I hope this letter finds you and your colleagues safe and healthy. As you know, each year State Street Global Advisors engages with portfolio companies such as yours on issues of importance to investors that we will be focusing on in the coming year. Our stewardship begins with the belief that strong, capable, independent boards exercising effective oversight are the linchpin to create long-term shareholder value. We express our stewardship beliefs by laying out what we expect boards to be doing on behalf of the ultimate owners of companies. As such, we choose where and when to use our voice and our vote carefully — to address systemic risks and opportunities we foresee for the companies in which we invest as a fiduciary on behalf of our clients.
Managing Through a Historic Transition
This year, I write to you at a moment of significant transition. As we enter the third year of the pandemic, and on the heels of the COP26 conference, challenges on multiple fronts — from a global health crisis, to supply chain disruptions, to the systemic risks of climate change and gender, racial, and ethnic inequity — continue to disrupt economies worldwide, threaten corporate resiliency, and test political stability. At State Street, we envisage our portfolio companies managing these threats and opportunities by transitioning their strategies and operations — enhancing efforts to decarbonize and embracing new ways of recruiting and retaining talent — as the world moves toward a low-carbon and more diverse and inclusive future.
As directors of public companies, you are keenly aware of these historic shifts. While capital markets transition to a more sustainable global economy, material environmental, social and governance (ESG) issues have come to the forefront alongside more traditional strategic and financial issues, making your role more important and more challenging than ever before. Indeed, as today’s boards oversee a range of complex and evolving issues in the face of increasing and shifting stakeholder and investor expectations, many directors find themselves navigating these challenges for the first time, with Spencer Stuart reporting that approximately one-third of new directors at S&P 5001 companies and the top FTSE 150 companies2 are serving on a public company board for the first time.
As such, our approach to engaging with boards like yours has been evolving as well. While COP26 and the pandemic have brought certain issues into sharper focus, we have been in dialogue with boards on a range of material issues — from climate to diversity to human capital management — for many years. For us, these issues are matters of value, not values — opportunities for companies to mitigate downside risk, innovate, and differentiate themselves from competitors. To that end, we view the use of our voice and our vote as central to our fiduciary responsibility to our clients to maximize long-term risk-adjusted returns.
For these reasons, our main focus in 2022 will be to support the acceleration of the systemic transformations underway in climate change and the diversity of boards and workforces.
Climate Change: Supporting the Transition to a Low-Carbon Future
Since 2014, climate change has been central to our stewardship activities — a reflection of growing evidence that showed climate change poses systemic risks to all investors. In the years since, companies have come a long way in disclosing and managing climate-related risks. Investors, too, have become more sophisticated in examining and addressing these risks in their portfolios, demanding more disclosure. Indeed, the Task Force for Climate-related Financial Disclosures (TCFD) framework has become table stakes for any climate-related discussion, with investors increasingly using this new information to tilt, or even transform, their portfolios for the future. With the recently-established International Sustainability Standards Board (ISSB) charged with developing the global set of standard metrics for sustainability-related corporate reporting and disclosure that investors have long needed, we believe this trend toward more — and more useful — climate-related and broader sustainability-related disclosure will continue, providing a clearer path to incorporating such criteria for investors.
We have arrived at an important juncture on the journey to net zero. At a macro level, there remains much progress to be made, and with increasing pressure from governments and regulators to cut emissions in half by the end of the decade, there is less and less time for companies to make the required progress. While more companies are making net-zero commitments, with over one-fifth of the world's 2,000 largest public companies having committed to meet a specific target3, few have provided a clear roadmap to achieve these goals — and fewer asset managers have provided detail on what they expect these companies to disclose as they prepare for this historic transition.
Perhaps even more importantly, while the ultimate destination for companies making this transition is clear — to net-zero emissions — the journey there is not always as clear — and rarely uniform. While the path ahead may be relatively straightforward for some companies, in general we believe that the transition will be very hard and non-linear formost. We anticipate that many companies will likely need to adopt approaches that require experimentation, innovation, and ongoing adjustments along this unchartered journey.
As 2030 approaches — and with it the need to make significant progress reducing emissions — we must recognize that this transition is far more complex than “brown” versus “green" distinctions. If we instead consider companies and assets on a spectrum of dark brown to dark green, a fossil fuel such as coal would be considered “dark brown,” whereas natural gas, with far fewer emissions, would be "light brown," and wind power would be a "dark green." Indeed, the impact from transitioning an asset from “dark brown” to “light brown” on reducing emissions may be considerably greater than moving from “green” to a “darker shade of green.”
A worldview that only sees “brown” versus “green” may generate profound unintended consequences. While there has been a lot of discussion about so-called greenwashing recently, "brown-spinning” is a term that I have used to describe public companies selling off their highest-emitting assets to private equity or other actors at a discount. The end result reduces disclosure, shields polluters and allows the publicly-traded company to appear more “green,” without any overall reduction in the level of emissions on the planet. Bottom line: in the near-term, the world may well need additional investments in some “light brown” fossil fuels to propel the transition to net zero, rather than relying on an improbable immediate shift to renewables to solve the massive climate challenge.
As a long-term investor in companies making these commitments, what we are seeking from these transition plans is not purity, but pragmatic clarity around how and why a particular transition plan helps a company make meaningful progress towards the destination. Indeed, it is essential that boards understand their companies’ pathway to net-zero, and how they will leverage their unique strengths and opportunities, which in turn will help investors like us support companies on this journey.
