The change is here to stay, given the trajectory of climate change and the social upheaval and disparities exposed by the pandemic. Boards recognize that their businesses have to be viewed as part of the broader social and environmental fabric. While trust in governmental and supranational institutions has faltered, the expectations of business leaders have soared — from employees, customers, suppliers, local communities, politicians and regulators. Activism is no longer the preserve of an aggressive minority of investors; it is everywhere, including inside organizations as emboldened employees seek to hold their leaders to account. It is incumbent upon every board to ensure that leaders understand the needs of all their stakeholders and manage them well.
Stakeholder engagement is a question of purpose
More and more companies are actively pursuing policies of broad stakeholder engagement. The pandemic has highlighted the interdependence between businesses and their stakeholders as well as the kudos to be gained from treating stakeholders well. Unilever’s decision early in the crisis to provide cash flow relief to smaller suppliers was a powerful example (followed by others) of a business offering support to stakeholders to preserve the stability of its ecosystem.
COVID-19 has contributed to a shift in the mindset of boards and executive leadership teams, impelling leaders to engage with stakeholders as never before and to acknowledge that businesses do not exist in isolation from the communities in which they operate. Hubert Joly, the former chairman and CEO of Best Buy, calls this “the end of zero-sum leadership”. Profits do not need to come at the expense of others.
Fueled by the growing impact investing movement and amplified by social media, pressure is coming from all sides for boards to articulate a thoughtful and authentic purpose for the business. Ideally, a company’s purpose statement will serve several functions: inform the strategy; help guide investment and operational decisions; engage and motivate employees; and provide clarity and alignment for investors and other stakeholders. Today, a company’s social narrative needs to be as powerful as its financial narrative.
Prioritizing the stakeholders that matter
Helge Lund, chair of both energy giant BP and Novo Nordisk, a global healthcare company which majors on chronic diseases such as diabetes, says that his boards “spend time working with the executive team making sure that we have the right approach to dealing with stakeholders. The executive team naturally drives the stakeholder dialogue on a day-to-day basis, but increasingly board directors engage directly with internal and external stakeholders too.”
Tony Hayward, chair of Glencore, agrees: “In our business the social framework really rests with the executive — our role is to make sure it is part of every board meeting agenda. There are circumstances when it is appropriate for the board to engage directly with external stakeholders — at Glencore in the recent past that has been the case with climate change — and I have always followed up on a personal basis with any matters raised by external stakeholders at our AGM.”
While the day-to-day management of stakeholders is not the responsibility of the board itself, directors must form a clear picture of which stakeholders are materially affected by its decisions. Not only must the board ensure that the senior executive team has a framework in place and a plan for engaging with those stakeholders, but it should also find a way to have stakeholder voices represented — or at least heard — in the boardroom.
A 2020 survey of over 400 directors and corporate leaders by the Diligent Institute found that 73% of boards expect to discuss the impact of their decisions on non-shareholder stakeholders at least quarterly in the three years following the COVID-19 outbreak, with 42% anticipating such a discussion at every board meeting.
Mapping an organization’s stakeholders could result in a long list, especially if one applies the international standard definition of a stakeholder as an “individual or group that has an interest in any decision or activity of an organization.” The larger the organization’s footprint, the more extensive its ecosystem and therefore its likely stakeholder base.
Since you can’t please all of the people all of the time, prioritization is essential. Each company will have its own unique context to consider. “Boards should focus their attention on the stakeholders that have a significant impact on the long-term sustainability of the business,” says Glenn Booraem, principal and former investment stewardship officer at The Vanguard Group. “That varies company by company, it certainly varies industry by industry.”
Shareholders, in particular those that identify as either ESG or impact investors, are increasingly aligning themselves with stakeholders. An April 2021 report by Morningstar found that the global sustainable fund universe has risen to almost US$2 trillion, as a growing number of funds allocate capital to companies that pursue long-term value in ways that do not profit from causing ecological or social problems.
Typically, stakeholders with the greatest impact on operations and performance will appear at the top of the list — for example, employees, contractors, customers, suppliers, capital investors and, in some sectors, regulators. However, as shareholder and stakeholder interests converge, directors may have to represent, and listen to, a far wider set of perspectives. The range of stakeholders who might be materially affected by a business’ decisions can be very broad, including NGOs, local governments, pension scheme participants, special interest groups, media and the community — the latter defined either geographically (as in the case of people in close proximity to a mine or chemical plant) or in more universal societal terms (where corporate actions are increasingly viewed through the lens of social justice, equality and race relations).
