BlackRock Supports Consistent Climate-Related Disclosures; Urges Global Coordination

Sandra Boss is Global Head of Investment Stewardship and Michelle Edkins is Managing Director of Investment Stewardship at BlackRock, Inc. This post is based on a BlackRock memorandum.

BlackRock’s role is to offer our clients a range of choices and help them make informed decisions to achieve their long-term financial objectives such as retirement. We do this as a fiduciary to our clients. Many of our clients are increasingly focused on the investment risks and opportunities associated with a transition to a lower-carbon economy. These clients seek to understand how companies are planning to mitigate risks and capture opportunities associated with this transition. Clients representing more than $3.3 trillion in assets entrusted to BlackRock have made net zero commitments as their own investment objective. These clients are particularly focused on obtaining clear, comparable, and high-quality climate-related disclosures to inform their investment decisions.

Given the role that climate risk and opportunities will play in our clients’ investment portfolios, BlackRock has consistently advocated for providing investors with high-quality, globally comparable climate-related disclosures.

There also is growing consensus that an orderly, just transition to net zero will benefit companies and the economy, which we believe will benefit our clients. We have also advocated for climate-related disclosures applied to both public and private companies. These disclosures should aim to enable informed investment decisions and support our clients’ investment and portfolio goals.

The foundation for climate-related disclosures, as we have consistently affirmed, is the Taskforce on Climate-related Financial Disclosures (“TCFD”). [1] TCFD is a principles-based approach, developed with input from investors and companies. Because of its relative simplicity and consistency, TCFD has garnered significant support from governments, central banks, and more than 2,600 organizations as of 2021, a 70% increase from 2020.

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The Corporate Law Reckoning for SPACs

Minor Myers is Professor of Law at the University of Connecticut School of Law. This post is based on his recent paper, and is part of the Delaware law series; links to other posts in the series are available here. Related research from the Program on Corporate Governance includes SPAC Law and Myths (discussed on the Forum here) by John C. Coates.

The ascendance of SPACs in U.S. capital markets has attracted intense regulatory scrutiny from federal officials, especially the SEC. This federal attention on SPACs is natural, as at first glance the SPAC appears to be simply an alternative to the conventional IPO, itself regulated chiefly at the federal level. The SPAC, however, is critically different from the IPO. An IPO is a transaction: the issuer sells stock, and public purchasers buy it, and the issuing corporation owes no fiduciary duty to the IPO purchasers. By contrast, the SPAC is an entity, not a transaction. And in fact SPACs are a very particular kind of entity: a standard corporation, organized usually under the laws of Delaware. My paper is the first to examine the corporate law dynamics of SPACs in detail, and it makes two distinct claims.

First, it demonstrates that the SPAC industry has exhibited a striking disregard of corporate law, failing to live up to basic equitable and statutory expectations under existing doctrine. Compared to other public corporations, the SPAC adopts a highly idiosyncratic governance model. The SPAC vests near-despotic control over all substantive decision-making in the hands of the sponsor. And SPAC boards are always populated by persons selected by the sponsor and often classified, making it impossible to wrest control from the sponsor during the life of the SPAC. The merger vote is engineered to achieve success, as the redemption right and warrants induce stockholders to vote in favor of a transaction regardless of their views on its merits, and the redemption decision likewise affords public holders limited influence. At the same time, the all-powerful sponsor has a deep conflict of interest with public holders. With a business combination, the sponsor secures a 20% stake, a potentially gargantuan reward. Without one, the sponsor’s stake is worth nothing. The result is that the sponsor has two incentives at odds with the public holders: to pursue any transaction, regardless of its advisability for public stockholders, and to obscure that fact from public stockholders to minimize redemptions. The sponsor acts unconstrained by any customary corporate mechanism for handling conflicted situations, as there are no disinterested decisionmakers anywhere in the SPAC. A SPAC thus offers its business combination to the public holder as a take-it-or-leave-it proposition, from which the investor has a custom-built remedy that is reputed to be complete. I call this approach the private fund model, as it broadly characterizes the structure that prevails among private investment funds.

