US Regulatory Update: Making up for Lost Time

The Biden administration has made a quick start on ESG disclosures and other regulatory measures, with more change in the pipeline.

Since President Joe Biden came into office, US federal agencies have rapidly been enacting positive ESG-related regulatory changes. Biden has continued to push forward his pledge for a “whole-of-government approach” when addressing ESG-related issues, with a particular focus on, said Gregory Hershman, Head of US Policy for the UN-convened Principles for Responsible Investment (PRI).

“While still in the opening stages – and with much more work to be done – the administration’s actions so far are sending strong signals to US markets and the world that climate and ESG can no longer be considered niche policy issues or used as marketing gimmicks,” Hershman said.

At the fore is the prospect of a mandatory US climate-related disclosure framework being designed and implemented by the US Securities and Exchange Commission (SEC).

Nonetheless, while clear US commitment to mitigating climate change needs to continue in order to support global momentum heading into COP26 and beyond, social and broader environmental issues cannot be forgotten, Hershman added.

Climate reporting

The SEC’s public consultation on plans to regulate, review and guide climate-related disclosures from publicly-listed US companies came to a close on 14 June.

The PRI submitted a response to the SEC’s original call for comment, including recommending that the SEC requires disclosure from all issuers to protect investors from the risks posed by climate change and other ESG factors and amend regulations S-X and S-K, which are the primary rules governing financial disclosures, so they include ESG-related information. Furthermore, PRI noted that financial reporting should align with the Task Force on Climate-related Financial Disclosure (TCFD) framework. The SEC should also adopt a broad ESG disclosure framework for social factors, such as the mandatory disclosure of investment-relevant human rights risks within Regulation S-K.

Responding to the consultation, Senator Elizabeth Warren and Congressman Sean Casten highlighted the passing by Congress of the Corporate Governance Improvement and Investor Protection Act and the bill for a Climate Risk Disclosure Act, which require public companies to disclose their exposure to climate-related risks. Warren and Casten called on the SEC to issue its own rules on climate-related disclosures within two years of the expected passing of the Climate Risk Disclosure Act to ensure maximum rule alignment.

The framework has prompted discord, with Republican Commissioners Hester Peirce and Elad Roisman resistant to it. In June, Commissioner Roisman outlined his concerns in a speech, questioning whether the SEC is the right agency to oversee a climate-related disclosure framework instead of the Environmental Protection Agency (EPA).

SEC Chair Gary Gensler published the SEC’s annual regulatory agenda on 11 June, which included a line item for a climate change disclosure framework proposal in October, indicating that the framework is high up on the SEC’s priority list, with or without support from all Commissioners.

Once the proposal is published, it will again be subject to public consultation before finalisation. It’s likely the US won’t have a standardised framework for climate-related financial disclosures in place until mid-2022.

Trump rule reversals

Biden issued an executive order in May effectively ordering the reversal of decisions made under the Trump administration on ESG investing.

The Office of Management and Budget (OMB) is reviewing a proposed rule from the Department of Labor (DoL) regarding the integration of ESG factors in selecting plan investments and fiduciary duties around proxy voting and shareholder rights.

The first seeks to rescind agency Trump-approved rules that limited the extent to which fund managers are allowed to consider climate and other ESG factors within 401-Ks and retirement plans covered by the Employee Retirement Income Security Act (ERISA). ERISA manages over US$15 trillion in AUM.

The PRI will continue to encourage the DoL to write rules that “make clear that integration and consideration of ESG factors is not only permissible under ERISA, but, in many cases, required as part of fiduciary duties”, said Hershman.

Further, the OMB is reviewing the reversal of the SEC’s proxy solicitation rules originally adopted in July 2020. The changes required proxy advisory firms, such as the Institutional Shareholder Services (ISS), to provide companies with the information underpinning their subsequent voting recommendations to shareholders before annual general meeting votes were to take place.

This change meant that proxy advisors were faced with a conflict of interest, as they would have to go to the company board first, thus limiting shareholders’ ability to hold companies to account on ESG-related issues.

Commissioners Peirce and Roisman questioned the decision to try and reverse this ruling. They noted that, with the official compliance deadline for the changed rules not until 1 December, 2021, it is “challenging, if not impossible, for us to know how these requirements will work in practice”.

Renewed proposals relating to ESG investments in retirement accounts and proxy advisory rules are expected in September.

Diversity on boards

The SEC has also approved Nasdaq’s December 2020 proposal to enhance issuer disclosures on board diversity. This means that the exchange group can now include race and gender disclosures in its listing rules, asking listed companies to meet minimum targets for diversity of their boards.

“While not perfect, this is a meaningful first step forward in long-overdue changes in the US financial industry and society broadly to consider the human, societal and economic costs of limiting opportunities for people of diverse backgrounds,” said PRI’s Hershman.

The new rules ask listed companies to have at least one female director on the board as well as a board member who self-identifies as a member of a racial minority of the LGBTQ+ community.

Companies can elect to fulfil these objectives or disclose why they have not done so.

“The PRI encouraged Nasdaq to continue efforts improving diversity disclosure of listed companies beyond rulemaking. For example, ‘comply or explain’ rules can be improved going forward by assessing company explanations and highlighting good practice examples, or even by setting specific requirements outlining what Nasdaq sees as a sufficient explanation for non-compliance,” added Hershman.

In the coming months, the SEC will be considering human capital disclosure, which could include a variety of metrics, such as diversity, compensation and workforce turnover.

The PRI also has a further interest in the development of future investment fund rules that will “limit greenwashing in this area of financial markets”, said Hershman.

The practical information hub for asset owners looking to invest successfully and sustainably for the long term. As best practice evolves, we will share the news, insights and data to guide asset owners on their individual journey to ESG integration.

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