that specify "the district courts of the United States" as the exclusive forum for federal securities law matters.
- However, ISS will recommend a vote against provisions that restrict the forum to a particular federal district court. Moreover, unilateral adoption of such a provision that restricts the forum to a particular federal district court without shareholder approval will be considered a one-time failure under ISS's Unilateral Bylaw/Charter Amendments policy, which means that ISS could recommend voting against a company's directors for one year in such a circumstance. Accordingly, if a company amends its bylaws without shareholder approval to adopt an exclusive forum provision, it is crucial to focus on the language of the amendment and establish the exclusive forum as "district courts of the United States" as described above, rather than any particular federal district (i.e., for a particular state).
Cases for State Law Matters
For exclusive forum provisions for state law matters, ISS will generally recommend for charter or bylaw provisions designating courts in Delaware as the exclusive forum for corporate law matters for Delaware corporations. For corporations incorporated in states other than Delaware, ISS will use a case-by-case approach and take into consideration a number of factors, including the company's stated rationale for adopting such a provision.
In addition, ISS will generally vote against provisions that specify a state other than the state of incorporation as the exclusive forum for corporate law matters, or that specify a particular local court within a state; unilateral adoption of such a provision will generally be considered a one-time failure under the Unilateral Bylaw/Charter Amendments policy, meaning that ISS could recommend voting against such a company's directors for one year in such a circumstance.
Fee-shifting provisions in a company's charter or bylaws require that a shareholder who sues a company unsuccessfully pay all litigation expenses of the defendant corporation and its directors and officers. ISS maintained its policy that it will generally vote against provisions that mandate fee-shifting whenever plaintiffs are not completely successful on the merits (i.e., including cases where the plaintiffs are partially successful). However, ISS' new policy makes clear that the unilateral adoption of a fee-shifting provision without shareholder approval will generally be considered an ongoing failure under ISS's Unilateral Bylaw/Charter Amendments policy, meaning that ISS could recommend voting against such a company's directors on an ongoing basis after it adopts such a provision without shareholder approval.
Full List of Policy Updates
|Advance Notice Requirements for Shareholder Proposals/Nominations||
ISS will now recommend for advance notice provisions that provide for a reasonable deadline to be "no earlier than 120 days prior to the anniversary of the previous year's meeting and have a submittal window of no shorter than 30 days from the beginning of the notice period (also known as a 90-120 day window)." This is a change from the prior rule that provided for a reasonable deadline to "not be more than 60 days prior to the meeting, with a submittal window of at least 30 days prior to the deadline."
ISS' policy has been to recommend against all director term or age limits. However, ISS policy will now take a case-by-case approach on term limits, while the policy to generally recommend against age limits will continue.
For management proposals regarding term limits, ISS will vote "case-by-case, considering: the rationale provided for adoption of the limit; the robustness of the company's board evaluation process; whether the limit is of sufficient length to allow for a broad range of director tenures; whether the limit would disadvantage independent directors compared to non-independent directors; and whether the board will impose the limit evenly and not have the ability to waive it in a discriminatory manner."
For shareholder proposals on term limits, ISS will vote "case-by-case, considering: the scope of the shareholder proposal; and evidence of problematic issues at the company combined with, or exacerbated by, a lack of board refreshment."
|"Deadhand" or "Slowhand" Poison Pill Provisions||
Under current ISS policy, ISS generally recommends a vote against or withhold from all director nominees (except new nominees, who are considered on a case-by-case basis) if the company has a poison pill that was not approved by shareholders or the board makes a material adverse modification to an existing pill without shareholder approval. Under the new policy, ISS will, in addition, vote against director nominees if the pill, whether short-term7 or long-term, has a deadhand or slowhand feature.8
|Director Elections: Racial/Ethnic Board Diversity||
For 2021, ISS reports for companies in the Russell 3000 or S&P 1500 indices will only highlight boards with no apparent racial and/or ethnic diversity, but will not use any lack of racial and/or ethnic diversity as a factor in its vote recommendations on directors in 2021.
For meetings on or after February 1, 2022, if a company in the Russell 3000 or S&P 1500 indices has no apparent racially or ethnically diverse board members, ISS will generally vote against or withhold from the chair of the nominating committee (or other directors on a case-by-case basis). An exception will be made if there was racial and/or ethnic diversity on the board at the preceding annual meeting and the board makes a firm commitment to appoint at least one racially and/or ethnically diverse member within a year.
|Director Accountability for Governance Failures||
ISS voting policy provides that ISS will recommend, under extraordinary circumstances, a vote against or withhold from directors, committee members or the entire board, in the event of, among other things, material failures of governance, stewardship, risk oversight or fiduciary responsibilities at the company. ISS is adding "demonstrably poor risk oversight of environmental and social issues, including climate change" as a failure that could result in a recommendation against a director.
|Shareholder Litigation Rights:||Federal Forum Selection Provisions:
State Forum Selection Provisions:
The only change was removal of a transitional exception to the ISS policy mandating at least one woman on a company's board. Starting in February 2021, the only exception to the adverse vote recommendations for companies with no women on their board will be if the board has temporarily lost its gender diversity: that is, if there was at least one woman on the board at the preceding annual meeting and the board makes a firm commitment to return to a gender-diverse status within a year.
