Economy and Society: SEC’s disclosure proposal and the costs of compliance

Economy and Society is Ballotpedia’s weekly review of the developments in corporate activism; corporate political engagement; and the Environmental, Social, and Corporate Governance (ESG) trends and events that characterize the growing intersection between business and politics.

ESG Developments This Week

In Washington, D.C.

SEC’s disclosure proposal and the costs of compliance

Last week, Richard Morrison, a senior fellow at the Competitive Enterprise Institute (CEI), published a detailed examination of what he sees as some of the unresolved issues with the Securities and Exchange Commission’s (SEC) mandatory climate-change disclosure proposal, focusing heavily on the costs associated with the planned rule:

“The SEC admits that the costs associated with complying with the proposed rule would be “significant,” but tries to downplay the burden by pointing to the large volume of information that some companies already voluntarily disclose. That may count in the agency’s favor in terms of relative costs incurred, but it also cuts against the agency’s claims of benefits generated.

The SEC cannot credit the proposed rule for all of the climate-related information disclosed in the future by public firms. At best, the rule can only take credit for the additional increment of information that would have gone undisclosed in its absence. The agency acknowledges that voluntary climate disclosure is widespread and increasing, so future compliance costs can only be spread across the small additional benefit conveyed by the new rule. Given the trajectory of climate disclosure over the past few years, the difference between voluntary and mandatory disclosure will be far too small to justify the costs involved in the current proposal.

But even this stance—that companies that already disclose climate-related risks will only face a small burden—fundamentally misunderstands the incentive structure that firms would face under the rule going forward. The legal and reputational threat of being officially found non-compliant dramatically increases the amount of time, money, and professional expertise required, compared to voluntary disclosures. Even when it comes to specific quantitative requirements like measuring greenhouse gas emissions, the agency’s proposal states, “we are unable to fully and accurately quantify these costs.”[xviii] The fact that the SEC staff is forced to admit this after more than a year working on this proposal signals that they are not taking the rule’s cost-benefit analysis seriously….

The Competitive Enterprise Institute’s Wayne Crews estimates that the current total cost burden of U.S. federal regulation comes to nearly $2 trillion per year.[xxi] That accumulated burden also harms innovation, kills jobs, and slows economic growth, resulting in a smaller economy and lower investment returns. [xxii] The SEC’s own estimates suggest that the overall cost of disclosure and compliance for public companies will rise from approximately $3.8 billion per year to over $10.2 billion—a more than 250 percent increase, based on this rule alone.[xxiii] The agency has in no way demonstrated that the massive burden it is seeking to impose would generate equivalent benefits.”

On Wall Street and in the private sector

The Telegraph: “BlackRock will not be the ‘environmental police’ in ethical investing U-turn”

In ESG investing circles, Larry Fink is arguably the mover and shaker, the man who made ESG the hottest market trend in decades. Stephen Soukup, the author of The Dictatorship of Woke Capital, a work critical of ESG, described Fink as “a born-again ‘fundamentalist,’” preaching sustainability to Wall Street.

Only now, it appears that Fink is having a crisis of faith:

“BlackRock’s chief executive has warned it will not act as “the environmental police” in the latest sign the asset manager is shying away from green activism.

Larry Fink, head of the world’s largest money manager, said that it is wrong to ask the private sector to ensure that the companies they invest in are doing their part to combat climate change.

In an interview with Bloomberg TV, he said: “I don’t want to be the environmental police.”

Mr Fink’s comments represent a significant u-turn for BlackRock which has been at the forefront of Wall Street’s push to focus on environmental, social and governance (ESG) investing.

It comes after the asset manager warned last month that it will vote against most shareholder resolutions on climate change this year as they are too extreme….

The decision to distance itself from “prescriptive” climate change policies comes as institutional investors face criticism for allegedly pushing political agendas.

However, BlackRock has been a target of criticism from both climate activists and those who promote a more gradual transition to green energy….

BlackRock’s latest stewardship report also stated that the company will not support proposals that could lead to companies being “micromanaged”. 