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What to Know About the SEC’s ESG Investing Rule Proposals

Nina Wilson is Vice President of Edelman ESG Advisory. This post is based on her Edelman memorandum. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) by Lucian A. Bebchuk and Roberto Tallarita; Does Enlightened Shareholder Value Add Value? (discussed on the Forum here) and Stakeholder Capitalism in the Time of COVID (discussed on the Forum here), both by Lucian Bebchuk, Kobi Kastiel, and Roberto Tallarita; Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock (discussed on the Forum here) by Leo E. Strine, Jr.; and Corporate Purpose and Corporate Competition (discussed on the Forum here) by Mark J. Roe.

The May 31, 2022, law enforcement raids of the Frankfurt offices of Deutsche Bank AG and its asset management unit, DWS Group, over accusations of prospectus fraud and “greenwashing”—generally defined as the practice of making false, misleading or unsubstantiated claims about the environmental and/or social impact of an investment—have asset managers, among other stakeholders, wondering: could similar actions be on the horizon in the U.S.?

U.S. asset managers are right to be wary: the raids in Germany came just days after the U.S. Securities and Exchange Commission (SEC) proposed new disclosure and naming requirements for funds that consider environmental, social and governance (ESG) factors in their investment decisions.

The proposals are the latest in an intensified focus on transparency and fair marketing of ESG products and services by the U.S. regulator. The same week the proposed rules were released, the SEC announced that BNY Mellon Investment Adviser, Inc. agreed to pay a $1.5 million fine to the SEC to settle allegations that the firm made misleading claims about ESG funds it managed. Most recently, the Wall Street Journal reported that the SEC is also investigating Goldman Sachs over its ESG and clean-energy investment funds.

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Proxy Season 2022 Briefing: United States

Brianna Castro is Senior Director of U.S. Research; Courteney Keatinge is Senior Director of Environmental, Social & Governance Research; and Aaron Wendt is Director of U.S. Governance Policy at Glass, Lewis & Co. This post is based on their Glass Lewis memorandum.

Key Trends

Last year’s SPACs and IPOs expand this year’s proxy season

  • The U.S. research team covered more than 200 additional U.S. meetings in 2022 compared to 2021 (+6.37% increase, following an +8% increase from 2020 to 2021). A frothy IPO and SPAC-merger market in 2021 led to many companies holding first-year AGMs in 2022.

Diversity rulings on hold, but investor interest remains strong

  • In judgments that came down at the height of proxy season, California’s landmark board gender and “underrepresented community” diversity laws were both deemed to violate the equal protection clause of the state constitution. The laws remain on hold pending potential appeals; boards should continue to expect pressure from investors and external stakeholders to increase board diversity.

Excessive granting and overall pay continued to drive Say on Pay opposition

  • This can partially be attributed to the “mega-grant” trend, as many companies within the wave of new listings gave their executives outsized awards.
  • We also saw an uptick in retention one-time awards, with many companies citing the need to keep top talent during a tumultuous economic environment and a few even citing the “Great Resignation.”

More shareholder proposals, but lower shareholder support

  • As a result of a more permissive regulatory environment and the growing focus on ESG-related issues, over 100 more shareholder proposals went to a vote during the 2022 proxy season relative to the previous year. The increase was largely as a result of proposals submitted by advocacy groups, such as NGOs and think tanks.
  • However, at the same time, shareholder support for these proposals declined for most types of shareholder proposals, with average shareholder support for these resolutions dropping from 36% in 2020 to 31% in 2022.

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Identifying Corporate Governance Effects: The Case of Universal Demand Laws

Steven Davidoff Solomon is Professor of Law at the University of California at Berkeley School of Law; Byung Hyun Ahn is a Researcher at Dimensional Fund Advisors; and Panos N. Patatoukas is Associate Professor of Finance at the University of California at Berkeley Haas School of Business. This post is based on their recent paper.

Related research from the Program on Corporate Governance includes Why Firms Adopt Antitakeover Arrangements by Lucian A. Bebchuk.

