On March 11, 2021, John Coates, Acting Director of the Division of Corporation Finance of the SEC, issued a statement on ESG Disclosures in connection with remarks made at the 33rd Annual Tulane Corporate Law Institute. Mr. Coates stated his belief that the SEC's policies on ESG disclosures should continue to adapt existing rules and standards to the realities of climate change and the fact that investors increasingly are asking for ESG information to help them make informed investment and voting decisions. As the debate over ESG disclosures continues1, Mr. Coates stated that an effective ESG disclosure system should reflect consensus among investors and companies about useful, reliable and comparable disclosures under standards that are sufficiently flexible so as to remain relevant. He outlined the following questions that should be addressed in the process to create such standards:
- What disclosures are most useful?
- What is the right balance between principles and metrics?
- How much standardization can be achieved across industries?
- How and when should standards evolve?
- What is the best way to verify or provide assurance2 about disclosures?
- Where and how should disclosures be globally comparable?
- Where and how can disclosures be aligned with information companies already use to make decisions?
His comments covered three topics: (i) the costs of the absence of a consensus ESG disclosure system; (ii) whether ESG disclosures should be voluntary or mandatory; and (iii) the benefits of a global ESG reporting framework.
On the topic of costs, Mr. Coates observed that critics of ESG disclosure requirements often point to the costs associated with preparing ESG disclosures, but countered that equally important is the recognition of the costs associated with not having ESG disclosure requirements. In that regard, he noted that, while there is an abundance of ESG data available to investors, there is a lack of consistent, comparable and reliable ESG information available for investors to make informed investment and voting decisions. This dynamic ultimately may cost companies because investments are held back in the absence of such information. Companies also incur higher costs because they face numerous and conflicting requests for information about the same ESG topics. Further, these higher costs may be more burdensome for smaller companies, where the failure to provide ESG disclosures may result in higher costs of capital.
With regard to whether ESG disclosures should be voluntary or mandatory, Mr. Coates noted that ESG disclosure requirements may include mandatory disclosures where disclosure only is required where the item is material. In addition, he noted that companies already should be evaluating whether their disclosures in their sustainability reports are material.
Finally, he stated that the arguments in favor of a single global ESG reporting framework are persuasive. Although the process would be complex, he stated that ESG issues are global issues and that it would not be helpful for multiple standards to apply to companies that operate or raise capital in multiple markets, and commented that the work of the IFRS Foundation to establish a sustainability standards board is promising.
The pace of statements by the SEC and its staff members continues to accelerate, with the content representing a departure from recent actions by the SEC. In the SEC's release adopting amendments to Items 101, 103 and 105 of Regulation S-K3, the SEC declined to adopt prescriptive disclosure requirements with regard to climate change risk, human capital and diversity.4 Given the recent statements and the new Administration, we can expect further actions by the SEC on ESG disclosures. Although any rulemaking would involve an extended period of time, the SEC is poised to be more aggressive in reviewing company disclosures and issuing updated disclosure guidance.
[1] On February 24, 2021, Acting Chair of the SEC, Allison Herren Lee, directed the Division of Corporation Finance to enhance its focus on climate-related disclosure in public company filings, review the extent to which public companies address the disclosure topics identified in the SEC's 2010 Guidance Regarding Disclosure Related to Climate Change, and update the 2010 guidance. On March 4, 2021, the SEC announced the creation of a Climate and ESG Task Force in the Division of Enforcement whose initial focus will be to identify any misstatements in companies' disclosures of climate risks. Also on March 4, 2021, Commissioners Hester M. Peirce and Elad L. Roisman issued a public statement expressing skepticism with the "steady flow of SEC 'climate' statements and press releases" and stating their assumption that the new initiative is a continuation of the SEC staff's work in this area and not a program to assess companies' disclosures against any new standards or expectations.
[2] The American Institute of CPAs and Center for Audit Quality issued a report in February 2021 providing a roadmap for independent accounting firms performing an attestation report on ESG disclosures.
[3] For further discussion on these amendments, please see our prior client alert "SEC Adopts 'Principles-Based' Amendments to Description of Business, Legal Proceedings and Risk Factors Disclosure Requirements" (September 9, 2020), available at https://www.venable.com/insights/publications/2020/09/sec-adopts-principles-based-amendments-to-des.
[4] See dissenting statements of Commissioners Caroline Crenshaw and Allison Herren Lee.