How can directors balance shareholder and stakeholder demands?

The escalation of issues at Rio Tinto and AMP reveal the need for directors to respond rapidly to investor and community concerns.

Tis the season for annual general meetings. But this year’s crop will be memorable not only for questions about corporate resilience in the face of the COVID-19 health emergency and its ongoing financial fallout, but also for the concerns of shareholders and stakeholders. The spate of astounding missteps by corporations, which hit the news midyear, now bring a fine focus to the contentious issue of the social licence to operate.

Details of cultural failings are still being explored at mining giant Rio Tinto, formerly noted as a pioneer and sector leader on native title rights and Indigenous community engagement, after its destruction of the 46,000-year-old Juukan Gorge heritage site in the Pilbara in May. The decision that was anticipated to deliver $135m to Rio Tinto’s bottom line, instead did untold reputational damage, destroyed trust with Indigenous groups and the wider community and generated international outrage.

At financial services group AMP, persistent shareholder pressure surfaced after news of rainmaker Boe Pahari’s promotion to the top job at AMP Capital despite his having been financially penalised after settling a sexual harassment claim brought by a female subordinate in 2017. Long-time corporate claims of gender diversity and equality suddenly rang hollow, angering employees and others.

In both instances, heads rolled. At AMP, chair David Murray AO and director John Fraser MAICD resigned. Rio Tinto’s London-based CEO, Jean-Sébastien Jacques, iron ore chief executive Chris Salisbury and head of corporate affairs Simone Niven also logged off for the last time.

Boards have been reeling as they analyse the implications for the companies they steward and for themselves. Synchronously, the volume of stakeholder and shareholder voices has grown louder with a resounding message on the need to heed social licence issues. Concerns about corporate cultures and unanticipated risks have shot to the top of board agendas for deep consideration and action. There’s a blurring of boundaries — the traditional shareholder preoccupations with profitability and performance have developed an interdependence with increasing community expectations of sustainability. Stakeholder concerns essentially are shareholder concerns, argues Debby Blakey GAICD, CEO of $54b super fund HESTA, which represents some 870,000 health and community service members.

Speaking out

As news of the Juukan Gorge disaster unfolded, HESTA was one of several Australian super funds to speak out independently and through the Australian Council of Superannuation Investors. Miners represent some $1.4b in the HESTA portfolio. “ESG issues impact our investment returns and the long-term financial wellbeing of our members,” says Blakey. “They are a financial risk we take very seriously as a fiduciary on behalf of our members.”

The Church of England, whose pension fund has a small stake in Rio Tinto, also condemned the destruction.

HESTA’s latest member survey (FY2020) rates the importance of socially responsible investment (69 per cent) ahead of environmentally responsible investment (61 per cent). Member feedback, specifically on HESTA’s stance on Rio Tinto has been particularly strong, says Blakey. It’s spurred her to lead a sector-wide engagement with 14 resources companies to ensure what they say they’re doing with Indigenous communities is actually what’s happening.

For Blakey and HESTA, it’s about closing the corporate credibility gap. Before this AGM season, the fund sent an extraordinary letter to all companies in the ASX 200 highlighting its priority issues: clear indicators of board accountability on climate change, including alignment of targets with executive remuneration; a strong sense of fairness for employees, with an emphasis on gender equality, and on social fairness and executive remuneration in the wake of the pandemic.

“Boards need to be really clear in terms of ESG reporting, that it’s real and lived by the organisation,” says Blakey, who has been ramping up HESTA’s direct engagement with companies over the past four years. “We rely heavily on public statements, so when there is a gap between what they say and what the organisation actually does, that’s very disappointing and difficult for us.”

Rio Tinto provided a spectacular example, she says. “That credibility gap for us as shareholders has been the biggest shock.” Likewise, with AMP on gender equality. “As a shareholder, we want authenticity,” she says. “We want to know the board has tested it and knows it’s real and it is lived right through the organisation.”

Separating shareholder and stakeholder interests today is a false dichotomy, insists Steven Münchenberg, formerly CEO of the Australian Bankers Association (ABA) and deputy CEO at the Business Council of Australia, who now runs board consultancy Blackhall & Pearl. “Boards are in new territory,” he says. “Roles and responsibilities haven’t changed, but the expectations of what it means to fulfil those roles and responsibilities have changed, and not all the tools, practices and experiences are yet in place to respond to that.”

So, how can a board respond to this new social licence agenda? For super funds, with members whose investment horizons may be 40 years out, pushing the focus on the relationship between ESG risks and long-term returns makes sense.

The need for long-term perspectives is also on the mind of Simon McKeon AO FAICD, chancellor of Monash University, non-executive director of Rio Tinto, NAB and Spotless Group, and a former chair of AMP. McKeon declined to comment on Rio Tinto specifically. “It’s commonly agreed in this country that there is too much short-term thinking,” he says.