Index constructs and identifiers are regularly utilized in empirical corporate governance research. They are popular. The use of legal changes as plausibly exogenous sources of variation in the economic determinants of corporate governance is also common. State antitakeover laws, particularly business combination laws, are often used as exogenous identifiers to assess corporate governance effects. Despite their popularity, there is a growing body of literature questioning the interpretation of tests that use legal changes for identification.

In Identifying Corporate Governance Effects: The Case of Universal Demand Laws recently posted to SSRN, we contribute to the debate by examining the adoption of Universal Demand (UD) laws, an increasingly popular proxy for exogenous variation in corporate governance mechanisms. UD laws were enacted by 23 states between 1989 and 2005 and require that shareholders make a demand on the board before suing for breach of fiduciary duty or other derivative actions. Because the board can refuse the demand or otherwise prosecute the case, or decline to prosecute, academics have theorized that UD laws decrease the ability of shareholders to litigate and effectively monitor the board. Since UD laws are exogenously imposed by the state, they have the potential to address the issue of endogeneity in the relation between corporate governance and litigation risk.

In a novel paper, Appel (2019) first deployed the enactment of UD laws as a plausibly exogenous source of variation in the use of entrenchment provisions commonly opposed by shareholders. Appel’s empirical investigation zeroes in on variation in the widely-used entrenchment index (E-Index), which captures the sum of provisions restricting shareholder voting power and antitakeover provisions (Bebchuk et al. 2009). The key finding is that the enactment of UD laws across adopting states is associated with a significant increase in the E-Index. Prior work interprets this finding as prima facie evidence of a causal link between shareholder litigation rights and corporate governance. A fast-growing stream of studies in corporate finance and accounting relies on the adoption of UD laws to identify cause-and-effect links between management entrenchment and various firm outcomes. The common thread across these studies is that UD laws had a direct effect on management entrenchment.

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ESG Trends and Expectations

Marc S. GerberGreg Norman and Simon Toms are partners at Skadden, Arps, Slate, Meagher & Flom LLP. This post is based on a Skadden memorandum by Mr. Gerber, Mr. Norman, Mr. Toms, Adam M. HowardKathryn Gamble, and Patrick Tsitsaros.

Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance (discussed on the Forum here) and Will Corporations Deliver Value to All Stakeholders? (discussed on the Forum here), both by Lucian A. Bebchuk and Roberto Tallarita; Restoration: The Role Stakeholder Governance Must Play in Recreating a Fair and Sustainable American Economy—A Reply to Professor Rock (discussed on the Forum here) by Leo E. Strine, Jr.; Stakeholder Capitalism in the Time of COVID (discussed on the Forum here) by Lucian Bebchuk, Kobi Kastiel, and Roberto Tallarita; and Corporate Purpose and Corporate Competition (discussed on the Forum here) by Mark J. Roe.

Introduction

Environmental, social and governance (ESG) considerations continued to play a key role in the first six months of 2022, with geopolitical circumstances resulting in a reexamination of a number of ESG beliefs. In our February 2022 post “ESG: 2021 Trends and Expectations for 2022,” we set out our predictions for 2022, some of which have come to fruition but a number of which have been sidelined by unforeseen events. In this post, we discuss the ESG matters that we predicted would be key themes this year, such as new legislation in the U.K., the U.S. and Europe, criticism of ESG data, executive remuneration, and the role of ESG in the tech/cyber space, and also those ESG matters we did not expect to see, ranging from the impact of the Ukraine invasion, increased regulatory scrutiny and some impactful U.S. Supreme Court decisions. We also highlight two key topics we believe will prove central to ESG discussions in the coming months: the green energy transition and the role of sustainability advice and consulting.

Unexpected Developments

Impact of Politics and the Invasion of Ukraine [1]

Russia’s invasion of Ukraine has significantly impacted ESG trends and performance in the first six months of the year. Some have viewed the effects as a setback for the ESG movement, as oil and gas prices soared and ESG-focused funds underperformed, while others believe this could be a turning point as nations are forced to consider green energy and shift reliance on oil and gas from Russia.

