It arguably is not news that the SEC is monitoring disclosure and related issues concerning ESG. After all, the agency’s enforcement division formed an ESG Task Force in March 2021. And as discussed here, the Task Force recently launched its first ESG disclosure-related enforcement action. Now, in the Task Force’s latest move, the agency charged an investment advisor with securities law violations related to the advisor’s claims that its fund investments had undergone ESG quality review, even though that was not always the case. BNY Mellon Investment Adviser, Inc., the investment adviser involved, agreed to pay a $1.5 million penalty to settle the charges. As discussed below, this latest Task Force action underscores the fact that the ESG cops are on the beat, and they are actively monitoring ESG-related disclosures. That could have important implications for future SEC enforcement activity.
BNY Mellon Investment Adviser, Inc. (BNYMIA) is an investment advisor. In the Cease-and-Desist Order, the SEC alleges that during the period July 2018 through September 2021 BNYMIA represented to investors via mutual fund prospectuses and to those funds’ boards that its affiliated sub-advisor to the Overlay Funds implemented ESG principles by conducting proprietary ESG quality reviews as part of the sub-advisor’s investment research. The SEC further alleged that BNYMIA made other representations that all investments in the Overlay Funds had undergone an ESG quality review.
The SEC alleged that the Overlay Funds “made investments that had not always received ESG quality reviews.” The SEC further alleged that BNYMIA’s various representations about the Overlay Funs “were incomplete” because they did not state that the sub-adviser “could and did select portfolio investments that were not necessarily subject” to ESG quality reviews.
The Cease and Desist Order alleges that BNYMIA made misleading statements suggesting that ESG quality reviews were prepared for all Overlay Funds investments; made misleading statements regarding ESG quality review practices in Overly Fund Prospectuses and in certain Overlay Funds board minutes; made misleading statements in RFP responses suggesting that ESG quality reviews were conducted on all investments; and failed to adopt and implement reasonably designed policies and procedures to prevent inaccurate or materially misleading statements in prospectuses and in other disclosures.
The SEC alleged that BNYMIA violated various provisions of the Investment Advisers Act of 1940 and the Act’s implementing rules, and of the Investment Company Act and implementing rules thereunder. Without admitting or denying the SEC’s allegations, BNYMIA agreed to a cease-and-desist order, a censure, and to pay a $1.5 million penalty. The SEC’s order specifically noted that BNYMIA promptly undertook remedial acts and cooperated in the agency’s investigation.
When the SEC established the ESG Task Force in March 2021, the agency said in its press release that the Task Force will “develop initiatives to proactively identify ESG-related misconduct.” The press release specifically stated that the Task Force’s ‘initial focus will be to identify any material gaps or misstatements in issuers’ disclosure of climate risks under existing rules.” Pertinent to the agency’s recent actions against BNYMIA, the press release further stated that the Task Force “will also analyze disclosure and compliance issues relating to investment advisers’ and funds’ ESG strategies.”
The recent settled action against BNYMIA, together with the recent enforcement action filed against Vale, S.A. (discussed here), show that the statements in the agency’s introductory press release about the Task Force are now being substantiated. Notice has now been served that the Task Force is actively monitoring ESG disclosures and related issues, and, more to the point, that the Task Force is prepared to take action to enforce its mandate.
The press release concerning the BNYMIA action quotes a member of the Task Force as saying that, as the BNYMIA action illustrates, “the Commission will hold investment advisers accountable when they do not accurately describe their incorporation of ESG factors into their investment process.”
The agency’s action against BNYMIA has meaning beyond just the investment adviser arena. The message is that the Task Force is up and running and actively monitoring ESG disclosures. The likelihood is that the Task Force will be initiating further activity relating to ESG issues – that is, as the agency said in the Task Force introductory email, to “proactively identify ESG-related misconduct.”
I think we can all anticipate that there will be more, perhaps significantly more, ESG-related enforcement activity in coming months; at a minimum, we can and should anticipate that ESG-related disclosures will be the subject of increased scrutiny from the Task Force. All of these possibilities and probabilities will be magnified to the extent that agency’s Climate Change related disclosure rules come into force in some form in the future.
One question that follows from the likelihood of increased SEC scrutiny and activity relating to ESG disclosures is whether the private plaintiffs’ bar will follow the same course, or at least elect to follow in the SEC’s wake as the agency pursues ESG-related misconduct. It is too early to tell yet, but it could be that the pursuit of alleged ESG-related misconduct could develop into one of the important themes in the D&O liability arena in the months ahead.
There is a particular reason I am emphasizing all of this. That is that it seems to be the case that just about every conversation I am having these days has involved the discussion of ESG-related issues. Whether or not ESG issues develop into an important D&O claims trend, the fact is that ESG is a hot topic these days. This heightened focus on ESG represents an important context for the SEC’s recent action. The SEC’s actions – so far and in the future – will have a lot to say about the ultimate meaning of ESG issues in the D&O world. For that reason alone, the SEC’s recent action is significant and worth noting and considering.