In this month’s ESG Market Alert, we cover:

• 2023 UK Policy Guidelines published by Glass Lewis;
• European Parliament adopts "Women on Boards" Directive to boost female representation in companies;
• ESMA follows global trend of regulating ESG-related fund names;
• The impact of draft ESG disclosure rules on private funds; and
• Market Practice Development: A green(washing) light for ESG Litigation?

2023 UK Policy Guidelines published by Glass Lewis

On 17 November, advisory services company Glass Lewis published its 2023 ESG policy and proxy voting guidelines. Notable updates to Glass Lewis' previous ESG guidance include:

• the codification of its approach to requesting companies undertake racial equity or civil rights audits;
• revisions to Glass Lewis' approach to proposals requesting companies require shareholders to approve retirement benefits and severance payments greater than 2.99 times the relevant executive's salary; and
• the inclusion of new discussions on disclosing the proponents of shareholder resolutions in proxy statements regarding U.S. companies, and directors' accountability for climate-related issues.

The 2023 proxy voting guidelines cover a variety of topics including balance sheet management and directors' appointments, but also discuss ESG issues. In particular, in a similar manner to the ESG guidelines, the proxy voting guidance states where companies' greenhouse gas emissions represent a financially material risk, the extent of the risk and how this is being mitigated should be fully disclosed. Where such disclosure has not been made, Glass Lewis recommends voting against a responsible member of the board (or other relevant agenda items).

European Parliament adopts "Women on Boards" Directive to boost female representation in companies

The European Parliament has approved the "Women on Boards" Directive, that seeks to introduce transparent hiring procedures in companies in order to improve women's representation on the board of directors. The directive is aimed at listed companies, with the exclusion of small and medium-sized companies with fewer than 250 employees. The companies are expected to meet the targets of 40% female representation for non-executive boards and 33% female representation for all board members by 30 June 2026. In addition, the directive sets out that the board recruitment procedures should be clear and transparent.

The directive does not act as a legislation directly applicable in each Member State – it imposes an obligation on Member States to implement rules nationally within 2 years. Companies that are in breach will be subject to fines and other penalties as put in place by each Member State. The next step is that the directive will be published in the EU's Official Journal, and it will enter into force 20 days after that.

ESMA follows global trend of regulating ESG-related fund names

The European Securities and Markets Authority (ESMA), the EU’s financial markets regulator and supervisor, is following the global regulatory trend of setting restrictions on ESG-related fund names. On 18 November, ESMA launched a consultation on guidelines on funds’ names using ESG or sustainability-related terms, citing as one of its objectives transparency for investors who may be misled by unsubstantiated or exaggerated sustainability claims. ESMA also seeks to provide national competent authorities and asset managers with clear and measurable criteria to assess fund names.

The ESMA consultation follows in the footsteps of other financial regulatory bodies’ similar agenda. In May 2022, the U.S. Securities and Exchange Commission proposed amendments to its own ‘Names Rule’ to expand regulation on fund names to ESG-related funds. In October 2022, the Financial Conduct Authority also proposed new measures to restrict certain sustainability-related terms to help avoid misleading marketing of products.

The impact of draft ESG disclosure rules on private funds

The Financial Conduct Authority (FCA) has published draft rules on ESG Disclosures: the Sustainability Disclosure Requirements (SDR), which is the UK’s equivalent of the Sustainable Finance Disclosure Regulation (SFDR) in the EU and the Securities and Exchange Commission’s (SEC) proposals for requirements in respect of sustainable investment funds, aimed at building trust and integrity in ESG-labelled instruments.

The SDR will include a voluntary regime whereby specific disclosure requirements will apply where a fund manager volunteers a fund it manages to be subject to the rules, if that fund meets certain criteria. However, some mandatory SDR-compliant disclosures are still required where sustainability-related features form a key role in a fund’s investment policy or strategy, even if the firm decides not to opt-in.

The key focus areas of the SDR are:

1. introduction of sustainable investment labels (such as “sustainable focus”, “sustainable improvers” and “sustainable impact”) available for those funds which qualify under the voluntary regime;
2. consumer-facing disclosures to facilitate better understanding of key sustainability-related features of a product;
3. naming and marketing rules to prevent the use of certain sustainability-related terms in product names unless the product uses a sustainable investment label; and
4. a general ‘anti-greenwashing’ rule applicable to all regulated firms to clarify that any sustainability-related claims must be clear, fair and not misleading.

The FCA will monitor the implementation of the SDR by carrying out periodic assessments and taking enforcement action where a firm has failed to comply with the disclosure requirements or made misleading disclosures, or misused a label.

Market Practice Development: A green(washing) light for ESG Litigation?

Lawsuits related to ESG issues like climate change, human rights or governance are increasing; fueled by intensifying regulation and the immense public attention regarding ESG. The targets of these lawsuits are shifting to include corporations, rather than just governments, and for more than just environmental claims. A growing trend is consumers basing their claims on consumer protection regulations and regulatory standards, and “greenwashing” claims (i.e. making a company or product appear more “green” than it really is) which is creating a development towards ESG class actions or mass actions.

Major players in the litigation funding arena are already talking about or pursuing ESG investments for altruistic reasons – making justice more accessible for those harmed in ESG breaches – or financial ones – as some of these cases maintain a high probability of settlement. If such claims are brought by NGOs, companies may be faced with long-lasting disputes since financial redress is not the end goal; NGOs are seeking meaningful change in behavior and often are not open for settlement.