The Securities and Exchange Commission (SEC) has once again delayed issuing a proposal intended to standardize and increase data that public companies provide about their workforce or what many call human capital management (HCM) as part of broader environmental, social, and governance (ESG) reporting.
Now the SEC expects to issue an HCM disclosure proposal in the coming months, according to the most recent update to the rulemaking agenda which was published on July 8, 2024. But it is unclear if the SEC will issue a proposal, let alone whether the forthcoming proposal will include a prescriptive requirement for companies to disclose human capital accounting (HCA) disclosure, which was petitioned in June 2022 by a working group of former SEC officials, some of whom are academics today. Then-Commissioner Allison Herren Lee had suggested that the SEC consider HCA.
Presidential Elections
The uncertainty is largely due to politics.
The regulatory agenda moving forward will be determined by the presidential election. The President appoints chairs of regulatory agencies. In this instance, SEC Chair Gary Gensler sets the agenda, which reflects the priorities of the Biden administration. And Democrats, not Republicans, tend to favor ESG matters.
The near-term agenda includes projects that the SEC expects to advance over the next 12 months. Of the ESG projects, it appears that the commission under Gensler’s leadership had prioritized climate change disclosure and cybersecurity rules, both of which were adopted.
Gensler included HCM in his inaugural agenda shortly after becoming chair in April 2021, and there has been no concrete development since.
“At this point in time, most if not almost all new rules subsequently proposed this year cannot be finished before the election,” former SEC chief accountant Lynn Turner recently told Thomson Reuters. “As such, they will be subject to the CRA by the new Congress. Almost all would have to be finished by the leadership at the agencies in 2025. If Trump wins… then the rules will die a quick death.”
CRA— the Congressional Review Act—allows lawmakers to overturn certain federal agency actions with a simple majority.
Further, while Gensler’s second term expires in June 2026, he will most likely resign shortly after the November election if former President Trump wins, as has been the practice. Even if President Biden is reelected, it is unclear whether Gensler will be able to serve out his term. He may well be replaced in 2025, but Biden has a reputation of not firing top officials in his administration.
Recent Project History
The HCM project is not new. 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. And Gensler decided to put it on the agenda three years ago.
Human Capital Accounting: Most Likely a Non-Starter
In the meantime, the petition on HCA has little chance of being included even if the SEC goes through the motion of issuing a proposal. HCA asks for three rule changes:
- companies should disclose, in the Management’s Discussion & Analysis, what portion of workforce costs should be considered an investment in the firm’s future growth;
- workforce costs should be treated on equal footing as research and development (R&D) costs, meaning that workforce costs should be expensed for accounting purposes but disclosed, allowing investors to capitalize workforce costs in valuation models; and
- greater disaggregation of the income statement.
The SEC under Gensler had not been thinking about HCA until the petition was filed. The commission considers all petitions but is under no obligation to move ahead with any rulemaking activity.
Moreover, in public events, commission officials said the proposal would build upon what they have learned from the 2020 rule, external feedback and questions the agency had received. The focus is to drive more consistency in disclosures so investors can better analyze the information across companies.
Gensler in public events said that the proposal will likely include some metrics, such as workforce turnover, skills and development training, compensation, benefits, workforce demographics including diversity, and health and safety.
Turner believes HCA is a non-starter.
He pointed out that the petitioners are professors “with little to no experience valuing companies, little to no experience in HR at a company, little to no experience managing a business, and little to no experience managing the accounting and financial reporting function at a company.”
Many are law professors, including former SEC commissioners Robert Jackson at New York University and Joseph Grundfest at Stanford University, and John Coates, a Harvard law professor who served as general counsel of the SEC briefly during Gensler’s tenure.
Also, “there will a huge push back by the Chamber and business to have disclose what many will consider competitive and proprietary information with respect to how compensation stacks up against peers,” Turner said.
He pointed out that the letter makes a big deal about how half the companies that had losses in 2020.
“But get a dose of reality,” Turner said bluntly, pointing out the COVID-19 pandemic which shut down businesses around the world.
“Supply lines, and transportation including shipping and ports, trucking and railroads also suffered shut-downs and crippling shortages of employees,” Turner said. “I am amazed that only half of the companies had losses. I am utterly stunned these college professors were someplace apparently holed up in a cave and can’t figure out why the losses occurred.”
“I don’t expect this rule will get traction but do expect it to get opposition,” Turner added.
In addition, he said he would like to see hard evidence of how investors will include the information in their valuation models.
“I doubt they would use a majority of the information the model would require in their models,” said Turner, a strong investor advocate who is a member of the Alliance of Concerned Investors, which has told the SEC to improve financial reporting requirements that serve the needs of investors. He is also an external adviser to the Public Company Accounting Oversight Board.
A corporate attorney, who did not want to be identified, said that if the SEC issues an HCM proposal, HCA will most likely not be included as a proposed requirement given the brouhaha over the commission’s financial statement disclosures when the climate change rule was proposed two years ago. The climate rule is being legally challenged by business groups.
While there is a possibility that the SEC might ask questions about HCA, it is unlikely to do so. There may be a passing footnote to mention HCA to show that the SEC looked at the petition, however.
This article originally appeared in the July 12, 2024, edition of Accounting & Compliance Alert, available on Checkpoint.
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