Investment Giants Step Up Governance Oversight

Odd huge businessman goes across the town

By John Howell

It’s contagious, spreading fast, and is having serious consequences throughout society.

I’m not talking about this season’s virulent flu, but the recent announcements by the biggest global mainstream investors that they will be increasing oversight on governance among their portfolio companies.

Investment firms—including BlackRock, Vanguard, and State Street (which collectively manage $14 trillion in assets)—and several other investment entities are putting the thousands of companies in their portfolios on notice that their governance practices and strategies will be more closely monitored by the funds in the future. And they’re not looking just for traditional governance—that the social relevance of their operations and missions will be evaluated, too.

This notice was included in an open letter by BlackRock founder and chief executive Larry Fink to the CEOs of the world’s largest public companies this past January. “Society is demanding that companies, both public and private, serve a social purpose,” Fink wrote. “To prosper over time, every company must not only deliver financial performance, but also show how it makes a positive contribution to society.”

Fink explains that he sees “many governments failing to prepare for the future, on issues ranging from retirement and infrastructure to automation and worker retraining… As a result, society increasingly is turning to the private sector and asking that companies respond to broader societal challenges.”

Due to this cultural change, Fink says BlackRock will be adding substantially to its stewardship team, doubling the 32-member staff over the next three years and assigning a high-level executive Barbara Novick, BlackRock vice-chairman and co-founder, to oversee the ramped up effort. Fink stated that asset managers’ responsibilities now include “investing the time and resources necessary to foster long-term value.” With some 4,000 companies in its portfolio, BlackRock will indeed need to step up its oversight team to execute more in-depth engagement re. governance with a social purpose.

Another open letter to CEOs by Bill McNabb of Vanguard and nine other investment firms including State Street and CalSTRS—calls on companies to reset their strategies to focus on long-term growth plans that include their interactions with society.

The signees, operating as The CEO Force For Good / Strategic Investor Initiative of CECP, have produced a seven-point checklist for expanded, CEO-driven reporting that includes such items as:

• What are the key risk factors and mega trends (such as climate change) your business faces?”
• How to you describe your corporate purpose?
• How do you manage your human capital requirements over the long-term?
• How will the composition of your board (today and in the future) help guide the company to its long-term strategic goals?

McNabb sums up the rationale for the proposed change in governance oversight bluntly: “For too long, companies have sacrificed long-term value creation to generate short-term results.”

Representing $15 trillion in assets, the group’s statement is bound to have an impact equal to the size of its portfolio holdings. This doubling down on governance oversight is a paradigm shift in investment decision making. Andrew Ross Sorkin, editor of the NY Times Dealbook column, called the news “a watershed moment on Wall Street, one that raises all sorts of questions about the very nature of capitalism.” He confirms the changed context of governance today in which previously “agnostic” investment funds and businesses which have avoided public stands on non-material issues have moved toward socially responsible principles. “It is a refrain that we’re hearing more and more from various pockets of the business community, and in fact, last year company leaders found themselves taking stands on issues like immigration policy, race relations, gay rights and more,” said Sorkin.

The funds are also reacting to the pushback against Exchange Traded Funds (ETFs), the guiding investment principle of the decade for the big firms. In this strategy, investments are made in thousands of businesses through passive equity vehicles that track indexes, not individual companies. With trillions parked in index funds which measure value by scoring macro-trends in specific sectors, the investment firms were reduced to passive investors, with little engagement with the executives and boards of companies.

That game has changed. Fink says, “the growth of indexing demands that we now take this [oversight of governance] to a new level.”

It has certainly captured the attention of public companies who are now scrambling to implement CR policies if they didn’t have any, and to review current CR policies for upgrades.

This shift has actually been underway for some time. The canary in the coal mine sang out last year, when BlackRock and Vanguard joined up to pressure ExxonMobil to report on the impact of climate change on its profit projections. It was an unprecedented move that was viewed as an anomaly, not a movement.

That initial solo warning has now escalated into a full-blown chorus of concern about governance that integrates social purpose.

Public companies, take notice. SRI (socially responsible investment) is becoming business-as usual.

Posted April 11, 2018 in Vol. 8 No. 4 - July/August 2017