Increasingly, companies are choosing to publicly report on ESG (environmental, social, governance) issues. The COVID-19 pandemic, calls for greater racial justice and inclusion, and demands for businesses to step up to protect the environment bring into focus the importance of ESG issues to stakeholders including employees, supply chain partners, governments, communities, and shareholders. Companies are coming to terms with how to position themselves on ESG issues and reporting.
One focus of ESG principles is long-term, sustainable value creation, and responsible management of company assets. With the decades-long shift from tangible to intangible assets, companies are being called upon to answer for how they manage human capital.
The call for enhanced ESG reporting has been taken up by the U.S. Securities and Exchange Commission (SEC), which announced a new requirement on Human Capital Reporting (HCR) in August 2020. Included in a U.S. public company’s annual report (SEC Form 10-K), HCR has the potential to touch on all three components of ESG:
- Environment – What is the impact of work-from-home policies (both positive and negative) on the environment? What do travel and office policies look like post-COVID, and what is their impact on a company’s, as well as the global, carbon footprint?
- Social – What are an organization’s policies and metrics for diversity, equity and inclusion (DEI)? How are employees hired, trained and compensated? How does the organization safeguard employee health and safety?
- Governance – How does a human capital management plan create and preserve value for stakeholders? What are the company’s strategies for retention? What succession plans are in place?
The SEC Raises the Bar on Disclosure
Prior to 2020, the only SEC-mandated HCR disclosure was the number of employees at the reporting company. The SEC began the current HCR rule-making process in 2015, and following a three-year comment period, published draft rules in 2019. When the SEC announced the new HCR requirement, then-Chair Jay Clayton said, “I am particularly supportive of the increased focus on human capital disclosures, which for various industries and companies can be an important driver of long-term value.”
In a September 2020 speech, SEC Commissioner Allison Herren Lee expanded on the importance of DEI in particular:
“There is an increasing body of research showing that diversity correlates with enhanced performance. For example, one recent study on board diversity, using a definition that encompassed director age, gender, race, financial expertise, and number of directorships, had compelling findings: board diversity corresponds to lower stock volatility due to the adoption of less risky financial policies, and firms with more diverse boards invest more in research and development and therefore are better at fostering innovation.”
She went on to affirm the role disclosure plays, saying:
“For one thing, when companies have to formulate disclosure on topics it can influence their treatment of them, something known as the “what gets measured, gets managed” phenomenon. Moreover, when companies have to be transparent, it creates external pressure from investors and others who can draw comparisons company to company.”
What HCR Topics to Cover?
According to an analysis by the Harvard Law School Forum on Corporate Governance, some popular HCR topics include:
- Facts about the make-up of the workforce, including total number of employees, number or percentage in each major geography, breakdowns by type of employee, including full-time, part-time and seasonal, as well as management, administrative, engineering, skilled trades, and hourly workers, whether union or non-union;
- A statement of company culture and identification of core values;
- Description of governance and oversight of human capital initiatives by the board of directors, senior management and, in some cases, various councils or advisory groups composed of employees;
- Initiatives and statistics relating to diversity and inclusion;
- An overview of total rewards, with greater emphasis on all-employee programs, such as retirement and welfare benefits or a commitment to living wages;
- Discussion of talent development and training;
- Recruiting and retention practices;
- Use of employee engagement surveys;
- Pay equity; and
- Health and safety initiatives and metrics.
Principles-Based Rules Leave Flexibility for Companies
HCR disclosures are largely principles-based. The current rule says that a registrant must disclose the following:
“A description of the registrant’s human capital resources, including the number of persons employed by the registrant, and any human capital measures or objectives that the registrant focuses on in managing the business (such as, depending on the nature of the registrant’s business and workforce, measures or objectives that address the development, attraction and retention of personnel).”
A downside of the rule being principles-based, and not prescriptive, is that companies do not have clear guidelines for what and how they must report, or a clear definition of what is material. On the other hand, it gives organizations a flexible way of telling their human capital story. Public companies are now working out and refining their approach.
