Enhancing the Transparency of ESG Investing and Stewardship

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.


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.


Eclipse of Rent-Sharing: The Effects of Managers’ Business Education on Wages and the Labor Share in the US and Denmark

Daron Acemoglu is Institute Professor of Economics at Massachusetts Institute of Technology; Alex He is Assistant Professor of Finance at the University of Maryland Robert H. Smith School of Business; and Daniel le Maire is Associate Professor of Economics at the University of Copenhagen. This post is based on their recent paper.

Over the last decades, there has been a decline in the labor share and stagnant wage growth in many advanced economies. In a new working paper, we argue that changing managerial attitudes and practices towards rent-sharing have been a major contributing factor to the decline in the labor share and slowdown of wage growth. In particular, we focus on the role of business schools, which have been one of the most important institutions defining the ultimate ends of the corporation. We document that the appointment of managers with a business school degree (“business managers” for short) leads to lower wages and labor share at their firms.

We collect detailed data from both the US and Denmark on CEOs’ educational background and match CEOs to firm-level and worker-level datasets. Our sample covers all publicly traded firms in the US between 1992 and 2014, and all firms with at least five employees in Denmark between 1995 and 2011. In both countries, the share of firms with business managers has grown rapidly over time. For example, in the US, the share of public companies with business managers has increased from 26% in 1980 to 43% in 2020.

We start by analyzing firms which switch from a non-business manager to a business manager. We compare the evolution of wages, labor share, and other firm outcomes of these firms with a set of control firms that always have non-business managers. We control for industry-year fixed effects, region-year fixed effects, and size quintile-year fixed effects to absorb industry-specific, region-specific, and size-quintile-specific trends. Figure 1 shows that in the US, wages decrease by 6%, and the labor share of sales decreases by 1.8 percentage points (translating into a decrease in the labor share of value added by 5 percentage points) five years after the appointment of a business manager. In Denmark, wages decrease by 3% and the labor share of value added decreases by 3 percentage points five years after business managers are hired. The results are not due to changes in firms’ workforce composition, and we find similar results when considering the wages of workers staying at the firm. However, we find no significant changes in value added, investment, or employment after the appointment of business managers, suggesting that business managers are not more productive than their non-business peers.


Chancery Court Accepts “Novel Theory” of Liability for Directors

Gail Weinstein is senior counsel and Scott B. Luftglass and Amy L. Blackman are partners at Fried, Frank, Harris, Shriver & Jacobson LLP. This post is based on a Fried Frank memorandum by Ms. Weinstein, Mr. Luftglass, Ms. Blackman, Donald P. Carleen, David L. Shaw, and Shant P. Manoukian, 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 Monetary Liability for Breach of the Duty of Care? by Holger Spamann (discussed on the Forum here).

In Garfield v. Allen (May 24, 2022), the Delaware Court of Chancery accepted, “with admitted trepidation,” what it called a “novel theory” advanced by the plaintiff—namely, that a corporation’s directors may have breached their fiduciary duties to the stockholders by failing to reverse equity compensation awards made to the CEO after the board became aware, via the plaintiff’s litigation demand letter, that the awards violated a limitation set forth in the company’s equity compensation plan. Vice Chancellor Laster, at the pleading stage of litigation, declined to dismiss the plaintiff’s claims against the directors who approved the awards; against the other directors (who did not approve the awards); and against the CEO who received the award.

Key Points

  • The court accepted, at the pleading stage, the plaintiff’s “novel” theory that a board’s failure to act to address a problem it learns of through a litigation demand letter may constitute a breach of the directors’ fiduciary duties. Although the theory “lacked precedent,” the court found that “the logic of the…theory is sound.” The court noted that, under Caremark, directors are liable for not fixing a problem after they consciously ignore “red flags” that the problem exists. The result should not be different, the court concluded, where the source of the notice of the problem is, instead, a litigation demand. Further, the court reaffirmed that a “knowing” violation by directors of a “plain and unambiguous restriction” in an equity compensation plan can give rise, at the pleading stage, to a reasonable inference of bad faith conduct by the directors sufficient to rebut the business judgment rule.


Long-Awaited ESG Rules

Mary Beth Houlihan, Brad Green, and David Marcinkus are partners at Kirkland & Ellis LLP. This post is based on a Kirkland & Ellis memorandum by Ms. Houlihan, Mr. Green, Mr. Marcinkus, Alexandra Farmer, Nicole Runyan and Jennie Morawetz.

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).