|Gender, Race/Ethnicity Pay Gaps||
ISS has always voted case-by-case on requests for reports on a company's pay data by gender or race/ethnicity, or a report on a company's policies and goals to reduce any gender or race/ethnicity pay gaps, taking into account:
The revised policy will now add a fourth criteria to these factors: "Local laws regarding categorization of race and/or ethnicity and definitions of ethnic and/or racial minorities." In making this change, ISS also wants to highlight that some legal jurisdictions do not allow companies to categorize employees by race and/or ethnicity and that definitions of ethnic and/or racial minorities differ from country to country, so a global racial and/or ethnicity statistic would not necessarily be meaningful or possible to provide.
|Mandatory Arbitration Shareholder Proposals||
ISS added a new policy that it will recommend "case-by-case on requests for a report on a company's use of mandatory arbitration on employment-related claims, taking into account:
|Sexual Harassment Shareholder Proposals||
ISS added a new policy to state that it will recommend "case-by-case on requests for a report on company actions taken to strengthen policies and oversight to prevent workplace sexual harassment, or a report on risks posed by a company's failure to prevent workplace sexual harassment, taking into account:
ISS has added a new policy on virtual shareholder meetings stating that it will generally recommend voting for "management proposals allowing for the convening of shareholder meetings by electronic means, so long as they do not preclude in-person meetings." Companies are encouraged to disclose the circumstances under which virtual-only meetings would be held, and to allow for comparable rights and opportunities for shareholders to participate electronically as they would have during an in-person meeting.
In addition, ISS's policy also states that it will recommend voting "case-by-case on shareholder proposals concerning virtual-only meetings, considering:
With respect to COVID-19-related policy accommodations, ISS noted in its executive summary10 that it intends to carry forward to 2021 its previously provided policy guidance,11 with updates as appropriate. This guidance covered a wide array of topics, including annual meeting format and timing, poison pills, shareholder rights, director attendance, changes to boards and changes to compensation, capital structure, dividends and other payouts. ISS had also issued a FAQ12 giving general guidance as to how ISS U.S. Benchmark Research may approach pandemic-related pay decisions in the context of pay-for-performance qualitative evaluation. ISS' qualitative evaluation will take into consideration the impact on company operations as a result of the pandemic. As in the past, an elevated concern from the pay-for-performance quantitative screen will continue to result in a more in-depth qualitative review of the company's pay programs and practices.
1 The executive summary is available here and the fully revised policies are available here.
2 A summary of ISS' policy development process is available on pages 3-6 of the executive summary.
3 In response to the ISS policy survey, a majority of investors (57 percent) responded that they would consider voting against members of the nominating committee (or other directors) where board racial and ethnic diversity is lacking.
4 On September 30, 2020, California adopted legislation that requires, no later than December 31, 2021, that a publicly held corporation with principal executive offices located in California to have a minimum of one director from an "underrepresented community" who self-identifies as Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, Alaska Native, gay, lesbian, bisexual, or transgender. Under the California law, no later than December 31, 2022, (i) a corporation with more than four but fewer than nine directors will be required to have a minimum of two directors from underrepresented communities, and (ii) a corporation with nine or more directors will need to have a minimum of three directors from underrepresented communities.
5 ISS noted that "[l] arge institutional investors, such as Vanguard and State Street Global Advisors (SSGA), have traditionally focused more of their diversity efforts on gender. However, as awareness of the lack of minority representation on U.S. boards has drawn growing attention, there seems to be a shift by such institutional investors to focus on efforts regarding improving the number of racially diverse directors on corporate boards."
6 Salzberg v. Sciabacucchi, No. 346, 2019 (Del. March 18, 2020), available here.
7 If the short-term pill with a deadhand or slowhand feature is enacted but expires before the next shareholder vote, ISS will generally still recommend withhold/against nominees at the next shareholder meeting following its adoption.
8 A deadhand provision is generally phrased as a "continuing director (or trustee)" or "disinterested director" clause and restricts the board's ability to redeem or terminate the pill. Continuing directors are directors not associated with the acquiring person, and who were directors on the board prior to the adoption of the pill or were nominated by a majority of such directors. The pill can only be redeemed if the board consists of a majority of continuing directors, so even if the board is replaced by shareholders in a proxy fight, the pill cannot be redeemed: the defunct board prevents that. A slowhand provision is where this redemption restriction applies only for a period of time (generally 180 days).
9 ISS will take into consideration:
▪ The company's stated rationale for adopting such a provision;
▪ Disclosure of past harm from duplicative shareholder lawsuits in more than one forum;
▪ The breadth of application of the charter or bylaw provision, including the types of lawsuits to which it would apply and the definition of key terms; and
▪ Governance features such as shareholders' ability to repeal the provision at a later date (including the vote standard applied when shareholders attempt to amend the charter or bylaws) and their ability to hold directors accountable through annual director elections and a majority vote standard in uncontested elections.
10 Available here.
11 See "Impacts of the Coronavirus Pandemic" (April 8, 2020), available here.
12 See "U.S. Compensation Policies and the COVID-19 Pandemic Frequently Asked Questions" (October 15, 2020), available here.
Find out more about business response to the Coronavirus outbreak:
Coronavirus: Managing business impact and legal risks
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White & Case means the international legal practice comprising White & Case LLP, a New York State registered limited liability partnership, White & Case LLP, a limited liability partnership incorporated under English law and all other affiliated partnerships, companies and entities.
This article is prepared for the general information of interested persons. It is not, and does not attempt to be, comprehensive in nature. Due to the general nature of its content, it should not be regarded as legal advice.
© 2020 White & Case LLP