As such, for the year ahead, our focus will be to drive both broad climate action in the market across sectors as well as more targeted action for companies with the most significant emissions. Beginning in the 2022 proxy season:
We expect companies in major indices in the US, Canada, UK, Europe, and Australia to align with climate-related disclosures requested by TCFD, including whether the company discloses: (1) board oversight of climate-related risks and opportunities; (2) total direct and indirect GHG emissions (“Scope 1” and “Scope 2” emissions); and (3) targets for reducing GHG emissions. With approximately one-third of companies in the S&P 500 still not providing these TCFD disclosures4, we will start taking voting action against directors across applicable indices should companies not meet these disclosure expectations.
In the coming year, we will launch a targeted engagement campaign with the most significant emitters in our portfolio to encourage disclosure aligned with our expectations for climate transition plans, which covers 10 areas including decarbonization strategy, capital allocation, climate governance, and climate policy. In 2023, we will hold companies and directors accountable for failing to meet these expectations.
We also must do our part to hold ourselves accountable for progress. Last April, we joined the Net Zero Asset Managers Initiative to ensure our portfolios reach net-zero greenhouse gas emissions by 2050 or sooner and set interim targets for 2030. We will be announcing our plans including our interim targets, Investor Climate Action Plan, and our State Street Global Advisors TCFD report by April 2022. We also call on asset owners to develop a universal disclosure requirement for all companies of a certain size in their portfolios — irrespective of whether they are publicly-traded or privately-held, to avoid the pernicious effects of ‘brown-spinning.”
Ultimately, whether it is helping companies invent new, climate-positive business models, accelerate a push into renewables, or assist those making their traditional operations cleaner and more efficient, asset managers such as State Street have an important role in helping companies across the spectrum effectively plan for this transition and be a part of the climate solution. Indeed, while ambitious climate goals are important, it is supporting company efforts to make meaningful and pragmatic progress toward those goals that will be the focus of our climate work in the years ahead.
Diversity: Advancing the Transition Toward More Diverse Boards and Workforces
For nearly five years, we have focused our engagements with you on the issue of diverse board leadership across a number of dimensions, given the growing recognition that cognitive diversity (the diversity of thought) and a range of experiences are critical assets in the boardroom.
Beginning in 2017 with our Fearless Girl campaign, we have encouraged companies to add at least one woman director to their boards. In the years that followed, we’ve expanded this policy to most major markets and indices. Today, 862 (approximately 58%) of the 1,486 companies we identified with previously all-male boards have added one or more women directors.5 This past year, every company in the S&P 500 had at least one woman on their board.6
While boards have become more gender diverse, it is clear that this work is not yet complete. As such, we are enhancing our existing gender diversity policy in the following ways:
Beginning in the 2022 proxy season, we will expect all our holdings, across the globe, to have at least one woman on their boards. To-date, this policy has only applied to major indices in select markets around the world.
Additionally, beginning in the 2023 proxy season, we will expect boards to be comprised of at least 30% women directors for companies in major indices in the US, Canada, UK, Europe, and Australia. We expect this change to result in boards with 3 or 4 female directors on average and as many as 3,000-to-4,000 additional female directors across covered indices.
In each instance, we are prepared to vote against the Chair of the board’s Nominating Committee or the board leader should a company fail to meet these expectations.
We have also expanded our focus on diversity to include race and ethnicity. As I announced in my letter last year, in the upcoming proxy season we will take voting action against responsible directors if (1) companies in the S&P 500 and FTSE 100 do not have a person of color on their board, (2) companies in the S&P 500 and FTSE 100 do not disclose the racial and ethnic diversity of their boards, and (3) companies in the S&P 500 do not disclose their EEO-1 reports. Since 2020, the number of companies in the S&P 500 that disclose the racial and ethnic makeup of their boards has more than doubled7, while those in the S&P 100 disclosing their EEO-1 reports has more than tripled8; and in the last year, nearly 3 in 10 FTSE 100 companies added an ethnic minority to their boards.9
We will continue to encourage boards to have effective oversight of diversity, equity, and inclusion more broadly, beyond the board. We recently partnered with Russell Reynolds Associates and the Ford Foundation to develop a playbook for effective board oversight of racial and ethnic diversity. With human capital management now widely seen as both a risk and opportunity for employers in the wake of the pandemic, we have also published guidance for effective disclosures and practices. And, while we engage boards and companies on these important topics, we at State Street also continue to advance progress in our own organization through our 10 Actions to Address Racism and Inequality. This topic will continue to be a key priority for us in the year ahead.
Embracing Transition as an Opportunity
While the past two years have brought tremendous change with global supply chain disruptions, an unpredictable and mutating virus, and a growing need to chart a pathway to net zero, we have always believed that when companies embrace transitions as opportunities for innovation and differentiation, shareholders stand to benefit. We hope that you and your fellow directors continue to oversee the increasingly material dimensions of ESG, alongside more traditional strategic and financial issues. As long-term investors, we share your goal of creating more resilient, sustainable, and inclusive companies.
We look forward to engaging with you to make this possible — and we wish you the very best in the coming year.
President and CEO of State Street Global Advisors
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