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COVID-19 and Corporate Governance

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October 15, 2020

Increasingly, investors are calling for “back to better” instead of “back to normal” from corporations struggling with the impact of the pandemic.  Barclays summarized the acceleration and standardization of ESG (Environmental, Social and Governance) investing and operations due to the impact of COVID-19.  Barclays analysts noted that COVID-19 could serve to:

Two-thirds of World Economic Forum members at Davos 2020 said they were ready to embrace the ESG reporting initiative to increase standardization.

More focus will be on carbon reduction in supply chain.  The S in ESG – social factors – more prominently factored into risk calculations.

Nicholas Benes, of The Board Director Training Institute of Japan, proposes post-COVID-19 changes in incentive compensation for investors as well as directors and executives:

     As a thought exercise, let’s put aside the problems posed by path-dependency for now, and imagine that corporate statutes were changed in the following manner:

NOTE:  The SEC’s COVID-19 focus seems to be on short-term regulatory relief rather than future risk management, and the relief is more directed at issuers than investors.

Senate Majority Leader Mitch McConnell recently announced that Senate Republicans’ top COVID-19 response priority is sweeping corporate immunity legislation that would make it nearly impossible to sue corporations for COVID-19-related legal claims by workers, consumers, or patients.  Corporate immunity could give employers a free pass to flout worker safety laws, recklessly expose consumers to the virus, or ignore Centers for Disease Control and Prevention guidance on stopping the spread of the coronavirus.  On top of that, corporate special interests are also lobbying to get legal immunity from a wide range of critical worker protections, from minimum wage to disability rights laws.

What Investors Will Look for in the Response to COVID-19:

The primary job of the board is to manage risk.  All of their tasks, including overseeing compliance, audit, CEO selection, succession, and incentive compensation, cyber-security, and strategy, are about minimizing risk through prevention, quick and supple response, and resilience.  COVID-19 will be a significant measuring stick.  According to Bloomberg Law:

     For their part, corporations will face their own pressures.  While they will likely claim that [it] was impossible to predict the pandemic, that will not stop their leadership from being judged according to their response to it.  They will likely be scrutinized, not only by outside investors, but also by lawmakers who have placed strict requirements on corporations that are seeking government assistance during the crisis.

Continued Concerns About Revamping Incentive Pay to Minimize the Impact of COVID-19:

Incentive compensation has credibility only if there is a downside as well as an upside.  And that has to be based on the performance of the particular individual and the particular company, not the stock market or the economy as a whole.  We are concerned by efforts to mitigate the impact of overall economic disruption from COVID-19.  ValueEdge Advisors Vice Chair Nell Minow was quoted in an article about justifying CEO pay in a post-COVID-19 economy:

     “The proxies we are looking now at seem like a message from a time capsule.  They don’t seem to have a lot of relevance,” says Nell Minow, vice chair of ValueEdge . . . .

     She’s focused on potentially “big grants and option awards when the market is low” as part of 2020 compensation packages.  Companies can make the grants periodically during the year.  Gains realized later are often attributable to the overall market, not the performance of the individual company, she says.

     Minow thinks options should be indexed, so executives only benefit if a company’s share price outperforms its peer group or the overall market. . . .

     Shareholders don’t get to make up their losses with new grants, she notes.

A lot of energy and creativity is going into figuring out how to make sure COVID-19 and Corporate Governance executives do not lose their bonuses because of COVID-19 economic uncertainty.  Incentive compensation is supposed to align the interests of executives with shareholders.  If shareholders do not get bailed out, executives should not either.

We’ve already seen the term “smoothing” used.  And now this from the Compensation in Context newsletter issued by Veritas compensation consultants:

     Decreases in stock prices of many public companies as a result of the COVID-19 pandemic have required them to issue more shares in order to provide the same intended value of equity compensation that they would have granted in the absence of such price declines.  As a result, many public companies face a potential shortfall in the number of shares that will be available under their equity compensation plans.

     Public companies whose shares are listed on national stock exchanges are required to obtain shareholder approval prior to adopting equity compensation plans or increasing the number of shares available under equity plans.  As a result, listed companies facing potential shortfalls in the number of available shares are considering various alternatives.  Such alternatives include:

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