On July 7, the Securities and Exchange Commission (SEC) Asset Management Advisory Committee (the Committee) adopted recommendations developed by the Environmental, Social and Governance (ESG) Subcommittee regarding ESG disclosure by registered issuers (the recommendations). The recommendations aim to improve the available information and disclosure used by issuers, including business development companies (BDCs), closed-end funds (CEFs) and mutual funds, to describe ESG investing.

The recommendations call on the SEC to issue guidelines that will facilitate meaningful, consistent and comparable ESG communication from issuers. Notably, the recommendations do not contemplate changes to the regulatory framework that would specifically require ESG disclosure or measures, but rather provide advice and best practices on how issuers should incorporate ESG disclosure in a way that will enable ESG disclosure. investors to make more informed investment decisions.

context

The recommendations follow a number of previous SEC initiatives that approach ESG from a variety of angles.

For example, on March 3, the SEC Division of Examinations identified ESG issues as a 2021 review priority for investment advisers. Additionally, on March 4, the SEC announced the establishment of a Climate and ESG Working Group under the auspices of the SEC’s Division of Enforcement which, among other things, “will analyze matters of disclosure and compliance with ESG strategies of investment advisers and funds. . “¹ On April 9, the Reviews Division issued an ESG Risk Alert, outlining the areas it intends to focus on when reviewing ESG products and services from investment advisers and funds.²

SEC Chairman Gary Gensler has publicly announced his intention to focus on ESG issues. On May 6, during a House Financial Services Committee hearing, Chairman Gensler said the SEC was seeking to propose rules on ESG reporting by state-owned companies after collecting comments from investors and investors over the summer. others. On June 23, during London City Week, President Gensler reiterated his focus on ESG topics and underlined the importance of disclosure, stating that “investors increasingly want to understand the climate risks of issuers” and “Investors literally representing tens of billions of dollars in assets. under management seek consistent, comparable and decision-making information to determine whether to invest, sell or vote by proxy in one way or another.³ The SEC received hundreds of comment letters as part of a public comment period on potential ESG and climate change regulations that ended on June 13.

Recommendations of the ESG sub-committee

The ESG sub-committee made the following recommendations at the July 7 meeting:

The SEC should:

• take steps to promote meaningful, consistent and comparable disclosure of material ESG matters by issuers;
• in addition to the above, encourage issuers to adopt a material ESG disclosure framework and to provide an explanation if no disclosure framework is adopted;
• initiate a study of third party ESG disclosure frameworks for disclosure of material ESG issues to assess whether the executives could play a more authoritative role in the future;
• suggest best practices for improving disclosure of ESG investment products and provide a clear description of each product’s investment strategy and priorities, including a description of non-financial objectives such as environmental impact or compliance with religious requirements. In doing so, the SEC should consider adopting terminology that aligns with the taxonomy developed by the ESG Working Group of the Investment Company Institute;⁴ and
• suggest best practices for investment products to describe each product’s intended approach to shareholding activities in the Supplementary Disclosure Statement, and any significant recent ownership activity other than proxy voting activity reported in the N-PX form.

In discussing the rationale for the recommendations, the committee stressed the urgent need for the SEC to implement a process to improve the quality, consistency and comparability of ESG information. This would allow investors to access relevant information and improve the likelihood of consistent and comparable disclosure among issuers investing in similar companies or industries.

The Committee recommended that the SEC specifically examine the value investors now place on ESG topics. The Committee discussed the importance of ESG from three different perspectives: (1) the impact of ESG on investment performance; (2) market interest; and (3) the volume of business and global regulatory standards. From these perspectives, the Committee observed that “market players, regulators and standard setters consider that important ESG issues play a role in capital formation, capital allocation and risk / return expectations”.

However, the committee noted that it may be premature for the SEC to generally implement the specific mandatory disclosure of material ESG matters through a rule-making process. Instead, once consistent and comparable ESG metrics are able to gain widespread market adoption and acceptance, the SEC may revisit the matter and consider providing more specific and codified guidance.

The committee concluded by recommending a suggested general good practice that ESG investment products specifically describe their objectives, how they prioritize these objectives and the risk / reward profile of their objectives, which will allow investors to make a decision. sufficiently informed investment.

Reactions of the SEC commissioner

President Gensler delivered remarks at the July 7 meeting and strongly supported the recommendations.⁵ He identified a specific concern that funds focused on ESG investing use a “wide range” of terms and criteria to describe investment strategies related to sustainability, and noted that he believed that “investors should be able to explore to see what is hiding in these funds. In this regard, he asked the staff to take a comprehensive look at the naming conventions for investment products, especially with regard to Rule 35d-1 of the Investment Companies Act 1940, applicable to BDCs. , CEFs and mutual funds, which provides guidelines and criteria. surrounding fund names that are “substantially misleading and deceptive”.

SEC Commissioner Caroline Crenshaw also backed the recommendations in her remarks, noting that “investors are more than ever using ESG-related metrics to make investment decisions and allocate capital,” and that is the role of the SEC to “ensure that ESG information is consistent, comparable, of high quality and useful for decision-making.⁶

SEC Commissioner Hester Pierce reiterated her ongoing concerns about the implementation of any kind of objective standard regarding ESG reporting, noting that “financial reporting lends itself to concrete, objective and comparable measures. Establishing ESG standards, on the other hand, as the draft recommendation recognizes, is a much more fluid endeavor that covers a wide range of issues, many of which are not objectively quantifiable and comparable between issuers.⁷

SEC Commissioner Allison Lee raised a separate concern that the recommendations do not go far enough and that a “best practice” or “guidance” approach is unlikely to achieve the goal. The committee’s objective is to provide investors with “consistent, comparable and reliable information” with regard to ESG disclosure.⁸

Conclusion

The Advisory Committee unanimously adopted the recommendations. The recommendations, along with other recent statements from Chairman Gensler and SEC staff, indicate that the SEC intends to continue to focus on ESG issues and related disclosure topics and may issue additional guidance in the future. ESG disclosure matters in the near future. BDCs, CEEs, mutual funds and other issuers may consider preparing for these new guidelines by developing and / or updating disclosure controls and procedures or other compliance policies to specifically address subjects related to ESG.