Increasing focus on ESG related progress is both commendable and imperative. The scrutiny extends beyond renewables, alternative energy, industrials and carbon impact, to all facets of global business including banks and financial services and any number of value chain providers. Sustainable finance and green lending initiatives support ESG business growth opportunities. Continuing enhancements to  diversity, equity and inclusion (DEI) and governance considerations across a variety of sectors benefit all.  The evolving landscape presents opportunities and pitfalls for investors and financial institutions. U.S. and global regulators continue to issue aspirational pronouncements, develop best practices and increase enforcement focus. Over the past month, high profile announcements have come from the U.S. Securities Exchange Commission (SEC), the U.K. Financial Reporting Council (FRC), the Basel Committee and others. Staying abreast of these ESG developments and staying true to your institution’s stated strategies is critical to avoiding pitfalls including potential enforcement and civil litigation.      

In the midst of this changing risk and best practice landscape, five pragmatic tips may help guide you and your institution. These may seem overly simple, but don’t be fooled. In applying these tips, the devil as they say is entirely in the details.  Regulators and potential litigants will leverage details in asserting purported greenwashing or other fraud/misrepresentation challenges or UDAP claims. The beauty of these tips is that whatever your role in the paradigm – investor, executive, stakeholder, consumer, or regulator – the 5 tips can be tweaked to provide a series of lenses through which to investigate, self-assess, test and oversee governance.  The potential value is in applying each question to the products, services, prospectuses, or institutional public reporting and statements that may be at issue. Perfection is likely unattainable. However, institutions that hold themselves accountable and drive internal operations and compliance efforts through these simple queries should gain creditability with regulators and the marketplace. Those that do not may see increased risk and potential criticism from regulators and other stakeholders.

Say What You Do.

This is a broad and flexible mandate. Institutions are in control of the specific words that they use and characterizations of their ESG activities, products and services. Buzz words are not enough. Aspirational statements are just that aspirational. They should be clearly delineated as such. Operational statements should be tethered to facts and metrics the business maintains. Initiatives should be well described along with target goals. Consideration should be given to developing and maintaining trending reports over the short and longer terms (tied appropriately with the stated goals). Sustainability reports, annual statements and investor calls all are important platforms for communicating ESG priorities and developments. Institutions can create a clear depiction of their commitments to each aspect of ESG by outlining their priorities and strategies to improve. Institutions also can be transparent with information as to compliance and risk interface with the business, focusing on appropriate guardrails and best practices. Governance oversight activities and roles can be clearly stated.

Names and labels matter. Increasingly, labels are being challenged and may require change. For example, the U.S. SEC recently has focused on ESG Funds practices relating to assessment of  environmental, social and governance of companies within the funds. The SEC will differentiate “ESG–Focused Funds” and “Impact Funds” versus “Integration Funds.” In 2022 proposed rules to address greenwashing and other ESG issues, the Commission contends the former should be focused clearly on ESG rated investments while the latter may take them into account but not require them to be the overarching priority factor. (See SEC Proposed Rule 33-11068). Increasingly, regulators and participants in the value chain are requiring specific disclosures about ESG related goals and progress. Moreover, branding and market positioning implicates environmental, sustainability, natural, climate/GHG emissions, DEI and social justice attributes or benefits, among others. Such claims can be primary to the products and services being offered or can be part of the brand identity or market position of an institution. In today’s competitive environment, it may be easy to become swept up and overstate aspirational goals or overpromise ESG operations results. Be thoughtful and judicious in that regard. Whatever the external pronouncements, institutions should ensure effective internal communication and coordination, empowering the entire institution team to help achieve the priority goals.

Do What You Say.

Whatever the stated ESG goals and objectives, demonstrate operational commitment and progress. If divisional operations restructuring or new product/service approaches have been announced, ensure those changes are implemented in a timely manner. If institutional services require ESG related due diligence, ensure that business or compliance units have adequate resources and training to do so. Whatever the stated periodic governance risk review process, make sure it is completed thoughtfully and timely. Regulators, investors, consumers and others will remind institutions of the words utilized in public statements and reports or in branding and marketing materials. The media may do so as well. Avoid your institution’s statements being challenged by providing transparency into the implemented processes and outcomes whenever appropriate. To the extent that expert or scientific data impacts the issue, institutions should understand findings, data and any related limitations. In many ESG areas, especially in the areas of sustainability, natural/non-GMO, GHG emissions and recycling, there are competing and emerging expert views. Complexities can include testing scope and processes as well as the certainty of results or conclusions. There may simply not be a single bright line answer.

In connection with any legal or regulatory challenge, there may be defenses or protections institutions can leverage, such as lack of materiality, lack of reliance, and puffery. Similarly, at least for public benefits corporations organized under Delaware law, certain provisions limit potential liability for directors. (See Delaware General Corporation Law (DGCL) section 365, et seq.). These protections, however, may not mitigate reputational and media risks and may not fully insulate the institution or directors from the risk and expense of enforcement and civil litigation.  Moreover, employees are stakeholders who may help defend an institution’s policies and practices. Or they may become critical whistleblowers if they contend there are disconnects between the institution’s aspirational goals and actual operations and performance.  Key players in an institution’s supply or value chain also may be voices heard in assessing ESG operations performance.

Measure & Manage The Data.

