ESG Disclosure in the Biden Era
POMERANTZ MONITOR | MARCH APRIL 2021
The Securities and Exchange Commission (“SEC”) requires companies to disclose their most significant risk factors in their filings in order to warn investors of the risks of either purchasing or continuing to own their company’s stock. Such disclosures may also serve as a “safe harbor defense” for public companies in securities litigation arising from their statements to investors, in that predictions, projections and expectations in offerings and other disclosure documents may not be construed as misleading if they contain sufficient cautionary language disclosing specific risks.
Law360 has just published the findings of a review that it, along with analytics provider Intelligize, conducted on changes in companies’ risk disclosures at the dawn of the Biden era. According to their review, at least 97 companies updated the “risk factor” sections of their SEC filings as of February 26 “to reflect President Biden’s arrival in office.”
Law360 and Intelligize found that fossil fuel-energy companies and drug developers are the most common stock issuers updating their risk disclosures to warn investors of potential policy changes that could harm their businesses under a Biden administration. Other industries, they report, have cautioned investors that a rise in corporate taxes could affect their profitability. According to Law360, “Fallout from the coronavirus pandemic has also been a recurring “risk factor.” ... Some banks are now warning investors that policies aimed at relieving borrowers may affect their bottom lines.”
Under the former SEC Chair, Jay Clayton, the SEC adopted more than 90 new rules. Investor advocates and state securities regulators criticized the “principles-based” rules enacted under Clayton for leaving too much to interpretation and providing inadequate guidance as to their scope of and compliance. For example, Regulation Best Interest (Reg B1), prohibits brokers from placing their own interests ahead of their customers, yet does not require brokers to meet the same rigorous “fiduciary standard” that is imposed on investment advisers.
One of the keystones of President Biden’s agenda is his commitment to protecting the environment. He has promised to hold polluters accountable by establishing “an enforcement mechanism to achieve net-zero emissions no later than 2050.” Biden’s ambitious environmental goals may face challenges in the Senate, but he will have some leeway to pursue them via the SEC.
Biden has nominated Gary Gensler, an academic, former investment banker, and former government finance official in the Obama administration, to serve as the SEC’s 33rd chair. During his confirmation hearing on March 2, Gensler told the Senate Banking, Housing and Urban Affairs Committee that he supports more climate risk disclosure, pledging that the SEC will undertake economic analysis and seek public feedback on how to advance it. “There are tens of trillions of investor dollars that are going to be looking for more information about climate risk,” he said, adding that “issuers will benefit from such disclosures.”
SEC Commissioner and Acting Chair, Allison Herren Lee, is strongly critical of policies adopted under Clayton’s tenure. She has called the agency’s failure to require the disclosure of environmental, social, and governance (ESG) related risks such as diversity and climate change “an unsustainable silence” – evoking, for some, Rachel Carson’s seminal 1962 book, Silent Spring, which helped to inspire an environmental movement that led to the creation of the U.S. Environmental Protection Agency. In her September 23, 2020 Statement to the Amendments to Rule 14a-8, Lee wrote, “Climate change, workforce diversity, independent board leadership, and corporate political spending, as well as other ESG-related issues, are increasingly important to investors—and increasingly present on proxy ballots. ... Environmental and social proposals have been ascendant in recent years, making up more than half of all proposals filed in recent seasons.” She criticized Clayton’s SEC for moving to restrain those efforts “just as they are gaining real traction.”
On March 5, SEC Commissioners Hester M. Peirce and Elad L. Roisman – both Republicans – published a joint statement in which they appear to dig in their heels to privilege the status quo. Referring to the recent “steady flow of SEC “climate” statements” they ask:
What does this “enhanced focus” on climate-related matters mean? The short answer is: it’s not yet clear. Do these announcements represent a change from current Commission practices or a continuation of the status quo with a new public relation twist? Time will tell.
It is certainly likely, though, that the SEC under Biden will scrutinize claims made by investment firms and financial advisors regarding their ESG funds, on the lookout for “greenwashing” attempts to make a fund appear more sustainable or ESG-compliant than it actually is.
Congressional Democrats, meanwhile, have been promoting legislation that would require companies to disclose ESG-related risks for years. Senator Elizabeth Warren’s proposed Climate Risk Disclosure Act of 2019 “would require public companies to disclose more information about their exposure to climate-related risks, which will help investors appropriately assess those risks, accelerate the transition from fossil fuels to cleaner and more sustainable energy sources and reduce the chances of both environmental and financial catastrophe.”
Representative Juan Vargas introduced the ESG Disclosure Simplification Act of 2019 to establish a Sustainable Finance Advisory Committee within the SEC that would “submit to the Commission recommendations about what ESG metrics the Commission should require issuers to disclose.”
Treasury Secretary Janet Yellen, who has called climate change “an existential threat,” intends for her department to play an integral role in fighting it. She is expected to appoint a “climate czar” and to use the Financial Stability Oversight Council to crack down on climate-related financial risks.
On March 10, 2021, the U.S. Department of Labor announced that it would suspend enforcement of Trump- era regulations limiting socially conscious investments by retirement plans while crafting new regulations that “better recognize the important role” of ESG investments in retirement plans.
The Investment Company Institute (“ICI”), which manages over $34 trillion in assets globally, has called upon public companies in the United States to provide ESG disclosure consistent with standards set by the Task Force on Climate-Related Financial Disclosure (TCFD) and Sustainability Accounting Standards Board (SASB).
On March 17, at a virtual conference of the ICI, Acting SEC Chair Lee defined the principal that is “the basis of shareholder democracy: through clear and timely disclosure, we empower investors to hold the companies they own accountable—including accountability on climate and ESG matters.” Expressing concern that “our regulations have not kept up with this new landscape of institutional investor-driven corporate governance,” Lee called for changes to shareholder proxy voting disclosures that would incorporate “soaring demand” for ESG investment strategies.
According to Benjamin D. Stone of Mintz Insights, “Should President-elect Biden successfully institute a regulatory framework for corporate ESG disclosures, investment funds will be well-positioned to deliver trillions of dollars of investment capital into the U.S. economy to meet climate goals.”
Still, the SEC has yet to define ESG or direct companies on exactly which ESG-related risks it wants them to disclose. The United States lags well behind Europe in this regard. The EU Sustainable Finance Disclosure Regulation (2019/2088) comes into force on March 10, 2021. In the United Kingdom, new climate-related disclosure regulations that apply to investment managers in the U.K. are expected to be phased in from 2022.
It remains to be seen whether the United States can catch up.