Private companies with the same range of stakeholders as public companies, and with the same interest in the sustainability and long-term success of their organizations, will likely take note of public company disclosures and develop their own approaches to HCR.
We are at the beginning of the HCR evolution, and still coalescing around which human capital strategies, goals and metrics public companies will report. Companies are determining what human capital information is material, and how best to report it. They are also ensuring that controls on data capture and reporting are as robust as those for financial reporting.
Telling our HCR Story, Across Functions and Metrics
Drafting the 10-K demands a cross-functional effort, particularly on discussions of risk and overall business outlook. To prepare for HCR compliance at II-VI, we assembled a cross-functional working team well in advance of our first HCR report. We had conversations about how to approach the requirement, and the story we wanted to tell. We recognized the opportunity to showcase our company’s culture and dedication to human capital management.
We opened our report with a summary of our mission, vision, and core values, and a statement: “Our people are essential to fulfilling our mission and working toward our vision. As a result, our human capital strategies are core to the long-term success of the Company.”
To demonstrate how we are effectively managing employees to maximize their contribution to success, we reported on the results of a Gallup employee engagement survey that was conducted in fiscal year 2021. According to Gallup, their employee engagement survey questions “work for measuring performance because they describe the fundamental psychological requirements for unleashing human potential.” We reported that we had a 94% participation rate in this survey, and an engagement mean of 4.16 out of 5.00. We also reported that these results demonstrated improvement from our prior, FY19, survey.
A significant part of II-VI’s HCR narrative is our commitment to safety. As a global manufacturer, with labs and factories around the world, employee safety is paramount. We stated that, “It is our highest priority to keep our employees … safe, as the health and safety of our workforce is fundamental to the success of our business.” We followed up with current data and a statement on our commitment to improve, writing, “The safety calculation recognized by the Occupational Safety and Health Administration, called the Total Recordable Incident Rate (“TRIR”), is closely monitored throughout the Company. As of June 30, 2021, our TRIR was 0.23 as compared to 0.26 for FY20. Each year, we strive to improve our TRIR as a part of our strong safety culture, as evidenced by a year-over-year reduction of 12%.”
On talent acquisition, development, and training, we stated that hiring skilled individuals and continuing to develop them are critical to our operations. We reported that we offer monthly Technology Spotlight Seminars designed to communicate technical advances and competencies within II-VI. We also reported on the number and global locations of the university student interns we welcomed to our new talent pipeline, and our support for STEM educational and research programs.
On DEI, we stated, “II-VI supports fundamental human rights – values inherent to all human beings. We expect all leaders and employees to treat each other with dignity, fairness, and respect.” We went on to report the number of employees by gender, overall and at the senior leadership team level. We also reported on our global footprint. Of a workforce of approximately 23,000, about 18,400 employees are in Asia-Pacific, 1,000 in Europe, and 3,600 in the Americas. Further, we reported that our Board of Directors consists of one female and 10 males, with 36% of the board being ethnically or racially diverse.
As companies develop and refine their company’s HCR narrative, they will need to continuously re-examine what human capital attributes are critical – or I should say, material — to the organization. HCR, like ESG, will continue to gain attention, from the SEC, employees, and other stakeholders. The SEC’s HCR disclosure requirement offers an opportunity to take stock of our human capital strengths and challenges, and to put a spotlight on this indispensable, value-creating resource.
The views expressed above are those of Jo Anne Schwendinger and not those of II-VI Incorporated.
Jo Anne Schwendinger was appointed to the position of General Counsel and Secretary of II-VI Incorporated, on March 6, 2017, and took on her current role of Chief Legal and Compliance Officer and Secretary in November of 2017. Prior to joining II-VI, Jo Anne served in the Legal Department at John Deere, where she held various positions, including Regional General Counsel for Asia-Pacific and Sub-Saharan Africa.
Jo Anne was the founding President of the Singapore Chapter of the Association of Corporate Counsel (“ACC”), and currently serves as the Chair of the ACC global Board of Directors.