By Lyndon Park
Over the past several years, environmental, social, and governance (ESG) measures and disclosure have become increasingly important for both companies and investors. Now, between capital markets regulations on ESG, new disclosure mandates, and the Biden administration’s priorities, we are seeing landmark shifts in how ESG will impact capital flows and reallocation. Below, we explore some of these recent changes.
In March 2021, the U.S. Securities and Exchange Commission (SEC) announced the creation of a 22-member Climate and ESG Task Force in the Division of Enforcement. While the specific actions of the taskforce are still somewhat unclear and it will likely take some time for the group to develop and finalize new disclosure requirements, issuers should anticipate upcoming changes. In the short term, issuers should focus on making sure their climate and ESG disclosures are accurate and do not contain material omissions. Some filings may even be subjected to random data scrubs to ensure that information is accurate.
Eventually, however, companies can expect that the taskforce will release more specific disclosure requirements, likely beginning with climate change.
Along with the formation of the SEC taskforce, there may also come a movement to adopt a standardized set of ESG metrics. Up until this point, the ESG disclosure framework has been primarily driven through investor-focused private ordering. Investors lean heavily on a few frameworks in particular, including the Task Force on Climate-related Financial Disclosures (TCFD) and the Sustainability Accounting Standards Board (SASB). Both frameworks focus heavily on financially material ESG risk factors; however, the TCFD framework focuses on climate change, while SASB’s standards center on sector-relevant ESG factors.
However, because the frameworks are not mandated by regulators, adoption thus far has been mixed and inconsistent, which makes it difficult for investors to compare ESG risks and opportunities consistently across securities. Universally adopted standards — especially if the SEC leverages the principles and standards within the existing frameworks — could help investors make more informed decisions.
Board evolution is a particular priority for investors, who want to see increased diversity. However, some investors now want companies to break out gender diversity vs. ethnic diversity, rather than lumping the two together.
In addition, companies must also think about board members in terms of skillsets, perspectives, and areas of expertise — and how those needs will evolve over time. Who might you need on your board in three to five years? And how can you begin planning for that today? Taking these questions into consideration now can help you prepare to meet evolving ESG requirements into the future.
As investors prioritize ESG, public companies should consider how to evolve their governance structures. Fortunately, investors generally recognize that ESG is a long-term journey. For example, if a company has a dual-class share structure (which gives some shareholders’ votes more weight than others and could result in problematic governance practices), investors may ask the company to implement a sunset provision and eventually move to a one-share, one-vote structure.
Other investors work with companies to provide ESG roadmaps, which help companies visualize short-, medium-, and long-term areas of improvement. With this roadmap, they can track their progress against that of their peers and stay up to speed on certain ESG disclosure topics relative to the market.
Ultimately, however, while ESG is typically discussed in terms of disclosure and metrics, the companies that are most successful in implementing ESG measures are those that fully integrate and live out the changes. Companies truly committed to ESG will consider how to be environmentally friendly and socially conscious with every decision and innovation — always finding ways to improve across the broader ESG context.
As ESG disclosure and regulations continue to evolve, companies and investors alike must understand the changes and how to implement them successfully. For more commentary from ESG-focused lawyers and investors, watch the replay of our recent webinar, “ESG 2021 & Beyond: Mandatory Framework for Disclosure and Compliance.” Or, take an in-depth look into ESG areas of focus for 2021 in our guide, “ESG 2021: A Call to Action on Diversity & Inclusion, Climate Change and ESG Impact on Proxy.”
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