Engagement Sparks Change: Investment Stewardship moves to the front burner

We met Michelle Edkins, Managing Director, BlackRock, when a friend put a bug in our ear about the important work she is doing. In fact we found that this work hits very close to home for us as long term (retirement) savers and investors.

Michelle is responsible globally for institutional relations, stewardship-related policy issues, and communications related to BlackRock’s investment stewardship perspectives and activities as part of BlackRock's Investment Stewardship team of about 70 specialists covering most of the world. She also grows a mean tomato.

Michelle Edkins, tell us about your team and focus!

I’d love to! The Investment Stewardship team at BlackRock is responsible for talking to – or engaging as we say - the public companies that BlackRock invests in on behalf of our clients. We engage companies on corporate governance and how they are operating their businesses to ensure they deliver durable, long-term financial returns.

That's really important to BlackRock as a fiduciary investor on behalf of our clients. It’s clearly also important to our clients. The vast majority of them, like your audience, are saving for retirement goals. Over such very long-term investing periods, governance and sustainability considerations can impact long-term value in a material way.

We focus closely on boards, including who's in the boardroom and the effectiveness of the board as a collective body, as we believe corporate leadership is key to long-term value creation.

Are the directors effective in advising and overseeing management in delivering the long-term strategy and the financial performance that investors expect? We assess board effectiveness through our ongoing dialogue with companies about critical governance issues that support high quality business practices. We signal our support for or concerns about boards through our voting at shareholder meetings.

Your recent investment stewardship report is chock full of action and information. What stands out?

Check out BlackRock’s latest Investment Stewardship report

From my perspective, it’s how many of the issues that we are focused on are relevant across multiple time periods. Most of our engagement topics don’t lend themselves to “one and done” solutions. For instance, board diversity has been a focus for over five years and we are encouraged by the progress companies have made to build diversity into their nomination process. You’ll also see that our voting this year shows there is still a ways to go.

The other theme that comes through is how responsive many companies are to feedback from shareholders, not just BlackRock, who actively engage with them about investor expectations. I think it's fair to say that in the past few years, investor expectations of directors and of companies’ business models and management have changed. In my experience, companies appreciate being able to discuss those developments directly with their shareholders.  

One of the most significant changes is the extent to which the sustainability of a company's business model is now front and center in a way that it may not have been a decade ago. A large part of this is much greater awareness of how companies operate and the impact that they have beyond just the products or services they offer – and how that in turn can affect the companies’ own performance. There are a number of case studies that discuss the positive impact companies can have if they're deliberate about taking into consideration the interests of all of those parties on whom they're dependent to be successful.

What else are you seeing?

Another theme in the report is how responsive companies are in enhancing their reporting to cover more of the topics that shareholders are increasingly interested in.

Notably, that includes both data and the narrative around how a company is thinking about critical business issues that underpin performance -- whether it's how a company thinks about itself as an employer, its processes for assessing the resilience of its supply chains, or how it structures executive pay to ensure it’s able to attract, retain and incentivize management.

Transparency has increased considerably over the past few years, which helps investors to better understand how companies generate long-term value and make more informed investment decisions.

How are stakeholders are using this information?

Interestingly, these days companies in the US and around the world are putting greater focus on articulating purpose. Of course, every company has a purpose, they've always had a purpose - it’s simply what it is that they're in business to do and the value they deliver to their stakeholders. Now more than ever customers, employees and shareholders, as well as people in the communities in which a company operates, are interested to know what the company's purpose is and how it's delivering on that purpose.

BlackRock’s CEO Larry Fink wrote a letter to CEOs in 2018 where he asked companies to articulate what their purpose is and how their long-term strategy underpins that purpose because purpose is a company’s north star. Its long-term strategy is the practical plan for getting to its north star. In our engagement with companies, we also ask how corporate culture aligns with a company’s purpose and long-term strategy.

I think it was Peter Drucker who said, culture eats strategy for breakfast. As we see it, these three things — purpose, strategy and culture — are the legs on a stool, and they need to work together to ensure a company is successful.

So, we see companies saying more proactively, ‘This is our purpose. This is what it means to our people. This is what it means to our customers. And this is how it underpins our long-term performance.’ And that brings a company a little bit more to life, and makes its business model more understandable, for people who are interested in its success.

As you see shifts in information sharing who stands out as leaders?

My sense is that the leaders in corporate reporting have always tended to be the companies with more consumer facing business models. For these companies the need to be personable for the people that you depend on is much more apparent across the industry and within the organization.

But I think it's becoming true for companies that are less likely to be household names but do have some visibility, perhaps within the local community. That visibility often comes nowadays through employees. The traditional model of corporate governance and accountability was that the shareholders provide the capital, the board oversees the management’s deployment of that capital and shareholders get returns on their investment.

Broadly speaking, this is still the primary model, but we are seeing shifts in terms of the accountability mechanisms. Employees and their views are becoming increasingly important, in large part because the success of so many businesses today is driven by intellectual and human capital rather than physical capital. For the past several years, we’ve discussed with companies how they engage with their employees. The COVID-19 pandemic has highlighted how those that do this well managed better than those who don’t. And as more and more information on companies becomes accessible to the public, consumers are increasingly spending their money in a way that aligns with their values, thereby holding companies accountable to their promises.

Do you see investment stewardship beginning to achieve more common usage than it did at one time?

So, part of the role of stewardship is to encourage continual improvement in corporate governance, continual improvement in how companies operate and create long-term value. And I think that is a really accessible part of investing for most people.