On May 25, 2022, in a long-awaited move, the U.S. Securities and Exchange Commission (“SEC”) issued a pair of rule proposals related to the use of environmental, social and governance (“ESG”) investment practices by open-end and closed-end registered investment companies, as well as by business development companies (“BDCs,” and collectively, “funds”). The SEC’s stated goals with these proposals are to increase transparency and confidence in funds that consider ESG factors as part of their investment process, given the recent and ongoing dramatic growth in investor interest in ESG investing. The SEC believes that investors looking to participate in ESG investing currently face a lack of consistent, comparable and reliable information among funds that claim to consider one or more ESG factors.

The first proposal seeks to create a robust disclosure and reporting framework for funds regarding their ESG investment practices. To effectuate this goal, the proposal would make a number of amendments to the registration and reporting forms utilized by funds in their securities offerings and ongoing periodic reporting. While the SEC does not generally prescribe specific disclosures for particular investment strategies, the SEC believes that ESG strategies and disclosures differ materially in certain respects that necessitate specific requirements and mandatory content standards to assist investors in making more informed investment decisions.

The second proposal would amend Rule 35d-1 (the so-called “Names Rule”) under the Investment Company Act of 1940, as amended (the “Investment Company Act”), to, among other things, add new requirements for funds that consider ESG factors in connection with their investment practices. The SEC believes that the Names Rule, which has not been amended since its adoption over 20 years ago, has not kept pace with industry developments and product evolution. Additionally, the SEC emphasized that competitive pressures may incentivize asset managers to include words in a fund’s name as a way to attract investor assets—for example, terms related to ESG. Further, the SEC expressed concern that the current Names Rule may permit funds to depart, over time, from the investment focus suggested by their name. Importantly, the proposed amendments to the Names Rule also would have significant implications for non-ESG funds, especially for those funds that may invest in more illiquid assets (including funds of private funds), and would mark a significant change, as the rule does not currently apply to commonly used fund names that focus on investment strategies instead of particular investments, such as “growth” or “income” funds.

Each proposal was approved by the SEC in a 3-1 vote along party lines, with Commissioner Peirce dissenting. The proposals will remain open for public comment for 60 days after their publication in the Federal Register.


Paying Well By Paying for Good

Phillippa O’Connor is a Reward & Employment Leader at PwC United Kingdom, and Tom Gosling is an Executive Fellow in the Department of Finance at London Business School. This post is based on their PwC UK memorandum. Related research from the Program on Corporate Governance includes The Perils and Questionable Promise of ESG-Based Compensation (discussed on the Forum here) and The Illusory Promise of Stakeholder Governance, both by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); and Companies Should Maximize Shareholder Welfare Not Market Value by Oliver Hart and Luigi Zingales (discussed on the Forum here).

Market practice in the FTSE 100 shows the changing nature of ESG targets in executive pay

ESG targets are increasingly prevalent in pay

  • 45% of FTSE 100 companies have an ESG target in the annual bonus, the Long-term Incentive Plan (LTIP), or both
  • 37% use ESG in annual bonus with an average weighting of 15%
  • 19% of the FTSE 100 use ESG in LTIP with an average weighting of 16%
  • The most common category of measure in the bonus is Social, including measures focusing on diversity, employee engagement, and health & safety
  • The most common category of measure in the LTIP is Environmental, typically measures focusing on decarbonisation and the energy transition

The nature of ESG targets is changing, with increased use of Environment and Social targets, particularly in LTIPs

  • ESG targets relating to long-standing social and governance metrics such as health & safety, risk, and employee engagement have appeared in bonuses for some time. 33% of FTSE 100
    companies incorporate such “Old” ESG measures, 31% in the bonus and 7% in the LTIP
  • “New” ESG targets relate to more recently emerging stakeholder concerns, particularly around
    climate change, sustainability and diversity. 28% of companies have such measures, 18% in the bonus and 15% in the LTIP

A slight majority of ESG measures are output rather than input measures, with only a minority operating as an underpin

  • 55% of ESG measures in bonus, and 50% in LTIP, are output measures with a quantifiable goal—for example scope 1 and 2 emissions reductions in tonnes against baseline numbers
  • 31% of ESG measures in bonus, and 27% in LTIP, are input measures relating to specific activities a company undertakes—such as making investments in green energy sources
  • Only 14% of ESG measures in bonus, and 22% in LTIP, operate as an underpin, despite this
    approach being popular with some shareholders