Missteps in dealing with stakeholder concerns can reverberate around the world and cause lasting reputational damage. There is a growing case for boards to set up a dedicated risk committee, something that is still mainly confined to the financial services sector.
Listening to the voices that matter
In this era of ESG activism, it is self-evident that directors’ fiduciary duties go well beyond the financial. It has been estimated that up to 85% of the value of S&P 500 companies can be attributed to intangible assets, of which trust is a major component. All directors are guardians of those assets, which are often stakeholder-dependent.
There are different tolerance levels for stakeholder representation in the boardroom, ranging from the US, where the shareholder has traditionally been king, to European social market economies, where employee representation on supervisory boards (co-determination) is prescribed by law — for example in Germany, the Netherlands, parts of Scandinavia and Poland.
Boards operating in one-tier (unitary) governance systems are looking at innovative ways of ensuring that they are exposed to a wide range of voices well beyond those of shareholders. These include: the creation of a ‘shadow board’ made up of, say, high-potential employees offering a different perspective on key issues; seeking insight from regional or advisory boards; designating directors to understand stakeholder concerns; and appointing directors with specific stakeholder-related expertise.
The voice of the employee
One of the most critical stakeholders for any business are its employees. Since the start of the pandemic, more and more boards have taken an active interest in employee engagement levels, which have a significant impact on retention, innovation and unlocking corporate performance. Yet recent research by Kincentric found that only 32% of organizations have a clearly defined employee experience strategy — aligning employee experience with business priorities. In the second year of the pandemic, as fatigue and restlessness sets in, it will be more important than ever for management teams to unite employees around a common purpose and listen to their concerns.
There are various ways to bring the voice of the employee into the boardroom. The least likely to take hold is appointing one or more employees to serve as a board director. Outside those countries where worker representation on the board is enshrined in law, there has been little appetite for what many would see as an extreme measure. Proposals in the US to consider the addition of non-management employee directors have been voted down by shareholders at Walmart, Disney, Starbucks and Citigroup in the past year, for example. Nevertheless, the existence of such proposals indicates a growing desire to bridge the gap between corporate management and the workforce.
In the UK, the 2018 Corporate Governance Code now requires listed companies to adopt one (or a combination) of three mechanisms to ensure the board is actively engaging with its employees:
a director appointed from the workforce
a formal workforce advisory panel
a designated non-executive director
Any company that chooses not to adopt one or more of these methods must explain what alternative arrangements are in place and why it considers that they are effective. By mid-2020, 49% of the top 150 FTSE companies had opted to designate a non-executive director as responsible for representing the employee voice in the boardroom.
Well before the UK Code recommended the idea, Rolls-Royce had appointed non-executive director Irene Dorner as its first ‘Employee Champion’. In this role she meets as many cohorts of employees as she can in order to gather a broad range of views and feed these back to the nominations & governance committee on which she sits — and to the full board. “It has taken off in such a way that instead of having to invite myself to meetings, we now have to control the flow of what I get invited to, because people now are terribly keen,” she says. “It's been a success because I am able to go anywhere I like to meet employees. The CEO and the management team are extremely open to the concept; they are always prepared to deal with any concerns I bring back, whether they are small operational issues or broader observations raised in my annual report to the board.”
The most effective route to workforce engagement will depend entirely on the nature and context of each individual business and its context. Employee directors may not be for every company, but better employee engagement certainly is.
Some companies have set up a ‘shadow board’, giving up-and-coming leadership talent an opportunity to debate issues on the board agenda with the group chair — an effective way of tapping into ideas and concerns circulating well below executive committee level.
Stakeholders benefit from diverse boards
As boards recognize the value of listening to stakeholders — and the risks of not doing so — they are choosing to spend more time with management discussing how to balance shareholder interests with those of other stakeholders. There will be times when these interests collide, leading to uncomfortable trade-offs.
We believe that the more diverse the board, the more thoughtful and effective it will be in weighing competing interests. And there’s no question that boards are becoming more diverse. Research for the 2021 US Spencer Stuart Board Index, for example, has found that nearly three-quarters of new directors appointed to S&P 500 boards are women and/or belong to a historically underrepresented racial or ethnic group, up from 31% a decade ago. Having a range of backgrounds and experiences around the table is bound to enhance the board’s ability to anticipate the financial and non-financial consequences of its decisions. In an era of activism covering everything from racial equity to decarbonization to biodiversity, boards must seek out people with different mindsets who can represent changing views about the role of business in society. But equally important, boards must first ensure that the mechanisms are in place to bring stakeholder voices into boardroom debate.