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Sustainable Investing

The Battle at Exxon Was About More Than Board Seats

It brings shareholder-driven climate governance to the forefront.

It’s very rare that corporate proxy elections make front-page news, but the shareholder vote at Exxon XOM last week was a notable exception, and for good reason.

Against the recommendation of Exxon's own executives, two candidates were elected to the energy giant's board immediately following the initial vote tally, and on June 2 the election of a third was confirmed. They join on a pledge to push the company away from a business model focused on climate-damaging fossil fuel, and toward a greater focus on renewable energy.

The fight was led by Engine No. 1, a newly formed activist hedge fund with a $50 million stake in Exxon. It contested four board seats with an alternate slate of four nominees.

Now one fourth of Exxon's board will be made up of directors who share a vision for Exxon's future and who have a strong mandate from the rest of the shareholder body to enact this vision. In all likelihood, some of Exxon's re-elected director nominees have given Engine No. 1's investor materials another read and will be more open to this vision.

Engine No. 1 effectively ran its slate against four incumbent board members: Kandarian, Oberhelman, Palmisano, and Zulkiflee. Under Exxon’s bylaws, a plurality voting system applies to contested elections: The 12 nominees receiving the most votes are elected to the 12 available seats. By presenting shareholders with an alternate proxy card, from which Kandarian et al. were excluded, Engine No. 1 narrowed down which incumbents would likely not get re-elected. As it happens, Kandarian, Palmisano, and Zulkiflee failed to get re-elected.

Given Exxon’s history of fighting the very idea that climate change exists and is driven by humans, this outcome is being cheered by the investing world’s environmental advocates as a big win.

But this vote can be seen through a much sharper lens.

Climate Competent Board Leadership

The vote at Exxon brings shareholder-driven climate governance to the fore. Contested board elections are won on concrete corporate governance considerations. The question among shareholders is usually this: Does the issue in question have a material impact on the future business prospects of the company?

Historically, investors--especially big institutional shareholders--have deferred to company management and rubber-stamped their recommendations. That’s especially the case when it comes to board candidates.

In this case, Exxon's shareholders--the owners of the company--used the democratic process of voting in a proxy election to effect change. This vote comes against a backdrop of signs that big fund companies are increasingly willing to push back on company management on environmental, social and governance proposals.

And of course, climate governance is an especially important aspect of corporate governance for energy companies. Besides bringing much-needed board refreshment, Exxon's new board members span a complementary skill set that includes relevant corporate leadership and renewable energy expertise as well as a proven record of driving change.

Proxy contests involve a battle for board control via special provisions of the proxy process. They are often waged by activist hedge funds at underperforming companies with dysfunctional corporate governance. By forwarding competing director nominees for limited board seats, the challenger aims to shift board power and effect a strategic turnaround.

The Proxy Battle

Although Engine No. 1 owns just 0.02% of Exxon’s shares, it used this stake to pit its vision of the future against Exxon’s and attracted the support of some of the world’s largest investors.

The backstory is that Exxon sees world demand for oil and gas rising through to 2040, justifying continued investment in oil and gas production. Engine No. 1 sees growing long-term business risk for Exxon as the world transitions away from fossil fuels, and it sees opportunity in redirecting capital toward renewable energy.

In 1977--more than 10 years before the general public became aware of "climate change"--Exxon's own scientists connected its business of extracting, refining, and selling fossil fuels with rising global temperatures. Instead of sharing the science, Exxon became the chief engineer and driver of a highly coordinated industry-sponsored "climate denial machine" that operated for decades to undermine meaningful policy action. Exxon has continued to downplay the seriousness of climate change in its corporate communications and to project blame for fossil fuel demand onto individuals and developing countries.

Only after the current proxy contest began did Exxon make more deliberate moves to address investors’ concerns. It announced plans to commercialize its carbon capture and storage business, set modest emissions reduction targets, and padded its board with new directors. Critics viewed these measures as too little and too late.

Exxon’s failure to respond more proactively has eroded shareholder value and accentuated systemic risk across financial markets, the company’s shareholder critics say. Until as recently as 2019, Exxon did not have a lead independent director and historically did not support direct engagement between board members and shareholders. Exxon’s shareholders and all investors would have been better served by a board less insular and more willing to challenge senior corporate management’s world view. The competence of boards in managing climate risks and opportunities will prove critical to how well companies navigate the energy transition and, in aggregate, how well markets succeed in decarbonizing.

Engine No. 1's vision was given a boost last week. The International Energy Agency's new global energy sector roadmap to net zero emissions by 2050 calls for no new oil and gas fields to be approved for development from 2021. In addition, the White House issued an Executive Order on Climate-Related Financial Risk aimed at advancing measurement, transparency, and consideration of climate risk throughout the financial system.

The Votes

The largest U.S. pension funds--CalPERS, CalSTRS, NY State Retirement System, and New York City Pension Plans--publicly sided with Engine No. 1’s vision, pledging to support the alternate slate ahead of the vote. As opinion leaders on matters of corporate governance, this gave the challengers a huge boost into the home stretch.

Following the meeting, BlackRock, with a 6.7% stake, confirmed its support for three of the four, noting concerns about the board's skill set and Exxon's strategic direction. A day later Vanguard (holding 8.7%) announced it had voted in support of the two confirmed candidates and Reuters reported that State Street had likewise supported the two with its 5.7% stake. ISS had recommended votes in support of three of the challengers and Glass Lewis recommended votes in support of two.

Looking ahead, last week's vote will likely ignite the market for climate leadership at large energy companies.

Shareholder victories elsewhere in the 2021 proxy season--Chevron CVX, ConocoPhillips COP, and Phillips 66 PSX faced shareholder resolutions pressing for accelerated decarbonization targets--give boards a clear mandate: Steer a course toward net zero emissions by 2050. Large investors will be increasingly inclined to withhold support from directors that aren’t up to the task.

Note: This article was updated to reflect the official vote results published in Exxon’s 8-K filing on June 2, 2021.

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