Risk Alert: The US SEC is Getting Involved with ESG Investing

ESG (Environment, Social, and Governance) Investing is Gaining Attention from Regulators. What does it mean for your business?

The US Securities and Exchange Commission (SEC), a federal agency responsible for enforcing the law against market manipulation, is exploring its role in the burgeoning ESG movement. The public debate rages around government involvement and regulation concerning corporate ESG performance disclosures. But one thing is clear: transparency on corporate greenhouse gas emissions and strategies for reductions will prove key to gaining access to capital.

Have you heard of the Environment, Social, and Governance (ESG) movement? If not, you will! (Get up to speed with this 3-minute post first).

An ESGellent Opportunity

(Sorry, I couldn’t resist!)

In response to concern around the business community’s role in the worsening climate crisis, investors are calling on corporate transparency on ESG performance.

The popularity of ESG-oriented funds is exploding. According to a 2020 report from US SIF, ESG investing now accounts for one-third of total U.S. assets under management, or $17.1 trillion, up 42% from 2018.

How ESG Investing Works

Think of ESG as a vetting tool, evaluating criteria to grant eligible companies a valuable prize – access to capital. Companies that fail to meet ESG thresholds, or fail to report their current performance altogether, risk losing out on the prize.

ESG reporting promotes corporate transparency on a wide range of topics related to business operations. One focus relates to corporate emissions resulting from energy consumption. Investors currently rely on voluntary ESG performance disclosures from independent surveys. Fund managers rely on responses to rate companies on a scale of ESG performance.

Companies investors determine to perform exceptionally well (or at least not poorly) are eligible to join ESG investment funds. You may have heard of the movement referred to by other monikers including “socially responsible”, “sustainable”, or “impact” investing.

Currently, many organizations provide some form of self-published ESG disclosures. But critics of the ESG ratings claim formulas are vague, inconsistent, and ambiguous. Voluntary ESG reporting, while often well-intentioned, has led to a lack of uniformity and consistency, preventing investors from making comparative assessments and accurate assurance. The investor community, businesses, and now the U.S. Securities and Exchange Commission (SEC) see much room for improvement.

Wait a SEC!

The SEC thinks they could address this challenge by serving as ESG arbiters. In March 2021, then-acting Chair Allison Herren Lee announced that the SEC will be “working toward a comprehensive ESG disclosure framework”. The recently confirmed SEC Chair, Gary Gensler, announced ESG disclosure regulation will be a central focus of his tenure.

Much public debate exists on the level of involvement a powerful government regulatory body should exude on ESG matters. Proponents of SEC intervention argue regulators of financial markets should require corporate transparency around emissions, akin to financial performance, claiming the climate crisis is an all-hands-on-deck affair. Opponents claim SEC meddling in ESG would prove a regulatory overstep, arguing that ESG reporting stipulations are best left to investors and the free market actors to iron out the details.

Where’s My Uniform?

Some argue that the SEC’s interest represents a market failure in ESG disclosure standardization. As a result, companies today decry the alphabet soup of ESG reporting standards and frameworks, the absence of a single unified set of standards, and a range of poorly understood ESG ratings and scores.

Businesses, understandably, are plagued with more questions for investors than answers. Many small- and medium-cap businesses lack the internal resources to track the latest ESG reporting requirements.

Private Affairs

Many close to the movement speculate ESG disclosure may not only apply to publicly traded companies. The SEC will likely consider whether private companies should also be required to provide ESG disclosures.

While the SEC considers its role in the ESG ecosystem and the investor community works towards ESG reporting standardization, proactive environmental transparency can offer a competitive advantage. Whether more robust, unified ESG reporting standards derive from the investor community or are handed down directly by the SEC, the writing on the wall is clear – demand for ESG transparency, particularly GHG emissions, is not going away.

Business leaders are wise to proactively inventory energy consumption and corporate greenhouse gas emissions in preparation for future reporting standards. Even companies resisting disclosure can expect to receive requests for emissions transparency from business partners and supply chains seeking to access ESG-oriented funding. Those who can’t or don’t risk getting left behind.

Solutions in Sustainability advises businesses on tackling the “E” in ESG by helping leaders at small- to mid-cap businesses inventory their corporate energy-related carbon emissions, set reduction targets, identify projects to help reach their goals, and track progress over time.

Contact us today learn which Solutions in Sustainability may be right for you.

About the Author: Alex Kaufman is a science communicator, clean energy specialist, sustainability nerd, professional engineer, travel enthusiast, and resident of San Diego, California. When not helping clients, you can usually find him cycling, hiking, reading, spending time with loved ones, or planning the next big adventure. He is open to speaking engagements. Contact him at alex@alexkaufmanpe.com.

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