2024 Stewardship Report

THEMATIC ENGAGEMENTS

Modern Slavery

Certain industries are naturally more exposed to risks or allegations of modern slavery than others. The most common industry risk factors include reliance on low-cost labor and opaque and complex supply chains. Industries where these risk factors are more common include engineering & construction, agriculture, and apparel manufacturing, so we pay particular attention to modern slavery when researching companies in these industries. We research and evaluate any instance of modern slavery in other industries as well, even if the common risk factors are not present.  

As part of our due diligence, we evaluate company modern slavery disclosures, policies, and procedures, and we proactively engage management to understand how they think about these risks. As appropriate, and where necessary, we also engage management to understand the nature of any allegations of modern slavery and to advocate for changes to a company’s actions.

PVH: Global Apparel Company

We engaged with PVH following reports that China was threatening to put the company on a national security blacklist known as the “unreliables list” for “unreasonable boycotts” of the Xinjiang province. Xinjiang has been the epicenter of alleged human rights abuses against the Uyghur ethnic group. Many consumer-facing brands, such as Nike and H&M, have made public commitments to cease working with suppliers in Xinjiang. PVH has been less publicly vocal about this than peers but made the decision to exit the region because of regulatory risk.

Under the Uyghur Forced Labor Prevention Act, the United States bans goods made in Xinjiang unless importers can prove that they were not made using forced labor or under the influence of the Xinjiang Production and Construction Corps (XPCC), an organization involved with the economic activities of the area. This has led to backlash from the Chinese government, warning multinational corporations that if they comply with consumer boycotts or government bans on products from Xinjiang, they may face retaliation. The penalties vary but could include investment limitation or trade restriction. China makes up approximately 5% of PVH business.  

Our engagement with PVH focused on trying to unpack the likelihood of different scenarios. For now, the investigation is ongoing, and, given the sensitivities around the situation, communication between the Chinese Ministry of Commerce and PVH remains private. We continue to monitor the situation and plan to discuss any updates with PVH.

Tyson Foods: U.S. Meat Processer 

In September 2023, the New York Times published an article detailing serious allegations of child labor at a Tyson Foods plant in Virginia². We take allegations of child labor seriously. It is one of two social issues (the other being human trafficking) that we consistently identify as issues to address, regardless of financial materiality. Tyson, along with peers, outsources a large portion of cleaning services to sanitation firms, which allegedly employed underage workers. Tyson does not permit anyone under 18 to work at its facilities and performs audits and spot checks to ensure compliance, but the allegations raised questions of effectiveness and compliance with these policies. Our investment team has maintained a robust dialogue with Tyson on the issue for the last year, albeit limited by the ongoing Department of Justice (DOJ) investigation, which has yet to determine Tyson’s culpability.  

Our ongoing engagement with Tyson included discussion of a related shareholder proposal to commission and publish the results of a third-party audit assessing the effectiveness of policies preventing child labor. At first glance, this proposal appeared to be one we would be inclined to support; however, after careful diligence and deliberation, we decided to vote against the specific proposal. Our rationale was that while an independent audit of Tyson’s internal policies and procedures could be beneficial, it was not the right time to conduct one. Tyson was complying with an active DOJ investigation and considering changes to its workforce management oversight. An audit at this point would not yield the desired benefit of measuring the effectiveness of ongoing business practices. Once Tyson formalizes an updated set of internal policies and procedures, it will make more sense to pursue an independent audit. Despite voting against the shareholder proposal, we did encourage Tyson to better engage with proponents of shareholder resolutions in the future to share any differing views more directly.

We continue to discuss allegations of child labor with Tyson as part of our Opportunity List  and will monitor the outcome of the DOJ investigation to determine if we can conclude – or need to escalate – our engagement. Tyson’s latest update was that management was working toward bringing a higher percentage of cleaners in-house to reduce the risk of problems in the supply chain. 

Energy Transition

The energy transition is relevant to many companies and industries; as such, it remains a key focus of our engagement activities. As market conditions evolve, so too does our perspective on this issue, influencing the way we analyze companies exposed to climate transition risk or with the ability to capitalize on business opportunities arising from the energy transition. The companies we own are either (1) developing products and technologies to capitalize on the transition, (2) reshuffling existing business lines to adapt to a greener world, and/or (3) perceived—wrongly, in our opinion—to be at risk of becoming obsolete, which begets value opportunities. 