“I see why CEOs, in particular, often feel a lot of pressure to put out another big set of results to the market. Sometimes you have to have the discipline to do the long hard stuff where you don’t get recognition quickly and that might be everything from financial strategy — making investments that won’t show benefits for years down the track — through to investing long and hard in culture, where you don’t see results any time soon.”

Appoint the right CEO

McKeon’s focus for boards grappling with the rising tide of social licence issues is on CEO appointments. “One of the most important things you actually do as a board is employ a CEO,” he says. “Pretty much everything is delegated to that person and the executive team.

“These days, boards need to look way forward to the sorts of circumstances CEOs might find themselves in. The interrogation and searching is still very much about good financial performance, but it’s also about reacting to emerging issues and crises — and maximising the chance of never having one.”

Social licence is acceptance of the business practices and procedures of an organisation by its employees, stakeholders and the community, and rolling out policies on social licence issues won’t cut it, says McKeon. “It’s about the effectiveness of the CEO to cut through with a message in a town hall or on social media to employees — the difference between ‘Here’s another boring corporate message’ and ‘If we don’t take this seriously, tomorrow could be another corporate disaster for all of us’. Very few people have what it takes to be a CEO.”

Orica chair and BHP director Malcolm Broomhead AO FAICD also has his sights on CEOs as corporate culture architects and role models. “Culture is the secret of success of great companies, like CSL and Wesfarmers, and it’s often misunderstood,” he says. “What happened at Rio lacked common sense.”

However, while noting the incident has overshadowed much beneficial work done over decades, Broomhead adds that the mining industry has blazed a trail for ‘social licence’ and long understood the importance of having the support of the community in which it operates.

In the recent spate of corporate misadventures, Broomhead believes boards have “again been hung out to dry for cultures they probably don’t understand”. He believes in the transformative value of corporate culture after seeing its performance-enhancing action during his CEO stints at Orica and North Limited (a company subsequently sold to Rio Tinto). “Many think it’s an HR issue, but it’s a fundamental CEO leadership issue,” he says. “People in the business look to the boss for what behaviours are acceptable. All a board can do is get a feel for whether a culture is becoming toxic and you can only do that in an imperfect way — by looking at surveys, doing site visits, chatting to management. You’re never going to get your arms around it.”

Be transparent

Corporate cultures are also on the watchlist of shareholder groups hollering for more transparency. “In corporate Australia, there is too much of a cover-your-arse mentality, rather than being accountable and transparent about decisions,” says Simon Mawhinney, managing director of Allan Gray, the contrarian investor and AMP shareholder credited with applying sustained pressure — and an effective ultimatum to the AMP board — in an attempt to uncover the real story behind Boe Pahari’s alleged sexual harassment of a colleague prior to his promotion to run AMP Capital. Pahari received a $500,000 penalty, but shareholders wanted to understand the seriousness of the alleged incident, the appropriateness of the company response and why it had not taken a zero-tolerance approach. Mawhinney concedes that information may not have been forthcoming due to the existence of non-disclosure agreements. But, he says, it’s not too much to expect directors to be across community expectations on the pressing issues of the moment.

In late August, chair David Murray resigned, along with director Ian Fraser, citing shareholder unrest as the reason. Pahari moved back to his original ranking as a divisional leader in AMP Capital’s infrastructure equity business.

“[Our actions were] not because we had a moral objection to what may have happened specifically, but because we felt the direction the company was taking was not serving shareholders well… and the consistent opaque approach of the board resulted in the company being tried by public opinion,” explains Mawhinney, who, less than a week later, was also speaking out on insurer QBE’s lack of transparency around the sudden departure of its CEO, Pat Regan.

“Sticky situations are often unavoidable,” he says. “It’s how companies deal with them that matters. Accountability and transparency are how we can all learn.”

Work on strategic foresight

Some sticky situations are avoidable for companies that work with strategic foresight, attests Katherine Teh, managing director of Futureye, a consultancy that specialises in research and management of changing community expectations.

Companies must overhaul their approaches to risk, says Teh. A critical problem is that the risk systems, strategy processes and reporting tools of companies are mostly lag indicators.

“It may be that the emerging risk is not yet a box to tick in the ESG framework,” she says. “Businesses need the foresight to know when to make strategic decisions around issues.

They need to be proactive about understanding social licence and how issues emerge.” Every social issue evolves through a series of events from the fringe to becoming a social norm, she says. This year’s escalation of the Black Lives Matter movement, for example, may have seemed instantaneous but had been a very long time coming.

Teh has documented a social maturity curve that allows organisations to avoid being caught out, spot the tipping points and make decisions around the strategic timing of actions so they don’t land on the wrong side of social licence to operate issues.

Münchenberg offers a salutary tale of missed opportunity from the post-GFC period. As ABA chief, he spearheaded a social licence project for the banking industry as it faced reputational challenges and hostility from the community and government over how fees were charged and why bank interest rates no longer tracked RBA rates. “As an industry, we looked at what needed to be done to overcome the outrage and re-establish the relationship with the community,” he says. “It was clear there were no easy answers.”