Two common adages apply to this tip: (a) you can’t manage what you don’t measure and (b) the proof is in the pudding. Think of regulators and other challengers checking the “recipe ingredients” and tasting the proverbial “pudding.” Moreover, certain ratings groups may be examining and reporting on publicly available able to rank or rate the institutions’ ESG “compliance” and progress. Here, we should not focus solely on scientific data relating to products and services. Operational, financial, compliance, risk and governance data all can be helpful. Trends will help demonstrate initial performance and trajectory on stated aspirational goals. Internal metrics can assist business units in meeting objectives and measuring progress. Strong proactive measuring and reporting capabilities will provide tools for assessing and celebrating change/growth. These tips also enable more robust governance reviews and oversight.

In the event of challenged or slower than expected growth/change, robust metrics can help demonstrate incremental progress and even potentially identify unanticipated expected gaps or obstacles. In the regulatory enforcement or litigation environment, data can be used to support progress toward the stated objectives. However, data also can be a double-edged sword and highlight lack of progress, delay or drift.  Better for institutions to be aware of and leverage their own available data on a periodic real time basis, rather than to ignore it until a regulator request. Data can help build institution credibility and tell the ESG story. Corporate and operations process should be included in the mix here. For example, if corporate M&A practice requires ESG assessment of target company carbon emissions representations, having an established deal assessment templates and deal records about the frequency and outcome of that review will be beneficial.  If value chain compliance is required to do an annual audit to examine the percentage of vendor diversity ownership, completing that review and maintaining the records (and developing trends analysis of increases in diverse ownership or concentration of work with diverse vendors) may help demonstrate state DEI commitments.   

Continuously Assess Emerging Risks.

ESG incorporates a disparate range of topics and goals. Worldwide governmental bodies and NGO’s continue to morph standards and best practices. Trends and other developments also impact risk. The Basel Committee released earlier this month additional principles for effective management and supervision of climate-related financial risks. In the U.S., the Task Force on Climate-Related Disclosure (TCFD) continues to provide best practice workshop materials focusing on governance, strategy and risk management. Both the OCC and the SEC have continued to prioritize focus on ESG related enforcement including greenwashing risk and other climate related disclosures. In the UK, the FRC issued additional guidance to the Strategic Report this month addressing climate and carbon reporting requirements. When UN COP27 convenes in Sharm el-Sheikh in November 2022 additional ideas and recommendations will proliferate. And, as we have seen in prior sessions, private and public company focus and media attention will drive new approaches and targets. Areas of continuing scrutiny may include claims regarding fair trade, anti-slavery, environmental justice, emerging contaminants and sustainability.

Keeping up with these developments is critical to a company’s competitive edge and to continuing to mitigate ESG risk. New trends become best practices. For example, will there come a tipping point at which retail product companies will be disadvantaged if they are not formed and governed as public benefits companies (B Corps)? Will ESG-focused consumers refuse to buy from or associate with non-B Corps? Only time will tell. However, in a relatively short span of years, Certified B Corps have increased in number to more than 5,000 in 83 countries around the globe, including publicly traded B Corps and publicly traded multi-national corporations with B Corp subsidiaries. (See https://www.bcorporation.net/en-us/ and “B Corp Impact Data”).  In a number of ESG focused areas, competing definitions and views continue to percolate. Over time, governmental and consumer focus can evolve best practices and requirements, including mainstream industry positions. Being attuned to such evolution in regulatory and public opinion can be critical in mitigating ESG risk. 

Course Correct When Appropriate.

The best laid plans…Aspirational ESG goals may be more daunting to attain than expected. Public statements and guidance should be updated, and if necessary, revised to make them accurate. Better for institutions to explain the change in their own time and with their own voice, than be accused later of misleading regulators/ the public, or worse. For example regulators may issue new requirements for ESG disclosures, including updated disclosure forms. ESG and industry defined terms may be revised. In the SEC’s recent proposed rulemaking, the SEC is considering the impact and benefits of the EU taxonomy for sustainable finance. Truth-in-Advertising considerations also are at play. In addition, the SEC is considering defining UDAP and UDAAP practice criteria, such as query 63 in SEC Proposed Rule 33-11068 (seeking comment on whether certain fund labels will be defined as per se materially misleading under certain conditions). Risk teams should continue to scan for these new risks.

Other complexities will continue to unfold. For example, how should a public company address ESG disclosure if it also has a B Corp subsidiary with specific regulated disclosures?  Does the larger entity need to adopt the same format? What about scope of content and commitment, which may be substantially different? Here, the parallel primary touchstones may be transparency (where practicable) and trust (preserving reputation).  But the challenge is the variety of perspectives that permeate the markets, including investors and consumers. There may be legitimate nuance or difference of opinion as to certain labels and contentions. What is sustainable? What is natural? What is recyclable? Each of these has been or currently is being litigated in putative US consumer class actions. The outcome in one court for one jurisdiction may not be dispositive of the issue in another jurisdiction.  In assessing a company’s ESG risk, keeping an eye on new claims, new rules and emerging sentiments will inform the risk. Social media also can provide a litmus test for whether ESG efforts are resonating or yielding friction with investors and consumers. Customer surveys and outreach efforts can identify areas of emerging risk.  Proactive efforts and empowered teams are required to keep abreast of the changing ESG landscape as well as emerging enforcement and litigation risks.    

Wrap Up.

These 5 tips may help synthesize themes for your ESG compliance and risk assessment efforts. For private equity venture capital investors/owners, inquiring about these 5 tips can help guide diligence, governance and board action. Lenders also can utilize these tips to scope their review and diligence in lending and investment transactions. Thoughtful discourse and assessment is the key including drilling into the operations performance and governance/compliance controls. Identifying key publicly stated priorities and objectives and ensuring that actual operations and process aligns with them is critical to mitigating ESG risk and achieving ESG progress.

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