Think about your retirement savers and our retirement clients. These are folks who are saving to meet long-term goals. Many of them are broadly diversified and using index strategies. At BlackRock, 90% of our clients’ equity investments are in index strategies, which means – generally speaking - that they can't sell companies that don't perform well or that are in industries that they don't particularly like.

When we meet with our institutional clients – such as retirement system trustees - they generally are interested in the policies, focus areas and activities of the stewardship team, because they recognize that the fund, as a long-term often locked-in investor, has an interest in ensuring companies are well-led and managed to deliver sustainable financial returns.

We see it as BlackRock's responsibility on behalf of our clients to build constructive relationships with companies so we can provide the feedback that we hope will lead to actions by companies that serve our clients’ interests. As the case studies in our recent report show, stewardship engagement helps companies understand long-term investors’ thinking on key business issues. We believe it is an aspect of institutional investment that most clients relate to, whether trustees, fund beneficiaries, or retail investors.

We were going to ask you how meaningful this active work is in the space of index investing. You’re connecting some dots here.

The funny thing is 20 plus years ago the general perception was that index funds were passive and necessarily disinterested so companies were ‘ownerless’ – one leading article described companies as having ‘Zombie shareholders’.

My experience has been the opposite. Index investors, because they didn’t have the option to sell individual companies, established stewardship teams early on to monitor corporate governance and vote at shareholder meetings. Fast forward to today, many asset managers and asset owners have committed meaningful resources to being an actively engaged shareholder.

As investors with often decades-long investment horizons, there's both the incentive and the responsibility to engage with companies and to encourage long-term strategies that deliver durable performance.

That is fascinating.

Yes. It reframes the original theory of indexing, which is you buy the market and are comfortable earning whatever the market returns. The theory of stewardship is that if we continue to nudge companies to improve their governance and business operations, which improves their performance over time, then the market return improves, and that has to be good for our clients.

Detractors might say that that if you can't sell, you have no influence, you have no voice. But actually what we have found is when you  provide constructive feedback that can give the company a different perspective, and you demonstrate that as an investor you will be there for the long term because of your index strategy, it actually carries weight.

Michelle you've been active in this space for more than twenty years. What other changes have you seen over time?

Probably the single biggest change is the professionalization of the role of the non-executive director. Twenty years ago, many corporate directors saw a directorship as a job for life. Some boards operated like a gentleman’s club and the director’s role was honorific as much as anything. There was some formal business at board meetings to which directors contributed but nothing like what is expected of directors today.

In developed markets, the role of the director today is more formalized and requires a significant time commitment and a high level of engagement. Directors continue to develop their professional skills, including their knowledge of the company whose board they serve on and the industry the company is in. Many also attend key stakeholder meetings – such as with shareholders or regulators – with management to represent the board. Given most directors serve on more than one board, and the breadth of expertise and topical knowledge expected of them, board service is more akin to a freelance consultant’s role now.

The other thing that's changed in relation to governance in the US is the understanding of who directors are accountable to. I would say until about a decade ago, the prevailing view was that, broadly speaking, the CEO appointed the directors, and they were accountable to the CEO. With the formalization of the role of the nominating and governance committee, and the introduction over that time of simple majority voting on director elections, most directors now see themselves as being accountable to and working on behalf of the shareholders. And I think that's a really significant shift.

In your report, BlackRock shares the number of times that it has voted against board members or resolutions it thought were not in the interest of shareholders.

Yes, in the year to June 30, 2021, we voted against 10% of directors standing for re-election globally.  The reasons for voting against directors differ across markets but lack of independence and diversity were key reasons. The other main reason was we believed that some directors on key committees failed to act in shareholders’ long-term economic interests, for example by making executive compensation decisions that weren’t aligned with the company’s financial performance.

Regarding diversity, it's not as if you often get an opportunity to vote in, but it's more voting out, is that correct?

You’re right. We don't nominate directors because we believe that’s the responsibility of the nominating and governance committee of the board. In our view, the board should have a formal and deliberate process for identifying both the professional and personal characteristics they seek to ensure new directors bring to the boardroom complementary skills and expertise to those of the existing directors and that are relevant to the long-term strategy.

The key thing about diversity is diversity of mindset. One of the worst things that can happen in a decision-making body like a corporate board is “group think”. Boards that have been together for a long time, without much turnover, can also exhibit group think. This is why we think it's important that boards regularly bring in new directors so that there is a spectrum, with longer serving directors who have considerable institutional knowledge and, at the other end, relatively new directors who may have skills that map more closely with the company's future strategy and also bring fresh perspectives.  In essence, in assessing a company’s board, we look for evidence that the whole is greater than the sum of the parts.

We have learned so much from you Michelle! We get to close with a light question -- any fun plans for the summer of 2021?

Well, I'm sitting here in my home office in Westchester County, about an hour out of Manhattan, waiting for the sun to come out because I have 70 tomato plants in my garden, and they're not going to ripen in the rain. I’ve lived most of my life in big cities, which didn’t allow more than a window box or two. The last few years here have been a dream come true – a big veggie garden and flowers, which we’ll spend the summer battling to keep the deer from devouring!

We’ll be right over for some fresh vegetables. That sounds delightful.

Well wait at least six weeks because there's no sunshine.

Thank you Michelle Edkins for sharing your expertise!

Want more? You can connect directly with Michelle Edkins at michelle.edkins@blackrock.com.  

This piece was featured in the August 12, 2021 edition of Retirement Security Matters. For more fresh thinking on retirement savings innovation, check out the newsletter here.