Arcelormittal: Global Steel & Mining Company

The most material ESG issue for Arcelormittal is its exposure to climate transition risk, given that the steel industry alone accounts for approximately 8% of global carbon emissions. Steel is also one of the most important engineering and construction materials. The question becomes how to decarbonize the steelmaking process while continuing to meet the demand for steel worldwide. This challenge is particularly acute for Arcelormittal, given roughly half of its steel production is based in Europe, where there is significant pressure to decarbonize. 

Through engagement, we aim to understand Arcelormittal’s evolving strategy and pressure-test its approach against different decarbonization scenarios. We are tracking whether the company’s stated decarbonization objectives and deployment of green steel technologies remain aligned with climate policy developments, particularly 2026 CBAM implementation in Europe.

We view Arcelormittal approaching the transition in a sensible manner. It has the capital to invest in capex and R&D to develop new green steel technologies faster and at larger scale than its peers. Arcelormittal’s capital spend, both internal growth capex and external M&A, has become increasingly focused on sourcing strategically important green steel inputs (green & blue hydrogen & cleaner feedstocks) and diversifying access to those inputs. Management can also take calculated risks on potentially disruptive technology, such as electrolysis, which separates metallic iron from oxygen in iron ore without any carbon emissions. 

The economic challenge of decarbonizing has been a primary concern, particularly because the European steel market is characterized by weak long-term demand and excess capacity that is therefore hard to rationalize. Through carbon taxes, Europe is pressuring steelmakers to rapidly decarbonize their mills, often offering subsidies as incentive. However, to earn a return on this incremental decarbonization capex spend, companies must charge customers higher prices, which we view as unlikely given the unattractive supply & demand dynamics. Arcelor’s management team has come to a similar conclusion.  We discussed this with Arcelor’s CFO, who believes capacity in Europe will need to be lower moving forward, relocating production to markets elsewhere. Because Arcelor is a global steelmaker, it has access to steel and raw material production in other geographies where the cost to produce green steel is often cheaper; for example, Brazil and the U.S. have access to cheaper and cleaner electricity, a key input for steel production via the less carbon-intensive electric arc furnace method. This explains why, despite ~50% of Arcelor’s production capacity being in Europe, most of the company’s profits are generated in other regions (i.e., North America, Brazil, and India).  

Shell: Global Oil & Gas Major

Under a relatively new CEO, Shell has changed its business and energy transition strategy, which, in our view, now better reflects underlying market realities. Shell lowered the ambition of one of its Scope 3 targets to reduce the carbon intensity of energy products sold, citing increased uncertainty in the trajectory and pace of policies to support the energy transition. Conversely, Shell also introduced a new 2030 Scope 3 emissions target to reduce customer emissions from the use of oil products by 15%–20% (2021 baseline).

Adjustments to the energy transition strategy were interpreted by some as a weakening of Shell’s climate targets and net zero commitment. It is therefore not surprising that a shareholder proposal surfaced, asking Shell to align its emissions reduction targets with the Paris Agreement. The proposal specifically asked for the inclusion of medium-term Scope 3 emissions targets, consistent with the effort to limit global warming to 1.5 degrees above preindustrial levels. This proposal was very similar to one submitted in 2023, which had been rejected by approximately 80% of shareholders. Shell management again recommended voting against the proposal on the basis that targets and ambitions are already in line with the Paris Agreement, and the business is making good progress toward these goals. We ultimately decided to vote against the proposal, as we did in 2023, for the following reasons:

1. Shell’s transition plan remains realistic and, therefore, credible. Recent changes to some of the specifics better reflect new market realities, which have moved beyond pure energy transition to include affordability and energy security. Shell’s unique advantage in liquefied natural gas allows it to play a key role in affordability/energy security. Shell continues to make investments in the energy transition where it has a competitive advantage (e.g., carbon capture and storage, biofuels).
2. Scope 3 emissions targets cannot be the sole responsibility of Shell, given they are tied to customer demand.
3. There is no real authority on what constitutes alignment with the Paris Agreement; it is a judgment call.
4. Shell’s responsibility to shareholders requires a balance between meeting emissions reduction targets and maintaining capital discipline, including returning cash to shareholders, which can then be reinvested in the transition if so desired.

Litigation

While legal challenges are not new territory, time and money spent on navigating them is on the rise around the world for boards and management teams. In 2023, companies faced an estimated 57% increase in litigation costs. This seems to partly be the result of a marked increase in third-party-funded litigation. This trend not only underscores the importance of robust governance practices but also highlights the need for proactive engagement with companies to mitigate potential risks. 

