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Paul Hodgson: ISS’s “church and state” separation between proxy advice and ESG data

Influential advisory firm ISS now markets itself as a full service ESG house

Institutional Shareholder Services (ISS) now presents itself as an ESG research house, following a spate of acquisitions, rather than ‘just’ a proxy advisory firm.

So has it changed the way it makes recommendations to its clients on environmental, social and governance (ESG) shareholder proposals?

To get to the bottom of this, I looked at a whole range of recommendations, spoke to shareholders and also to Pat McGurn, ISS’s special counsel.

At the ExxonMobil meeting in May, ISS recommended voting in support of shareholder resolutions on lobbying disclosures, political spending, the board skills matrix disclosures and splitting the chair and the CEO, as well as for shareholders’ ability to call a special meeting.

But it advised against Arjuna Capital’s proposal to set up a special board committee on climate change and against the ‘Report on Risks of Petrochemical Operations in Flood Prone Areas’. They were the only climate resolutions that got onto the proxy.

At Amazon’s meeting in June, which had even more shareholder resolutions, it recommended FOR the proposals on food waste and special meeting rights.

But it was against the prohibition of the company’s facial recognition technology as being too prescriptive, but for a report on the use of facial recognition technology as this would allow shareholders to understand how Amazon is managing human rights risks.

It also recommended support for reports on hate speech, sexual harassment, gender pay gap and climate change and for an independent board chair.

It was against the right wing proposal for ‘true diversity’ and for the inclusion of sustainability in performance measures for executives.

A mixed bag, yes, but a lot of support for ESG resolutions.

I spoke with both Danielle Fugere and Lila Holzman of shareholder advocacy group As You Sow.

On Exxon, Fugere said: “We were disappointed with ISS’s recommendation on our proposal on petrochemical risks. ISS appears to have accepted the company’s generalized statements that it is doing sufficient analysis on the growing risk to petrochemical infrastructure from climate change.

“In fact, the company provides no details to back this up and has experienced spills and releases during recent hurricanes — which are expected to become more frequent and intense. Shareholders’ valid concerns about this material risk should be answered. When Exxon challenged the proposal, even the SEC did not agree that the request had been implemented.”

Fugere also noted that the resolution received fairly unprecedented support – at 25% – for a proposal that ISS had recommended against.

ISS’s McGurn felt that support for E & S proposals had grown in recent years.“Support from ISS’s Benchmark Voting Policy (the ISS ‘House View’),” he said, “has grown in recent years as proponents have continued their shift from highly prescriptive demands for action by companies to requests that boards provide reports on the risks presented by various E & S concerns.”

He had a lot of statistics to back this up. So far this year, ISS has issued ‘for’ recommendations for almost three-quarters (74.4%) of all E & S-related proposals in the Russell 3000, up from 72.5% in 2018.

“We do not change our Benchmark Voting Policy simply because we have a new line of business related to sustainability data… It’s akin to the separation of church and state.”

The firm has recommended in favour of 34 of 36 proposals on political spending disclosures, for 22 of 23 lobbying disclosure proposals, for 11 of 12 gender pay gap proposals, for eight of 10 proposal seeking reports on linking pay to sustainability metrics.

Likewise for all of the proposals related to GHG/methane emissions, for six out of seven proposals asking for reports on employee diversity and for both proposals seeking reports on climate change risk.

“In sharp contrast,” said McGurn, “a decade ago when proponents’ use of prescriptive proposals was at its high-water mark, ISS opposed the lion’s share of E & S-related shareholder proposals on ballots — with recommendations against 65% in 2008 and against 55% in 2009.”

But he said that, rather than affecting voting recommendations, the growth of the ISS ESG data analytics business – bolstered by the acquisitions Germany’s oekom, Ethix SRI Advisors and the climate arm of Swiss-based climate consultancy South Pole and others — “has no impact on Benchmark Voting Policy formulation process”.

“In other words, we do not change our Benchmark Voting Policy simply because we have a new line of business related to sustainability data.” As with other ISS businesses, McGurn said there was a formal separation of responsibilities within the organisation.

“We think of it as something akin to the separation of church and state in the political context. The business teams working on our various data and analytics product lines are separate and apart from the Benchmark Voting Policy formulation process.

“That separation does not mean, however, that the proxy advisory service does not benefit from the development of these new analytics or the collection of additional sustainability data by other parts of the ISS business.
Over the last couple of years, for example, the growing depth and breadth of our ES&G datasets have enriched our analysis of proxy voting issues by allowing for more in-depth industry peer group comparisons.”

On the issue of the Exxon recommendation on the proposal on the petrochemical operations, McGurn said that ISS’s policy research team found that the company acknowledged the risk, had systems in place to manage it and disclosed these at an acceptable level.

But he said it was “the subject of healthy debate” at the firm. “It was a close call. It wasn’t a coin toss, but it was far from a slam dunk.”

He added: “Notably, analysts applying ISS’s Specialty Policies reached a different conclusion and they urged support for the resolution under our SRI, Public Fund, Sustainability and Catholic guidelines.”

Fugere said: “I don’t understand the proposition that different clients would receive different recommendations on an issue like climate risk.

“Either climate risk exists or it doesn’t and either the company is addressing that risk adequately or it is not. A recommendation based on client attitude or investment beliefs makes sense in certain issues such as governance, but with climate risk, a more fact-based issue, I would think that all investors should receive the same recommendation.”Holzman said: “It feels like it’s more about perception than reality.”

And Fugere agreed, saying it is problematic when investors take action based on perceptions and not the facts.

Other ISS ‘no’ recommendations are more easily understood. For example, it recommended a vote for diversity reports and disclosure proposals at six companies, including Charles Schwab, Home Depot and Newell Brands, but against a proposal at Facebook. But, like the proposal at Amazon, the Facebook proposal came from the conservative True Diversity group that wanted policies implemented to break up the company’s ideological monopoly.

Likewise, ISS recommended a vote for 22 lobbying disclosure resolutions, including at BlackRock, General Motors, Disney, Motorola, Boeing, but against the proposal at Morgan Stanley. McGurn said in an email: “The Morgan Stanley lobby proposal was standard language. The E&S analysts on our Benchmark Research Team found that the company’s disclosures in this area were sufficient.”