The importance of ESG issues for companies and their executives is nothing new, but in recent days ESG issues seem to have taken center stage. The surprising success of activist investor Engine No. 1 in electing climate change-focused candidates to the board of ExxonMobil and the order by the Dutch court requiring Royal Dutch Shell to reduce carbon dioxide emissions by 50% of 2019 levels by 2030 are just two of the recent examples of the ways in which ESG issues increasingly have come to predominate corporate agendas. As discussed below, challenges related to ESG issues seem likely to continue. Among other things, these developments present new risks for potential D&O liability exposures as well.
The current surge in the prominence of ESG issues arguably was fueled by the social justice movement that arose in the U.S. following the May 2020 death of George Floyd. Diversity and inclusion issues became a major topic of social discussion. The questions and scrutiny that followed went all the way to the corporate board room, where questions about board diversity led, for example, to legislation (in the form of the enactment of California laws requiring companies based in that state to diversify their boards) to stock exchange listing requirements (in the form of Nasdaq’s proposed board diversity listing requirements) and even to litigation (in the form of board diversity shareholder litigation).
At the same time, the predominance of environmental and climate change issues has also increased in recent months. Current SEC commissioners have voiced their support for greater attention to climate change issues, and Gary Gensler, the SEC Chair, told Congress last month that he expect climate change related disclosure requirements by the end of 2021. Similarly, earlier this year, President Biden signed an executive order that among other things required federal agencies to assess climate change related financial risks and to recommend policies to mitigate those risks.
One challenge for companies attempting to assess ESG risks is that a host of topics are encompassed under the broad umbrella of ESG itself. For example, the issues presented by board diversity concerns are quite a bit different from the issues involved with climate change disclosure issues. Another concern with ESG issues is that these concerns are coming to the fore at a time when a host of other issues are pressing companies and crowding board agendas – among other things, complicated issues arising from the pandemic and the host of issues arising from cybersecurity are also requiring board time and attention.
However, the reality is that the complex issues encompassed within the ESG rubric are not going away anytime soon; indeed, it is likelier that these ESG issues will become increasingly important, for several reasons:
First, shareholders have made it clear that ESG issues are a priority. It is likely that activist investors like Engine No. 1 are going to continue to agitate for climate change-related issues. Even more mainstream institutional investors, such as, for example, Blackrock and Vanguard, are going to continue to press companies on ESG topics.
Second, regulators have made it clear that ESG issues – and, in particular, climate change-related concerns – are a priority for them as well. The period for public comment on climate change-related disclosures questions, posed earlier this year by then-acting SEC head Allison Herren Lee, will end in the next couple of weeks, and it seems likely that the agency will act thereafter on climate change disclosure requirements. The SEC’s role in ESG-related activities may not be limited just to regulatory action; the agency’s activities could encompass enforcement initiatives as well; the agency’s creation of an ESG task force indicates the agency may use its enforcement authority to support its ESG efforts as well. For a good summary of the risks associated with the SEC’s climate change-related disclosure focus, please see Priya Cherian Huskins May 12, 2021 post on the Woodruff Sawyer blog, here.
Third, companies may face ESG-related litigation as well. The ruling last week by the Dutch court requiring Royal Dutch Shell to reduce carbon dioxide emissions is just one example of the ways that litigation may target company ESG-related conduct. In addition, the board diversity litigation that proliferated last year is another example of the ways in which ESG issues may translate into corporate litigation.
In anticipation of these and other developments, many companies are taken steps themselves to address ESG-related concerns. To cite just one example, as the Wall Street Journal recently reported, many companies have made accomplishment of corporate diversity and inclusion goals a key criterion in executive compensation measures.
If for no other reason, the regulatory, enforcement, and litigation risks that ESG presents suggest that well-advised companies and their boards should take proactive steps to try to position companies to better address ESG-related questions and concerns.
First, ESG issues present board level concerns, and therefore ESG issues should be a part of board agendas, with the agenda specifics reflecting the specific circumstances of each company.
Second, the board should initiate efforts to assess their company’s current ESG posture. For example, the board may want to consider their company’s existing climate change related disclosure practices, and consider ways in which the company may want to alter existing practices to better position the company as ESG issues continue to develop.
Third, in recognition that one of the most challenges aspects of ESG-related concerns is that the landscape seems to be evolving so rapidly, boards will want to put mechanisms in place to monitor the ESG issues as they evolve, with an emphasis on assessing how the changes affect the company.
One final note has to do with the liabilities of the individual directors themselves. As I noted above, activist investors and others may seek to use litigation to advance their ESG agendas and may target corporate boards as part of that effort. The possibilities for increased future D&O litigation related to ESG issues seem likely. Well-advised boards may well want to consider these concerns as they assess their D&O insurance, including, for example, questions concerning the amount of insurance their companies buy, as well as the ways that their insurance programs are structured. On these as with respect to so many corporate liability issues, consultation with a knowledgeable and experienced insurance advisor is indispensable.