In recent public comments, SEC Commissioner Hester Peirce shared her personal concerns regarding the “fuzziness around what ESG means.” The Commissioner noted that often market participants emphasize the importance of ESG; however, they may not articulate their particular areas of focus. She notes that ESG may encompass a broad range of issues, including, but not limited to, climate, biodiversity, clean water, oceans, employee well-being, labor rights, community engagement, the circular economy, etc. In part, in the Commissioner’s view, the elasticity of the term has contributed to controversy—in that different groups may embrace different causes all under the same banner and their perceptions regarding these issues, and the degree of importance they attribute to these issues, may change over time. The Commissioner notes that a number of issues under the ESG rubric have historically been associated with considerations that investors factored into their assessments of the long-term value of companies before there was a label for them. In turn, companies considered environmental and social factors that impacted their returns and that they considered material to their long-term financial value. The Commissioner posits that there might be less controversy if ESG-related issues were evaluated based on an assessment of their correlation to long-term financial value for the particular company in question.

In her remarks, the Commissioner also questions ESG-related investment objectives and whether there may be conflicts of interest that may impair the imperative to focus on maximizing financial returns. She also raises concerns regarding causality and the extent to which causal connections between ESG factors and financial returns are supportable. For many of these reasons, the Commissioner expresses the view that asset managers should state clearly whether and how they will invest in, vote in, and engage with portfolio companies on behalf of clients.

The Commissioner observes that, in her view, companies sometimes target ESG objectives that may be inconsistent with financial returns and in so doing point to broader stakeholder interests. These more highly discretionary factors and ESG metrics, the Commissioner notes, weaken board accountability and management accountability. The Commissioner also commented at length regarding the decision to collect, track, analyze, and report on ESG data, including the costs associated with building the information technology and other systems necessary for appropriate disclosure controls and procedures and internal control over financial reporting. This resource allocation may, in itself, affect decisionmaking and limit corporate flexibility.

Perhaps given that the Commissioner was speaking in Poland, she addressed the Corporate Sustainability Reporting Directive, or CSRD, which affects European companies and, to some extent, U.S. companies. The Commissioner also cited the European Taxonomy Regulation and the Corporate Sustainability Due Diligence Directive. The Commissioner noted that requiring the reporting of granular ESG-related metrics may come to have an effect on corporate and capital resource allocation. She notes that regulator-mandated ESG metrics may reflect a particular view of what should be important to decision-making, which may be divorced from the views of the real economy and retail investors. To that end, the Commissioner emphasizes the importance of principles-based disclosures based on financial materiality that allow registrants to address the ESG items that are important to the registrants’ businesses. See the full text of Commissioner Peirce’s remarks.