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BlackRock Response to the Exposure Draft Climate-Related Disclosures Issued by ISSB

Joanna Cound is Managing Director, Sarah Matthews is Director and Michelle Edkins is Managing Director at BlackRock, Inc. This post is based on BlackRock’s response to the Exposure Draft ED/2022/S2 Climate-Related Disclosures issued by the International Sustainability Standards Board.

This post is based on BlackRock’s response to The Exposure Draft ED/2022/S2 Climate-related Disclosures issued by the International Sustainability Standards Board. Below is the text of the letter with minor adjustments to eliminate the correspondence-related parts.

BlackRock manages assets on behalf of institutional and individual clients worldwide, across equity, fixed income, liquidity, alternatives, and multi-asset strategies. Our clients, the asset owners, include pension plans, endowments, foundations, charities, official institutions, insurers and other financial institutions, as well as individuals around the world. Because our clients have diverse financial objectives, we consider a variety of investment factors, risks, and opportunities, including those related to climate.

Asset managers investing on behalf of clients are not just looking for more data on climate risk; they need high-quality information that is (1) relevant to understanding climate- related risks and opportunities, and (2) reliable, timely, and comparable across jurisdictions. Investors also recognize that climate data, controls and risk methodologies are still evolving. As a fiduciary to our clients, BlackRock has engaged with public companies on climate disclosure over the past five years. We have observed these companies continually developing and adapting their climate risk management and reporting tools, improving the quality of their disclosure over time.

BlackRock strongly supports the ISSB’s goal of providing a global baseline of standards to support the disclosure of more reliable, comparable, and consistent climate-related information. We view both the ISSB Exposure Draft ED/2022/S1 on sustainability-related financial information and ED/2022/S2 on climate-related disclosure as important contributions to a multi-year, multi-jurisdictional effort towards improving the availability, quality, comparability, timeliness, and interoperability of sustainability-related disclosures.

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On Index Investing

Jeffrey Coles is the Samuel S. Stewart, Jr. Presidential Chair in Business, David Eccles Chair, and Professor of Finance; Davidson Heath is an Assistant Professor of Finance; and Matthew Ringgenberg is an Associate Professor of Finance, all at the University of Utah David Eccles School of Business. This post is based on their recent paper, forthcoming in the Journal of Financial Economics.

Related research from the Program on Corporate Governance includes The Agency Problems of Institutional Investors (discussed on the Forum here) by Lucian Bebchuk, Alma Cohen, and Scott Hirst; Index Funds and the Future of Corporate Governance: Theory, Evidence, and Policy (discussed on the forum here) and The Specter of the Giant Three (discussed on the Forum here), both by Lucian Bebchuk and Scott Hirst; and The Limits of Portfolio Primacy (discussed on the Forum here) by Roberto Tallarita.

The last two decades have seen a dramatic increase in the amount of capital invested in passive index funds. While these funds help investors earn benchmark index returns for relatively low fees, the increase in passive investing is not without controversy. Passive investors, by definition, hold portfolios that simply track an index. As a result, they do not do research—they free-ride on the research and analysis of active investors. This leads to a tension: Not everyone can index, some investors must be active for prices to incorporate information. The question is, does the rise of passive investing change information production in the economy? If so, how does passive investing affect informational efficiency, that is, the link between stock prices and fundamental value?

In our paper On Index Investing (Journal of Financial Economics, 2022), we examine these questions, both theoretically and empirically. We first develop a model that is a simple extension of the classic Grossman-Stiglitz (1980) model of information acquisition by investors. We then test the model’s predictions using Russell index reconstitutions as a shock to the mix of passive and active investors. Our findings suggest that passive investing does reduce information production, but perhaps surprisingly, it does not harm informational efficiency.

Existing theories disagree on the relation between investor composition and market efficiency. Some models predict that the rise of passive investing does alter price efficiency. For example, as passive funds replace active funds, there are fewer active funds doing research which could make prices less efficient.

