Nichol Garzon-Mitchell is Chief Legal Officer and Senior Vice President of Corporate Development at Glass, Lewis & Co. This post is based on her Glass Lewis memorandum. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); Companies Should Maximize Shareholder Welfare Not Market Value by Oliver Hart and Luigi Zingales (discussed on the Forum here); Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee by Max M. Schanzenbach and Robert H. Sitkoff (discussed on the Forum here); and Exit vs. Voice by Eleonora Broccardo, Oliver Hart and Luigi Zingales (discussed on the Forum here).
With the growth of ESG investing has come heightened regulatory scrutiny. In the last Administration, the focus was on asset managers’ motives and particularly the dubious claim that ESG was a surreptitious effort to advance managers’ political preferences, rather than being used as a material risk-return characteristic. Now the focus has shifted to so-called “greenwashing”—the concern that some companies and funds overstate their ESG credentials.
In the wake of increased examination and enforcement activity on this issue, the U.S. Securities and Exchange Commission has now proposed its first rules and required disclosures for funds and investment advisers using ESG strategies. While the rules do not go as far as the European Union’s Sustainable Finance Disclosure Regulation (“SFDR”), if adopted they would substantially increase the disclosure obligations of funds and investment advisers that consider ESG factors. We encourage all interested parties to review the proposed rules and consider commenting on them. Given the priority the SEC has attached to this issue, funds and advisers may also want to consider planning a review of their ESG investment and stewardship approaches and disclosures in anticipation of some version of these rules being adopted in the coming year.
Background
The SEC’s proposal comes against the backdrop of remarkable growth in ESG investing. As the SEC notes, inflows of capital to ESG investment products have increased exponentially over the last two decades. In fact, U.S. domiciled assets integrating ESG strategies grew 42% between 2018 and the end of 2020. Today, about one in three dollars of total U.S. assets that are professionally managed, representing some $17.1 trillion, are in a strategy that considers ESG.
The SEC has responded to this growth in several ways. Signaling the issue’s importance, the SEC formed a climate and ESG task force last year to identify and pursue “ESG-related misconduct consistent with increased investor reliance on climate and ESG-related disclosure and investment.” This task force has already produced results. The SEC recently took enforcement action against an investment adviser that “did not always perform the ESG quality review that it disclosed using as part of its investment selection process for certain mutual funds it advised.” And the Commission’s 2022 examination priorities include “greenwashing” as one of its five significant focus areas for the year.