Bayer: Global Life Sciences Company 

Bayer has a few intersecting ESG concerns, which were featured in our 2023 Stewardship Report. One of the original reasons Bayer was added to the Opportunity List was to track and assess litigation payments related to glyphosate and polychlorinated biphenyls (PCBs). 

Glyphosate is an herbicide widely used in agriculture and landscaping. Its safety has been an issue for debate, and the plaintiffs’ attorneys have had success linking its use to non-Hodgkin’s lymphoma. As of October 2024, Bayer has won 14 cases, lost 10 cases, and settled ~110k cases for ~$11B. There are ~55k remaining cases in inventory with ~$7B provisioned.

Under new CEO Bill Anderson, Bayer is exploring legislative options to resolve the outstanding litigation. Bayer is working with state (Missouri accounts for 80%+ of glyphosate cases nationwide) and federal legislators on bills that say manufacturers can’t be sued if the label approved by the Environmental Protection Agency (EPA) says the product doesn’t cause cancer.

Bayer faces two batches of litigation: the more prominent Glyphosate/Roundup cases, and the issue of polychlorinated biphenyls (PCBs). PCBs, which were banned in the U.S. in the late 1970s, were a group of chemicals that Monsanto produced and sold to other industrial companies. PCBs were widely used for a variety of applications including fluorescent light fixtures, many of which were installed in schools. In Dec 2021, Bayer lost its first case in Washington state. In May 2024, a state appeals court overturned the original trial court verdict, arguing the trial court failed to properly apply Washington state’s statute of repose. The plaintiff appealed to the state supreme court, which accepted the review. Now that the Supreme Court is reviewing the case, the odds of the original verdict against Bayer being upheld go up. Bayer has been successful in containing these cases to just one cluster in a single school district in Washington state, but this could change depending on the trial outcomes. 

We recently upgraded Bayer from a 1 to a 2 on the basis that management is very focused on resolviwng the outstanding litigation, has made progress, and continues to keep a robust dialogue with us on the topic. 

Reckitt Benckiser: Global Personal Products Manufacturer

Reckitt Benckiser was a recent addition to our Opportunity List because of ongoing litigation alleging an increased risk of necrotizing enterocolitis (NEC) in premature infants consuming Enfamil formula shortly after birth. NEC is a gastrointestinal disease that primarily affects pre-term infants and has a fatality rate of about 15%-40%.

In March 2024, an Illinois jury awarded $60 million to a plaintiff whose infant died from NEC, finding that Mead Johnson (Reckitt’s infant nutrition subsidiary) was negligent and failed to warn of the risk of NEC. This was the first case in the NEC litigation to be tried. Abbott Laboratories, a competitor of Mead Johnson, lost its first trial in July 2024. There are currently ~1,500 cases filed between Abbott and Mead Johnson. Reckitt argues that the scientific literature is clear on the lack of causality between infant formula and NEC. Specifically, it is the absence of breast milk (which protects better against NEC) that results in a higher incidence rate of NEC among pre-term infants. In early October 2024, various U.S. government agencies issued a joint statement reiterating the importance of formula for pre-term infants, corroborating Reckitt’s argument. 

In discussing this issue with medical professionals, litigation experts, and company management, we believe this argument, although backed by the science, may be too nuanced to be effective in a jury trial setting, which widens the potential range of outcomes in the courtroom. Nevertheless, it is our assessment that Reckitt Benckiser has a good chance of limiting the size of its ultimate financial liability with the scientific evidence on its side. Most recently, the third NEC case to go to trial (in October 2024) resulted in a not guilty verdict for all parties involved. The next NEC trial scheduled will be the first of four bellwether cases in the federal multidistrict litigation (MDL), which will be heard in May 2025. The evidentiary bar for federal MDL pretrial proceedings is much higher, which should work in Reckitt and Abbott’s favor. We expect this trial to provide greater insight into this issue as we move forward.

Our engagement objective is to continue to track and assess NEC litigation-related strategy and payments. The Reckitt stock is cheap even assuming a fairly draconian ultimate liability related to NEC. 

