New SEC Chair Gary Gensler said he wants the agency to write more prescriptive rules on corporate disclosures of climate change risks and workforce in response to increasing demands by investor advocates for comparable, consistent, and reliable information on the topics as well as other environmental, social, and governance (ESG) matters.
“I look forward to staff recommendations on proposing rules regarding issuer disclosure of climate-related risks as well as related to human capital,” Gensler, who took the helm of the agency on April 19, said at the 8th Annual Conference on Financial Market Regulation held virtually on May 13, 2021. “This is one of my top priorities and will be an early focus during my tenure at the SEC. I believe investor demand should guide our thinking in this work.”
The move comes as some investors said for several years that the SEC’s 2010 disclosure guidance on climate change has not resulted in useful and comparable information.
The commission’s current climate guidance asks companies to disclose material information related to climate change, including lawsuits, business problems, regulatory supervisions, or international treaties. But many investor groups have complained that the information tended to be boilerplate and inconsistent. Moreover, the existential threat of climate change has become much clearer in the past few years.
As for human capital management (HCM) disclosures, the SEC already crafted the rules in August 2020 when Jay Clayton headed up the agency during the Trump administration. But in a split vote, the commission decided to leave the disclosure rule principles-based and rooted in the concept of materiality. This means companies should disclose information that a reasonable person would find important in the total mix of information to make a voting or investing decision.
Investors, however, said the principles-based disclosure rules go only so far as it leaves it up to the companies to decide what is material. And more investors today say ESG data is material to their investing decision, and some research shows that companies with good ESG data perform better.
Not a Surprise
“It is not surprising that Mr. Gensler has ESG issues at the top of his list of priorities and would seek to push forward on multiple fronts early in his tenure,” said Will Dorton, Of Counsel with Dickinson Wright PLLC. “I think the fact that he is signaling that the commission will revisit the human capital disclosures so quickly is a reminder that elections have consequences. It has been clear for a while now that ESG issues would be a priority for the commission and the election seems to have only reaffirmed and strengthened that momentum.”
The effort to write more prescriptive ESG disclosure rules comes as Democrats, who are willing to address investor concerns, have majority vote on the commission. Moreover, President Biden prioritized policies to combat the effects of climate change.
Republicans, on the other hand, say the principles-based rules rooted in the concept of materiality have worked well as each company has its own unique set of facts and circumstances. Moreover, they pointed out that there is no agreement on what E or S really stands for. Republicans have also been more responsive to corporate asks, and Clayton’s SEC largely cut back rules to the delight of business groups who have argued that burdensome regulations in part led to sluggish initial public offerings (IPOs).
On ESG, business associations said the information is not necessarily material and does not affect financial performance but preparing the disclosure is burdensome. Further, they argued that some activist investors would use the information just to shame companies.
Advice for Companies
Nevertheless, some companies might still appreciate more concrete rules on HCM. Some even asked whether the SEC will provide interpretive disclosure guidance.
“The new disclosures elicited by the 2020 guidance have varied across companies and have mostly been qualitative with very little in the way of metrics,” said Dorton, who was an SEC staff member previously. “In light of Mr. Gensler’s comments, I think companies should start thinking now about how they collect and manage data on things like workforce diversity, employee turnover and related matters so they can be prepared to meet the enhanced disclosure requirements that are likely coming.”
More Updates to Disclosure Rules in the Future
In the meantime, Gensler said that efforts to update disclosure rules as time changes is nothing new. The era when the securities laws were enacted in 1933 and 1934 is vastly different. There was no internet or artificial intelligence at the time, for example. Also, climate change was not a concern then.
“I anticipate that climate related and human capital disclosures will be the initial steps of our broader efforts to update our disclosure regime for modern markets,” said Gensler who as chairman sets the rulemaking agenda. “As…prior SECs have done in the past, disclosure underpins much of what we do in promoting our three-part mission,” which is to protect investors; maintain fair, orderly, and efficient markets; and facilitate capital formation.
“Investors get to decide what risks they wish to take, but with issuers on the other side are required to provide appropriate disclosures,” he said. “Experience has shown that disclosure requirements can strengthen economic activity over the generations. This disclosure regime helps capital formation, and it helps investors. In essence, it helps lower the cost of capital. It promotes economic activity and that’s true today as it was decades ago. Each generation gets to grapple with this as technology shifts of course, and we update our” rules.
This article originally appeared in the May 17, 2021 edition of Accounting & Compliance Alert, available on Checkpoint.
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