May 13, 2021

How ISS Assesses Racial & Ethnic Diversity

We’re in the midst of the first proxy season in which ISS is flagging companies that have no apparent racially or ethnically diverse directors – next year, they’ll start making adverse voting recommendations. Because companies aren’t required by SEC rules to disclose diversity characteristics, ISS has been urging companies to either include the info in proxy statements or provide it directly to the proxy advisor.

Now, in its recently updated “Policies & Procedures” FAQs, the proxy advisor has also explained how it’ll go about making ethnicity assessments if companies don’t volunteer the info:

Where definitive information is not disclosed, ISS classifies directors — largely along standards put forth by the U.S. Office of Management and Budget’s Directive 15 — by carefully assessing race and ethnicity through a variety of publicly available information sources. These include company investor relations websites, LinkedIn profiles, press releases, leading news sites, as well as through identifying affiliations between individuals and relevant associations and organizations focused on race and/or ethnicity, such as the Latino Corporate Directors Association.

The FAQs also list the ethnic & racial categories that ISS uses in its database, how each category is defined, and what qualifies as “diverse” under the voting policies. And, they clarify that ISS will recommend against nominating chairs of insufficiently “diverse” boards – even if that director is themselves from an under-represented community – because the voting recommendation is intended to convey dissatisfaction with the person’s action taken in that role, rather than as a call for the person to step off the board.

ISS seems to be devoting a lot of resources to making sure its diversity voting policies will be accurately applied – presumably for the benefit of its investor clients who find this information valuable. And although this blog from Keith Bishop raises the question of whether a company could face a securities law claim if its directors insincerely self-identify as a member of an under-represented group – practically speaking, companies who want to get a favorable ISS recommendation for their director elections would probably want to make diversity info easy to find.

Bitcoin: Beaten Back By Strongly Worded Statements?

The ETF and Bitcoin trends got a little closer to converging earlier this week, when Cboe filed an application with the SEC to serve as an exchange for a Bitcoin ETF that Fidelity wants to launch. But the next day, the SEC’s Investment Management Division issued a Staff Statement about mutual funds & Bitcoin futures that also touches on ETFs.

The Statement says that, sure, there could be some mutual funds that can invest in Bitcoin futures in a way that works under the Investment Company Act – but the Staff is going to be closely monitoring a bunch of technical compliance issues. Add this to the list of things being scrutinized, along with accounting treatment for SPAC warrants and companies’ climate disclosures. The Statement says the Staff will be welcoming further input on ETF compliance efforts, specifically.

The Staff statement didn’t appear to make much of a splash, maybe because the Commission has been crypto-skeptical for several years, and Chair Gensler has signaled that he supports investor protections in this space. Commissioner Peirce also tweeted along with the IM Statement that she hopes the SEC will get comfortable with investors having access to crypto-based securities products, so perhaps crypto supporters took heart from that. Staff Statements are also always carefully crafted to emphasize that they aren’t rulemaking or Commission-level guidance, and there’s no indication (yet) of an enforcement sweep.

Last night, SNL star and Technoking Elon Musk made bigger waves with his own strongly worded statement. He tweeted that Tesla would suspend vehicle purchases using Bitcoin until that currency’s mining transitions to more sustainable energy. This WSJ article explains why Bitcoin uses more energy than newer cryptocurrencies. Elon says Tesla still owns its pile of Bitcoin, he continues to believe in crypto, and he’s also looking at alternatives that use less energy. Many people have been wondering whether ESG would overtake crypto hype at some point – we could be in for a horse race.

ESG Assurances: Watching the Watchers

As the SEC & investors seek reliable ESG data, it’s looking more likely that they could start to expect some third-party assurance of those disclosures. It’s also looking like audit firms will most likely be the ones to provide that service. Lynn blogged recently about the CAQ’s roadmap for auditor attestation of ESG metrics – and Lawrence shared more color on about how this could work. XBRL initiatives are also in the works.

But how can we know that the assurances are accurate? Dan Goelzer, current SASB member and former Acting Chair and founding member of the PCAOB (among other high-profile roles), is also calling for an expansion of the PCAOB’s powers to include oversight of ESG metrics. He outlines that concept in article that he recently authored for the CPA Journal. Here’s an excerpt:

Expand the PCAOB’s mission beyond financial statement auditing. The PCAOB’s authority is over public company “audits,” defined in SOX as examinations of financial statements. Traditional financial reporting, however, is becoming a smaller part of the information that companies disclose and that investors utilize. For example, investors increasingly use non-GAAP measures and key performance indicators, along with traditional financial reporting, in investment decision making. Moreover, investors have become more focused on the risks and opportunities presented by external, nonfinancial factors that can affect a company’s long-term success or failure. This type of information is often referred to as ESG — environmental, social, and governance

As investors increasingly demand non-GAAP measures and ESG reporting, auditors are being called upon to provide assurance over these types of information. Congress should expand the PCAOB’s authority to ensure that, as auditors’ assurance over nontraditional information becomes more common and more critical to capital allocation, the board will have the ability to set standards and inspect this aspect of auditors’ work. information. Virtually all large companies make ESG disclosures, and most do so in a sustainability report.

At the end of March, the PCAOB announced the formation of a new 18-person “Standards Advisory Group.” The charter doesn’t expressly say that the SAG will weigh in on ESG-related services, but the group’s purpose is to advise the Board on “key initiatives” – including auditing & attestation standards. The group will consist of 5 investor representatives, 4 audit professionals, and 3 seats each for audit committee members, academics and others with specialized knowledge.

Liz Dunshee