 

ADDITIONAL ENGAGEMENT TACTICS

Engagement Escalation

In instances where issues have not been adequately addressed during our routine engagement with management teams, we may consider the following actions to escalate our concerns:

1. A private meeting with the chairman or other board members
2. A written letter to members of the senior management team and/or board members
3. Voting against members of the board or resolutions at annual general meetings
4. Divestment if the lack of progress changes our view of the investment embedded risk-reward

Hooker Furniture: U.S. Furniture Company 

In April of 2024, we wrote a letter to furniture company Hooker’s Board of Directors encouraging a share buyback program. From our perspective, Hooker was being overly conservative with its balance sheet and should have been redeploying capital for a potentially higher return. We wrote the letter to formalize our recommendations after several in-person conversations with management in which they agreed with our assessment.

Collaborative Engagement 

While we typically prefer to engage directly with the companies we own, occasionally we recognize the potential benefits of collaborative engagement with other investors. In such cases, we may seek to work with other investors, but we will only do so when we believe it is in our clients’ best interests and permissible under applicable laws and regulations.

Situations where we have found collaborative engagement helpful include, but are not limited to, advancing a shared agenda with clients for a particular portfolio company and/or working with other investors to share insights on a particular issue. 

Haier Smart Home: Chinese Home Appliances & Consumer Electronics Company 

We spoke to various other investors and stakeholders, as we were deciding how to approach a corporate governance issue at Haier Smart Home. Haier does not have a fully independent audit committee, and it is our view that a fully independent audit committee is one of the clearest indicators of good governance, because it has the strongest connection to company performance of all governance metrics in the academic literature. We examine this link in our thematic research piece, Assessing Corporate Governance.   When we engaged with Haier management, they told us that we were the only investor with this concern. We decided to speak to other asset managers who are also shareholders of Haier to understand how they were thinking about audit committee independence. We learned that other asset managers did indeed have different priorities for their engagement with Haier, sometimes influenced by the view that Haier was unlikely to change the composition of the audit committee. This did not change our own conviction in ongoing engagement, but it meant we could not amplify our voice through shared messaging with other like-minded investors.

There are also aspects of collaborative engagement efforts that are less well-aligned with our approach and investment philosophy. First, we do not seek to become activists or insiders, nor do we encourage proxy battles. Instead, we prefer to maintain a constructive dialogue with management teams and work collaboratively to achieve the desired outcome. Second, company-specific, bottom-up, ESG-integrated investment analysis is core to our investment philosophy and approach to stewardship. This naturally lends itself to a more company-specific approach to engagement. The perspective we want to bring to management teams is often more nuanced than some collaborative organizations allow. As such, we have not necessarily found collaborative engagement initiatives particularly helpful to advance our agenda with company management. If we were applying ESG themes top-down, it might make more sense to team up with other investors focusing on the same ESG theme. We also find we maintain good access to management teams through our concentrated portfolios, so we have not needed to leverage these collaborative groups for the purpose of seeking an audience with management teams.

That said, we do periodically consider membership of other stewardship and engagement focused organizations and remain open to evolving our approach. Our ESG team has evaluated Climate Action 100+, the IIGCC, Ceres, CII, and the UK Stewardship Code for potential membership. While we have no plans to join any of them at present, we keep them on our radar and remain open to joining any of them in the future. Our ESG team also spends significant time engaging with the ESG community through panels and other means. As members of the Principles for Responsible Investment (PRI) and International Financial Reporting Standards (IFRS) we frequently attend convenings with other members. 

Policy Related Engagement

ESG issues often become financially material for companies and industries because of regulation. As such, it is important to maintain a dialogue with policymakers as part of our research and stewardship activities. In the past year, we have engaged on many regulatory matters, including the Inflation Reduction Act (IRA), the EU Green Deal, and the ‘Fit for 55’ package, as well as Japanese and Korean stock market governance reforms.

PROXY VOTING

Proxy voting is a critical component of our engagement efforts and ability to drive change. As such, we take our responsibility as stewards of our clients’ capital seriously, actively voting the shares of companies in which we invest on their behalf as an integrated part of our investment process. Each proxy is voted in what we believe to be the best interests of our clients. We exercise proxy voting to highlight our views on management decisions, including ESG-related items, regardless of whether we agree with management’s recommendation. We evaluate each proxy item for any investment on its own merit and therefore vote on a case-by-case basis, informed by our Proxy Voting Policy.

Institutional Shareholder Services (ISS) provides us with a proxy analysis including supporting research and a vote recommendation for each shareholder meeting. Nevertheless, we retain ultimate responsibility for instructing ISS how to vote proxies on behalf of each individual proxy item for each company

We disclose our proxy voting records publicly, and they can be found AT THIS LINK.

