BlackRock, the world's largest asset management firm, announced plans to make sustainability a key component of its investment approach, including initiatives to increase its offering of sustainable funds, to launch new funds that screen certain fossil fuel companies, and to exit its investments in high-risk sectors such as thermal coal production. In his annual letter to CEOs, BlackRock chair and CEO Larry Fink also issued a new call to corporate America: Confront climate change, and publish disclosures on sustainability issues and climate-related risks in line with specific frameworks by year end, or BlackRock will hold your directors accountable.
While this is not the first time that Mr. Fink has used his bully pulpit as the head of the world's largest asset management firm to urge companies to pursue social aims, it is the first time that climate change has been featured so predominantly. In fact, part of Mr. Fink's request to public companies is to report their plans to operate under the terms of the Paris climate agreement, despite President Trump's withdrawal of the United States from that treaty. It remains to be seen whether BlackRock's increasing focus on climate matters will mark a sea change in how U.S. companies respond to the climate crisis. However, we urge companies to seize this opportunity to embrace appropriate ESG goals as consonant with and supportive of their commitment to pursuing long-term value creation, and to reevaluate their public reporting on those issues.
So What Should Companies Do Now?
In the United States, some argue that progress on climate change issues is stymied by the lack of a uniform, mandatory framework for environmental and sustainability reporting. However, many companies may well prefer to adopt a specific disclosure framework by private ordering rather than operate under government-imposed, one-size-fits-all standards—or worse, an alphabet soup of rating agencies with different standards that hold companies captive to an unrealistic set of ESG goals. Moreover, the disclosure standards that BlackRock endorses—the industry-specific sustainability reporting framework developed by the Sustainability Accounting Standards Board ("SASB") and the standards for reporting climate-related risks developed by the Task Force on Climate-related Financial Disclosures ("TCFD")—provide comprehensive yet flexible reporting standards that may serve as a useful guide to many companies despite the differences in their businesses, risks, and industries.
Inventory and Assess ESG Practices
ESG is not new. While the specific emphasis on climate change is relatively new, companies have had policies on inclusion/diversity, community involvement, compliance, and many other ESG-identified topics for decades. The first step, therefore, is doing a thoughtful inventory of ESG practices in all areas and performing an honest assessment as to where a company is versus where it aspires to be.
Employ Disclosure Frameworks Flexibly
While disclosure standards like those created by the SASB and the TCFD provide frameworks, it is essential for companies to create meaningful ESG disclosures based on the ESG factors and metrics that are most relevant to them and their businesses. One of the advantages of using the SASB framework is its flexibility; a company can select the standards that are relevant, the disclosure topics that are material to its business, and the performance metrics that it will report, after taking into account applicable legal requirements.
Companies should consider those frameworks when developing their initial ESG-related disclosures, and should also consider disclosing why the selected factors and metrics are important, so that investors and other stakeholders can understand the reasoning behind the company's approach.
BlackRock itself has admitted that it is not in a position to adopt a fully developed set of principles and procedures consistent with the SASB or TCFD frameworks, nor are most other companies. BlackRock's letter says that boards that commit to progress will get a pass, at least for 2020. In our view, it is more important for a company to think about this topic generally, fold it into its decision-making process, and implement the portions of the standards that are most applicable to its business and industry than to adopt the reporting standards in their entirety.
In all, the goal is for companies to demonstrate that they are devoting real resources, in a thoughtful manner, to sustainability and climate change reporting.
Improve Website Disclosures
Companies should ensure that their websites provide a clear and comprehensive summary of their climate change and other sustainability initiatives, as well as a catalog of any environmental and sustainability reports that the company publishes. Most larger companies are already aware of the climate risks affecting their businesses, and many have taken significant steps to address climate change. Moreover, a substantial majority of big cap public companies now voluntarily publish a sustainability or other report about their ESG practices, a trend that has been fueled by investor demands for more comprehensive and transparent environmental disclosures.
It is essential for companies to regularly update these disclosures and house them on a central and dedicated website page so that investors and others can readily find the company's overview of climate-change actions and plans.
Maintain Accountability for ESG Reporting
Accuracy and consistency in ESG disclosures are essential. Companies should neither undersell nor oversell their efforts on ESG matters, and should be cognizant not only of the liability risks for these types of disclosures but also how to ameliorate them. Moreover, companies should ensure that responsibility for crafting and reviewing ESG-related disclosures is housed appropriately and that all ESG disclosures have been verified by appropriate personnel for accuracy and consistency.
On this point, the importance of having a designated "owner" of the company's ESG-related disclosures cannot be overstated—companies should assign responsibility for ESG reporting to a designated executive officer.
Don't Get Ahead of the Board
BlackRock's 2020 letter includes an explicit warning that boards will ultimately be held accountable for a company's sustainability reporting and its climate-related plans and practices. Accordingly, it is imperative for boards to take a central role in formulating a company's approach to these issues, think about more formally folding ESG considerations into the directors' decision-making process, and make a record that demonstrates the board's review and endorsement of the approach ultimately adopted by the company. Boards may also wish to adopt a comprehensive ESG disclosure policy that guides the company's efforts on these issues.
Think About the Proxy Statement
The company's proxy statement, and governance portion of its website, should be used as primary means to relay information about a company's ESG practices to investors and other stakeholders. Most companies already use the proxy statement to disclose key information about a company's governance structure, policies, and practices, but relatively few have centralized disclosures about environmental and social policies and practices.
Companies should take the opportunity before the 2020 proxy season to explore ways to augment their proxy statement disclosures to present a more comprehensive picture of their ESG issues and their approaches to addressing them. In addition, companies should prepare to develop more comprehensive ESG policies, reporting, and tracking systems to be rolled out in 2020.
Certainly BlackRock, a global asset manager with $7 trillion in assets under management, has both the influence and the resources necessary to change corporate behavior on climate matters; time will tell if it is able to do so. Further, BlackRock's stated intent to hold public company directors accountable for their companies' disclosure and actions on climate change is likely to drive attention and action on the topic at the board level. Companies that fail to engage on these critical issues—and their boards—are on notice that serious and long-standing consequences may await.
We urge companies and their boards—particularly those in challenging industries—to continue to address climate risk and other sustainability issues proactively and to continue their focus on ESG issues. Importantly, however, we urge companies and their stakeholders to remain cognizant of the need for a measured, deliberate, and tailored approach to the climate crisis and other sustainability issues, as well as their disclosures on those topics.
What To Do Next
Of course, a company's next steps will depend its status and progress on ESG matters. As noted, many large companies are well along on developing and inventorying ESG policies, have appropriate disclosures, and are, or nearly are, able to report on a basis indicated by BlackRock. But most aren't and for them, the honeymoon period outlined by the BlackRock letter provides necessary runway.
No matter what the status of their ESG reporting, most companies have more work to do on the topic of ESG matters—and for the vast majority of companies, doing nothing is not a viable alternative.