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PE Firms Poised for Diversity Drive

Kem Ihenacho is partner, Clare Scott is counsel, and Anne Mainwaring is an associate at Latham & Watkins LLP. This post is based on a Latham memorandum by Mr. Ihenacho, Ms. Scott, Ms. Mainwaring, Catherine Campbell, and Jennifer Cadet.

Related research from the Program on Corporate Governance includes Politics and Gender in the Executive Suite (discussed on the Forum here) by Alma Cohen, Moshe Hazan, and David Weiss; Will Nasdaq’s Diversity Rules Harm Investors? (discussed on the Forum here) by Jesse M. Fried; and Duty and Diversity (discussed on the Forum here) by Chris Brummer and Leo E. Strine, Jr.

Diversity has become a key focus for every industry in recent years, and private equity, like many other parts of the financial sector, still has significant progress to make in terms of diversity and inclusion. Private equity lags behind others in the financial services industry across a range of diversity metrics—according to a report published by EY in December 2021, just 10% of private equity roles are held by women.

Amid a drive to boost diversity across the industry, PE funds are becoming more diversity focused in Europe, as investors and regulators demand change and sponsors seek a competitive advantage through diversity strategies.

LP focus

LPs are placing greater emphasis on diversity at GP manager and portfolio company level, and are asking for more information on diversity, equity, and inclusion (DEI) metrics. According to Private Equity International’s LP Perspectives 2022 survey, one in five LPs refused to invest in a PE firm due to the lack of diversity at GP level.

As PE firms strive to make progress, diversity-focused funds are now coming to market with specific mandates to select investments based on diversity criteria. Diversity criteria may be considered at both GP and portfolio level, for example, by setting minimum requirements for diversity of key people or carry recipients, or diversity of “C-Suite Executives” in portfolio companies.

Regulatory focus

EU regulation is placing greater emphasis on DEI, demonstrating growing appetite for change. For example, the EU’s Sustainable Finance Disclosure Regulation (SFDR) regime (which depending on structure, GPs are likely to be subject to, if based in Europe or marketing into Europe) requires consideration of metrics on board gender diversity and unadjusted gender pay gap in certain circumstances, including where investments are intended to meet the definition of “sustainable investments” under SFDR.

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What CEOs Must Consider When Wading Into Politics and Policy Discussions

Christine DiBartolo, Jackson Dunn, and Brent McGoldrick are Senior Managing Directors at FTI Consulting. This post is based on an FTI memorandum by Ms. DiBartolo, Mr. Dunn, Mr. McGoldrick, Elly DiLeonardi, Greg Mecher and Lindsay Kunkle.

Related research from the Program on Corporate Governance includes Corporate Political Speech: Who Decides? (discussed on the Forum here) by Lucian Bebchuk and Robert J. Jackson Jr.; The Untenable Case for Keeping Investors in the Dark (discussed on the Forum here) by Lucian Bebchuk, Robert J. Jackson Jr., James David Nelson, and Roberto Tallarita; and The Politics of CEOs (discussed on the Forum here) by Alma Cohen, Moshe Hazan, Roberto Tallarita, and David Weiss.

Increasingly, Americans are turning to the private sector for leadership as the boundaries between the political, social, and business arenas blur. Viewed in the best light, this is a search for value-based leadership. At worst, the forces of polarization have now crept into companies, which makes it particularly challenging for CEOs to determine how to engage on issues—particularly ones that can be seen as political—without creating new business risks.

In this post, we use our research of two of a company’s most important stakeholders—professionals and investors—to explore what CEOs must consider when wading into politics and policy discussions.

Demands on CEOs are being driven by the belief that businesses can influence the United States’ future

Investors and professionals see large businesses having real impact. In fact, they are perceived to have influence on the future of the country equal to—or even exceeding that of—federal, state and local government. This sentiment goes one step further in current times.

Investors and professionals look to businesses to partner with the government to help manage and overcome crises and major social change. CEOs are expected by stakeholders to take their responsibility to the country, not just their business, seriously.

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