Roles & Responsibilities 

Each proxy is reviewed and voted by the industry analyst covering the stock. We intentionally do not outsource this responsibility to a separate stewardship team, as we consider it a fundamental part of our investment due diligence and engagement. Our Director of Research is responsible for monitoring analyst compliance with voting procedures.

The ESG team assists the industry analyst in making a vote determination, primarily on ESG items where either the specific issue falls outside of the scope of our policy, or the industry analyst desires additional guidance. 

Significant Proxy Examples 

Travis Perkins: UK Building Products Distributor

One of the more important votes we cast for companies every year is for the individuals that comprise the board of directors. The board, unlike company management, is primarily elected directly by shareholders to help protect their interests and oversee company management. It is therefore important that the individuals on the board possess the right combination of skills and experience to play this role effectively. 

In the case of Travis Perkins, we believed the board had not been effective in its execution of management oversight and decided to vote against the chair. We were concerned with opaque decision-making related to poor capital allocation and abrupt management change in response to operational underperformance. (The former CEO left abruptly without an identified successor in place.) Additionally, we believed the business would benefit from a chair with more relevant industry experience to help the company navigate through a challenging period. We appreciated the chair’s decision to step down following the vote, as 23.6% of shareholders opposed his re-election.

Thus far, we are pleased with our engagement with the new board chair, who has relevant experience in the building products industry. It is important during this period of underperformance that the board can identify areas for improvement as well as sources of competitive advantage. We believe the new board chair is better positioned to do this effectively.  

Nippon Light Metal: Japanese Metal Manufacturers & Seller 

Encouraging good governance has always been a key part of our engagement with the management teams of companies. Poor governance may lead to diminished return on capital for shareholders over time. Historically, Japanese companies have been slower in adopting some best practice governance standards, and this has been reflected in lower market returns.  

In the first quarter 2024 newsletter   we highlighted the progress of governance reform in the Japanese market guided by the Tokyo Stock Exchange (TSE). We showcased some exciting opportunities in our Japanese portfolio where governance improvements had begun to materialize. We have continued to see positive governance changes among a few names, including a recent improvement in board independence at Nippon Light Metal.  

We have maintained a dialogue with Nippon Light Metal regarding the lack of a majority independent board. As previously mentioned, academic evidence shows that board independence can be an important indicator of good governance, linked here.   Nippon Light Metal recently brought in two new independent directors, creating a non-management majority with a total of four insiders and five outsiders. In addition, Nippon Light Metal shrunk the board from fourteen to nine members, which we also view as a governance improvement because larger groups are more likely to be less efficient decision-makers. As a result of these changes, we voted in support of all the board members up for election. It is encouraging to see significant governance improvements at the company level. The TSE reforms are a top-down directive, but real change will only come from companies implementing changes from the bottom up. We will continue to monitor changes in the Japanese market and engage with all the companies we own. 

Hankook Tire & Technology: Global Tire Manufacturer

Stronger governance and greater transparency to shareholders have been the guiding objectives for our engagements with Hankook during our ownership. Specifically, we have focused discussions on capital allocation decisions as well as compensation policies. After voting for a reasonable compensation package in 2023, we voted against an above-market compensation plan in 2024. 

Most recently, we were disappointed to see that board member HB Cho was up for nomination at the company’s AGM. HB Cho has been convicted of accepting supplier kickbacks and is currently being indicted for issues regarding related-party transactions and misuse of corporate assets. We, along with other shareholders, expressed concerns about HB Cho’s appointment to the board, and he was ultimately removed from the ballot ahead of the AGM. We view this as a successful engagement because we secured the outcome that we believe to be in the best long-term interest of shareholders. We will continue to monitor any future governance changes. 

ENGAGEMENT BREAKDOWN

Geographic location breakdown for all engagements in 2024  
location is based on the where the headquarters of the company are

Sector breakdown for all engagements in 2024

Sector breakdown for all Opportunity List engagements in 2024

E, S & G breakdown of Opportunity List engagements
overlap due to multiple topic meetings

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1. The Opportunity List is a portfolio specific set of names that seeks to systematically identify opportunities where material ESG issues exist and engagement could have a positive impact and improve financial outcomes for investors. Details of the Opportunity List can be found here

2. Source: https://www.nytimes.com/2023/09/18/magazine/child-labor-dangerous-jobs.html