Instead of being strategic, the banks took an incremental approach. “What they needed to do was acknowledge the community anger and take practical steps to fix interest rates,” says Münchenberg. “Their incremental responses were never enough to assuage community and political anger and, ultimately, that led to the Hayne Royal Commission.”

Monitor social risk

Lessons from the banking royal commission’s findings and the Australian Prudential Regulation Authority report on CBA have permeated well beyond the finance sector. “Every board in Australia of any scale has been looking at the shifting expectations from regulators, politicians, the community and media and asking what they need to change,” says Münchenberg.

With community sentiment constantly shifting, angst is growing over which issues will blow up or catch people’s imaginations and become a bigger issue — or be a 24-hour media story. “Many directors feel they’re one stuff-up away from oblivion,” he says.

Social risk now needs to be monitored and measured along with organisational, strategic, operational, financial and the other sustainability risks, says Münchenberg. “The traditional approach of engaging with a wider range of stakeholders directly is one way, and increasingly there are technologies to measure culture within organisations and shifts in community sentiment.”

Thinking for boards kicks off with understanding the new power of external stakeholders and their ability to galvanise around an issue — a stand-out example being #MeToo, which put the spotlight squarely on unacceptable behaviours. Now that everyone is a broadcaster, there’s a wealth of information and alternative information amplifying social issues and available to boards.

Understand community views

So how do boards go about divining the community’s expectations? Rebecca Huntley, principal at Vox Populi Research, who is working on segmenting Australian community views on a range of ESG issues, says it’s an imprecise art. “It is a messy nexus on any particular issue at any one time,” she says.

It’s influenced by individual concerns, which can change, and where people place those issues in terms of priority and urgency of action. This sits within a broader trend where groups such as employees and customers are placing greater importance on gender and racial equality and responding to climate change.

Huntley says the message for directors and C-suite executives is that the make-up of boards needs to change. “They need to think far more broadly in terms of their stakeholder mix. “People who think the rules of engagement are the same as they were 20 years ago are ignoring the power of social media. Suddenly, a new stakeholder group can pop up that you never thought you had. This is why you need people with a panoramic view of where that pressure and influence is going to come from.”

Manage the pressure

Competing demands are putting boards under considerable pressure, according to every director interviewed for this story. Directors must push back on management to refine and prioritise the information that’s delivered to the board, insists McKeon. They could benefit from the advice of a sports psychologist “on how to make very good decisions when you are being bashed from pillar to post”, he suggests.

Directors must also take responsibility for looking to bring experience and insights to the board and management. Get out and about.

“There is a need for boards to hear about issues directly and not just from management reports and the media,” says McKeon, who admits to tuning in to commercial talkback radio for “social issue” vibes, prefers to take public transport and values his connections with people who have disparate views and backgrounds.

“I rub shoulders with people who do not like the corporate scene,” he says. “It can be confronting at times, but when the court of public opinion starts to say something, then it doesn’t come as a surprise.”

Pursue greater diversity

How might this new era of heightened social consciousness impact board composition? In September, when Susan Forrester AM FAICD, became chair at digital lottery company Jumbo Interactive, she reports receiving a rousingly warm welcome when she undertook an independent roadshow of the company’s shareholders, major investors, funds and proxies. Unprompted, she says, many commented on how pleasantly surprised they were to have a woman in her early 50s appointed as chair.

Forrester believes she represents a generation eager to tackle the greater prominence of social licence to operate concerns, as reflected in her current board portfolio with directorships at a telco, health club operator, childcare provider and at Jumbo.

As part of her due diligence prior to joining the Jumbo board, Forrester homed in on the company’s potential social issues in the gaming sector. Among her discoveries was the ready availability of customer data, with reports of any red-flag problems with gambling addiction put before directors monthly. Also, Jumbo’s call centre operators are trained to detect addictive or errant behaviours and recommend counselling to users of the online products.

“Five years ago, I was pushing to get risk registers in place and explain ESG was not some New Age fad,” she says. “Now, sustainability is an agenda item that demands directors’ attention and discussion each month. To perform and be profitable, we must be sustainable. — it’s an essential part of Jumbo’s identity.”

She’s also started receiving more positive responses to her recommendation that companies adopt integrated reporting. “Don’t give me a software package as the panacea for our ESG ills,” says Forrester. “Instead, my fellow directors and I are insisting on real-life conversations about how it’s impacting our business, so we can develop some action items for positive change.”

Blakey also upholds the notion of a generational shift accelerating the social licence to operate agenda for companies.

The rapid rise of social consciousness, which statistically is now spreading across age groups, is something we might have to thank millennials for, she concludes.

It’s diversity’s time to really shine, says Münchenberg; true diversity of gender, age, cultural background and experience, and importantly, thinking styles — detail and big-picture thinkers. “With diversity, you are more likely to have an intellectually curious board that can see an issue from a range of different perspectives,” he says.

“It opens the collective board’s mind to how others will see it, and what an appropriate response may be.”