A recent poll, conducted by the Harvard Law School Forum on Corporate Governance, found that interest in ESG ratings—that is, an organization’s performance on environmental, social, and governance measures—is rising among asset managers and the broader financial community against the backdrop of the Covid-19 pandemic.
Increasingly, even entities outside the financial sector—particularly those in high technology, manufacturing, and energy production—are embracing ESG as a critical measure of success.
The Biden administration promises a return to stronger governmental oversight of environmental and financial compliance, with ESG poised to take on growing importance in 2021 and beyond. With no single standard for ESG programming, assessment, and reporting, however, organizations face a rapidly evolving ESG landscape of competing rankings and principles.
Organizations are well-advised to work with an integrated team of consultants and lawyers to ensure that good intentions lead to good results.
Developing and Implementing an ESG Program
The absence of a consensus standard presents obvious difficulties for any organization looking to embrace ESG. That is why relying on well-established risk management systems may be a good place to start—whether it is the ISO 14001 standard for environmental management systems or other established programs related to ethics and compliance, antitrust, or labor and employment (including diversity, equity, and inclusion).
The trick then is to integrate these various programs and procedures into a coordinated plan that considers an organization’s culture and existing systems, as well as the wide array of available ESG ratings, standards, frameworks, and reporting mechanisms. Many of these standards vary across markets, so transnational organizations face unique challenges in developing and implementing ESG systems.
At a minimum, a solid ESG program should help a company maintain or improve compliance in all its regulated activities—which makes staying on top of the regulations and norms critical to successful implementation of ESG. Lawyers well-versed in the various ESG frameworks, requirements, and developments can help organizations assess whether their ESG programs will ensure compliance, while building in flexibility for changing regulatory and market dynamics.
Evaluating and Mitigating Litigation Risk
As ESG reporting increases in response to market and shareholder demands, plaintiffs have pursued—with growing success—legal challenges to corporate ESG disclosures.
Some litigants have found success challenging ESG reports on various bases, including on claims of “greenwashing” (i.e., conveying a false impression about a company’s environmental bona fides). Other litigants are beginning to challenge not only the disclosures themselves, but also alleged ESG-related performance and operational deficiencies, including those of an organization’s suppliers and vendors.
Lawyers help an organization assess and manage these risks in a variety of ways, from suggesting risk-reducing changes to ESG plans and implementing procedures to helping clients obtain insurance to manage litigation risk.
While the Securities and Exchange Commission has not yet mandated ESG reporting for public companies, ESG programs and reporting have practical financial ramifications. For instance, an update to the Equator Principles (Equator Principles 4 or EP4), one of the main ESG frameworks for financial institutions, took effect on Oct. 1, 2020. The latest iteration included significant changes for financial institutions and their borrowers seeking to finance projects.
A project that triggers EP4 may be denied funding by any of the 110-plus EP4 financial institutions if it does not meet the appropriate standards and requirements. Additionally, complying with ESG frameworks like EP4 may require longer timeliness and different due diligence to secure funding. If done incorrectly, legal challenges may arise from discrepancies between an organization’s commitments under EP4 or analogous ESG frameworks and its efforts when implementing a financed project.
Lawyers work with internal and external auditors and accountants to ensure that the appropriate due diligence is conducted prior to securing ESG-based financial commitments—and to develop control systems and checks to ensure that compliance is maintained throughout the lifecycle of financed projects.
ESG has multiple potential upsides. These include improved quality, better environmental performance, more sustainable and flexible operations, improved employee morale, better community relations, increased diversity, and better talent attraction and retention.
If done well, ESG should bolster an organization’s bottom line financial performance. If mishandled, ESG programs and reporting can lead to greater litigation risk and loss of financing opportunities.
ESG operations and reporting done well necessarily involve multiple disciplines—everything from accounting and human resources to environmental management, logistics, and beyond. Legal input is critical to ensure operational systems and reporting frameworks are crafted to minimize downside risk.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Jillian C. Kirn is an environmental practice shareholder in Greenberg Traurig LLP’s Philadelphia office.
Bernadette M. Rappold is an environmental practice shareholder in Greenberg Traurig LLP’s Washington, D.C., office.