Nearly half of current ESG metrics are not linked to material ESG factors

  • Over half (55%) of ESG targets are based on ESG dimensions categorised as material to the
    company under the SASB Materiality Map®. But equally, nearly half are not
  • Of the 45% of targets not deemed material in the SASB framework, nearly half (45%) relate to employee engagement or diversity & inclusion—whether this should be deemed immaterial will be a matter of debate. Diversity metrics commonly appear in financial services incentives, following the Women in Finance Initiative


Avoiding “Entire Fairness” Review in Claims against SPAC Boards through Corwin

James Jian Hu and Andrew Hammond are partners at White & Case LLP. This post is based on a White & Case memorandum by Mr. Hu, Mr. Hammond, Joel Rubinstein, and Jonathan Rochwarger, and is part of the Delaware law series; links to other posts in the series are available here. This post represents the authors’ individual views which should not be attributed to White & Case LLP. Related research from the Program on Corporate Governance includes SPAC Law and Myths by John C. Coates (discussed on the Forum here).

Special purpose acquisition company (“SPAC”) business combinations have provided a novel and difficult context to apply traditional fiduciary duty doctrines in Delaware law. Recently, in In re MultiPlan Corp. Stockholders Litigation, [1] the Delaware Chancery Court issued a ruling denying a motion to dismiss breach of fiduciary duty claims brought against a SPAC’s fiduciaries in connection with the SPAC’s 2020 de-SPAC transaction. While noting that “Delaware courts have not previously had an opportunity to consider the application of our law in the SPAC context,” the Court evaluated breach of fiduciary duty claims brought against the SPAC’s directors, officers and controlling stockholder under the “entire fairness” standard of review, due to alleged conflicts between the SPAC’s fiduciaries and public stockholders in the context of a value-decreasing transaction. These conflicts included the fact that each of the SPAC’s directors held founder shares that would be worthless if the SPAC did not complete a de-SPAC transaction.

Since the issuance of the MultiPlan decision, commentators have amply covered its rationales and holdings, which will not be repeated in this post. The authors of this post believe, however, that by following the roadmap set forth by the Delaware courts in Corwin v. KKR Financial Holdings LLC [2] and its progeny, it would be possible to lower the standard of review for the conduct of a SPAC’s board in connection with its initial business combination to the more deferential “business judgement rule” without having to ensure that there are independent directors who do not hold founder shares.

Corwin and Conflicted Directors Transactions

In Corwin, the Delaware Supreme Court held that when a transaction otherwise subject to enhanced scrutiny under Revlon is approved by a fully informed, uncoerced vote of the disinterested stockholders, the business judgment rule applies. The Corwin court did not squarely address the question of whether Corwin’s cleansing effect applies when a majority of the directors are conflicted. However, in dicta, the Corwin court noted that “[f]or sound policy reasons, Delaware corporate law has long been reluctant to second-guess the judgment of a disinterested stockholder majority that determines that a transaction with a party other than a controlling stockholder is in their best interests,” implying that Corwin’s cleansing effect could still apply in the absence of a conflicted controlling stockholder. [3]


It Pays For Companies To Leave Russia

Jeffrey A. Sonnenfeld is the Lester Crown Professor in the Practice of Management at the Yale School of Management. This post is based on a recent paper by Prof. Sonnenfeld,  Steven Tian, Steven Zaslavsky, Yash Bhansali, and Ryan Vakil, all of the Yale Chief Executive Leadership Institute, Yale School of Management.

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); For Whom Corporate Leaders Bargain (discussed on the Forum here); Stakeholder Capitalism in the Time of COVID (discussed on the Forum here); and Does Enlightened Shareholder Value Add Value? (discussed on the Forum here), all by Lucian A. Bebchuk, Kobi Kastiel, and Roberto Tallarita.

I. Introduction and Methodology

Since Russia’s invasion of Ukraine began in February 2022, the first author has led an intensive effort to track the responses of well over 1,200 public and private companies from across the globe, with almost 1,000 companies publicly announcing they are voluntarily curtailing operations in Russia to some degree beyond the bare minimum legally required by international sanctions.

The list has been, and continues to be, continually updated with new additions and new announcements by the first author’s team of two dozen experts with diverse backgrounds in financial analysis, economics, accounting, strategy, governance, geopolitics, and Eurasian affairs; with collective fluency in ten languages including Russian, Ukrainian, German, French, Italian, Spanish, Chinese, Hindi, Polish, and English. The dataset is compiled using not only public sources such as government regulatory filings, tax documents, company statements, financial analyst reports, earnings calls, Bloomberg, FactSet, MSCI, S&P Capital IQ, Thomson Reuters, and business media from 166 countries; but also non-public sources, including a sui generis global wiki-style network of 250+ company insiders, whistleblowers and executive contacts.

