United States: The SEC agenda for ESG begins to emerge

In brief

There has been a fair amount of speculation – and anticipation – about how the US Securities and Exchange Commission (SEC) would address ESG and climate change more generally given the Biden Administration’s priorities. Although it is still early days, we have recently seen significant SEC activity around these issues – just within the last week.


Contents

In depth

Public Company Disclosure – The current wave of ESG-related announcements began on February 24 when Acting Chair Allison Herren Lee directed the Division of Corporation Finance to focus on climate-related disclosure in public company filings. Specifically, the SEC staff will review the extent to which public companies have complied with 2010 interpretive guidance identifying the most relevant disclosure obligations that may need to address climate related issues. The prior guidance from 2010 does not mandate specific climate disclosures. Instead, it identifies existing disclosure requirements that may need to address climate-related issues such as the description of the business under Item 101 of Regulation S-K (requiring disclosure of certain costs of complying with environmental laws), Item 103 of Regulation S-K (disclosure of certain environmental litigation), Item 503(c) of Regulation S-K (risk factors), and the disclosure of events that are reasonably likely to have a material effect on the company’s financial condition or operating performance under Item 303 of Regulation S-K (management’s discussion and analysis). According to her pubic statement, the SEC staff will use the information from its review to consider updating the 2010 guidance to develop a “more comprehensive framework that produces consistent, comparable and reliable climate-related disclosures.”

SEC Division of Examinations 2021 Priorities – On March 3, the SEC's Division of Examinations (formerly, the Office of Compliance Inspections and Examinations) released its 2021 Examination Priorities, which prominently highlights a focus on ESG-related risks. The Division stated that registrants should be vigilant with compliance surrounding ESG investing given investors' heightened interest and the Division's own increasing awareness in this space. Acting Chair Lee noted that the focus on ESG-related risks reflects the SEC’s efforts to integrate “climate and ESG considerations into the agency’s broader regulatory framework.”

The Division will be reviewing:

  • The consistency and adequacy of disclosures regarding ESG strategies and investments that asset managers and funds provide to their clients and investors, and the extent to which processes and practices match disclosures;
  • Fund and investment adviser advertising for false or misleading statements relating to ESG claims; and
  • The degree to which proxy voting policies and procedures and actual voting align with stated ESG strategies.

The Division noted it will be particularly interested in reviewing widely-available ESG products such as open-end funds, ETFs and investments offered to accredited investors (e.g., qualified opportunity funds). Separately, stemming from its increased attention in 2020 to firms' pandemic-related business continuity plans (BCP), the Division will be focusing on whether firms' BCPs -- particularly for systematically important registrants -- reflect the growing risks from climate change. Notably, the Division will assess whether firms are developing practices to improve their responses to large-scale climate events as they become more frequent and intense. The Division's interest in systematically important registrants’ operational resilience shows that it is not just interested in individual firms' compliance practices, but also financial markets' overall ability to adapt to the increasing risks of climate change.

ESG Task Force in the Division of Enforcement – The SEC continued to highlight its focus on ESG on March 4, by announcing the creation of a Climate and ESG Task Force in the Division of Enforcement to be led by Kelly Gibson, the Acting Deputy Director of Enforcement. The Task Force will work to proactively identify ESG-related misconduct, with an initial focus on any material gaps or misstatements in issuers' disclosure of climate risks. Also, as a complement to the Division of Examinations' efforts, the Task Force will review investment advisers' and funds' disclosures and compliance relating to ESG strategies. We expect that the Task Force will rely on data analytics to review public statements and disclosures related to ESG and to identify potential violations.

Shortly after the Task Force announcement, Republican Commissioners Hester Peirce and Elad Roisman released a joint statement expressing skepticism about the timing for the Task Force and whether an ESG-specific enforcement effort is necessary at all. Commissioners Peirce and Roisman posited that any allocation of resources to ESG-specific enforcement should await the results of Corporation Finance's review of public companies' climate risk disclosures and assessment of current ESG disclosure rules for potential updates. They also questioned the merits of the Task Force more broadly, asserting that there are no new standards upon which to base enforcement and that the SEC has always pursued violations of its antifraud provisions.

Testimony of Nominee for SEC Chair Gary Gensler – The recent activity comes even before the confirmation of the new SEC Chair, which is expected next week, but is clearly intended to telegraph where the SEC is moving. On March 2, nominee Gary Gensler testified before the Senate Banking Committee, signaling that he will promote efforts to require climate risk disclosures in public company filings. He also indicated, in response to a question about the merits of diversity disclosures, that the SEC should revisit regulations requiring human capital disclosures in public company filings. Mr. Gensler suggested that the SEC's 2020 amendments to Regulation S-K, which adopted a general principles-based approach to human capital disclosures, should have included more specific diversity-related disclosure requirements. In a broader sense, Mr. Gensler stressed that disclosure requirements need to be responsive to investors' demand for information and that the "reasonable investor" standard of materiality provides solid ground to require ESG disclosures.

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The SEC announcement suggests a movement toward requiring more specific public company disclosure by rule or interpretation, but the rule making process will take time. In the meantime, the Divisions of Examinations and Enforcement already have the tools they need to address what they view as inaccurate or incomplete disclosure, misleading advertisements, and inappropriate sales practices.


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