When the list was first published the week of February 28, only several dozen companies had announced their departure from Russia. In the two months since, this list of companies staying/leaving Russia has already garnered significant attention for its role in helping catalyze the mass corporate exodus from Russia, with widespread media coverage and circulation across company boardrooms, policymaker circles, and other communities of concerned citizens around the world. The authors have also written short editorials for The New York Times, The Washington Post, Fortune, amongst others; each of which were the most-read articles in their respective outlets for at least 36 hours upon publication.


The Lessons Behind Women’s Gains in Board Leadership

Molly Stutzman is Analyst of Corporate Research at JUST Capital. This post is based on her JUST Capital memorandum. Related research from the Program on Corporate Governance includes Politics and Gender in the Executive Suite by Alma Cohen, Moshe Hazan, and David Weiss (discussed on the Forum here); Will Nasdaq’s Diversity Rules Harm Investors? by Jesse M. Fried (discussed on the Forum here); and Duty and Diversity by Chris Brummer and Leo E. Strine, Jr. (discussed on the Forum here).

Last week, a California judge struck down a law passed in 2018 requiring publicly traded companies headquartered in the state to have at least one woman on their board. The move follows a similar ruling from a judge last month, deeming a state law passed in 2020 requiring companies to meet a quota of at least one racially, ethnically, or otherwise diverse board director unconstitutional. While the decision is a blow to board gender diversity advocates, and the state is expected to appeal it, the law’s impact is already clear. Analysis of board growth among California-based companies in 2021 found that more than half of new board appointees that year were women.

This trend has continued beyond the confines of California-headquartered companies. JUST analysis found that average board gender diversity in the Russell 1000 rose from 23.8% to 28.2% between 2019-2021. When we break these gains down by representation thresholds of 30%, 40%, and 50%, we see gains across each of these groupings. (Figure 1).

Figure 1: Percent of companies with board gender diversity at or above 30%, 40% and 50%.

In 2021, almost half (44%) of the corporate boards JUST Capital analyzed were composed of at least 30% women. Far fewer boards were composed of 40% or more women and only 3% of boards reached parity or had more than 50% women). Moreover, from 2019-2021, the percent of companies in all three thresholds grew by over 50%. Nevertheless, board diversity still has a long way to go to achieve gender parity, as evidenced by the slow growth in the highest threshold of 50% or more.


Weekly Roundup: June 17-23 , 2022

More from:

This roundup contains a collection of the posts published on the Forum during the week of June 17-23, 2022.

ESG Global Study 2022

New Climate-Related Financial Disclosures for Private Companies and LLPs

Corporate Racial Equity Tracker

The SEC’s Authority to Pursue Climate-Related Disclosure

“Minimum Standards” for Lawyers Practicing Before the SEC

When 9 is the Perfect Number

Chancery Court Continues to Reject Demand Futility Claims Post-Zuckerberg

Meeting Expectations for Board Diversity

Regulatory Solutions: A Global Crackdown on ESG Greenwash

Statement by Commissioner Peirce on the Regulatory Flexibility Agenda

Statement by Commissioner Peirce on the Regulatory Flexibility Agenda

Hester M. Peirce is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on her recent public statement. The views expressed in this post are those of Ms. Peirce and do not necessarily reflect those of the Securities and Exchange Commission or its staff.

Chair Gensler’s Regulatory Flexibility Agenda [1] for the Securities and Exchange Commission sets forth flawed goals and a flawed method for achieving them. The agenda, if enacted, risks setting off the regulatory version of a rip current—fast-moving currents flowing away from shore that can be fatal to swimmers. Just as certain wave and wind conditions can create dangerous rip currents, [2] the pace and character of the rulemakings on this agenda make for dangerous conditions in our capital markets.

I. The Agenda Devotes the Agency’s Limited Resources to Rulemaking Proposals Disconnected from our Core Mission

The Agenda continues to shun issues at the core of our mission in favor of shiny objects outside our jurisdiction. We used to focus on companies’ disclosure of economically material information; we now focus on disclosure of hot-button matters outside our remit. [3] We once sought to protect retail investors; we now rush to the aid of professional investors. [4] We once worked to help small and emerging companies raise the funds that are their lifeblood; we now work to increase their costs and shrink their investor base. [5] We once hoped to increase the ranks of public companies by making it less costly and more beneficial to be public; we now look for ways to force companies to go public [6] since we are making it costlier to go public and be public. [7]


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