It said: “We are not likely to support those [shareholder proposals] that in our assessment, implicitly are intended to micromanage companies. 

“This includes those that are unduly prescriptive and constraining on the decision-making of the board or management, call for changes to a company’s strategy or business model or address matters that are not material to how a company delivers long-term shareholder value.””

ESG outflows hit record

After years of record inflows to ESG funds, 2022 has been the year of record outflows, and, as Bloomberg notes, May was no exception:

“This year’s weak performance by US stocks has forced many investors to recalibrate their portfolios. And they’re fleeing do-good strategies.

After more than three years of inflows, investors are now pulling cash out of US equity exchange-traded funds with higher environmental, social and governance standards. May saw $2 billion of outflows from ESG equity funds, according to data from Bloomberg Intelligence — the biggest monthly cash pullback ever.

“There’s no way to know for certain why the outflows were so extreme,” said Bloomberg Intelligence analyst James Seyffart, who noted that the funds had started from a high-asset base after years of inflows. “But also ESG ETFs may be finding that people care a lot more about them in bull markets.”…

Do-good investing boomed during the pandemic, with more than $68 billion flowing into ESG equity funds in the past two years. Many believed that this momentum would continue into 2022. But the spike in oil prices since Russia invaded Ukraine has lifted fossil-fuel shares, driving the S&P 500 Energy Index to gain 59% this year even as the benchmark overall has dropped 14%. 

This has made do-good investing more of a sacrifice. RBC Wealth Management recently surveyed over 900 of its US-based clients and 49% said that performance and returns were a higher priority than ESG impact, up from 42% last year. 

“The story has been told that you don’t have to give up returns in order to do ESG, but everyone assumed that you would get the same exact return profile as a traditional benchmark, which is absolutely not true….”

In the States

Kentucky joins the list of states pushing back on ESG

On June 2, Allison Ball, the Treasurer of Kentucky, took to the pages of RealClearMarkets to make the case against ESG and what is described by opponents as woke capital and to explain what she and others in her state are aiming to do about it. She wrote:

“There currently exists in America a worrying coordination of federal executive branch agencies and private companies to bypass democracy in order to push progressive, woke ideologies. Unelected bureaucrats are abusing their delegated authority from Congress. These people frequently pass through a revolving door between government and business making them adept at bending the administrative state to their ends. This has created a leftist business class that is obsessed with virtue signaling for the purpose of their own personal self-promotion. They live in their own echo chamber.

In the private sector, the rise of proxy voting by large asset managers has removed accountability from corporations in the same way that administrative agencies have removed accountability from the legislative process. This problem has grown so troublesome, that large asset managers have gone as far as to foist activists on to corporate boards to “force behaviors.” 

I am not in favor of government picking winners and losers. I believe free markets allow the best ideas and inventions to thrive while lesser ideas perish. But the market becomes drastically less free as federal agencies join at the hip with select corporations to promote policies that kill other American industries and would not be supported by the populace as a whole. Suddenly, our market’s capability to promote innovation and American needs decreases in favor of the political agenda of those in charge. In Kentucky, this is especially concerning as these efforts seek to kill one of Kentucky’s signature industries—fossil fuels. Once this economic tampering begins, state leaders are left with no choice but to speak and act in defense of the economic well-being of our states.

This is why I recently championed the passage of SB 205 in Kentucky, which was signed into law earlier this year. The law directs the Commonwealth, through the guidance of the State Treasurer, to divest from companies that engage in energy company boycotts. It also prohibits governmental entities from entering into contracts with companies that engage in energy company boycotts. My message has been clear: the Commonwealth of Kentucky will not do business with those companies that seek to squelch the lifeblood of our economy. The tax dollars of Kentucky citizens should not be used to cripple our own livelihood….

Earlier this month, I took another approach, asking Kentucky Attorney General Daniel Cameron, to render an opinion on whether “stakeholder capitalism,” a term favored by BlackRock CEO Larry Fink, and ESG investment practices connected to public pension funds are consistent with Kentucky law governing fiduciary duties. That opinion, rendered on Wednesday, makes it clear that considerations external to a fiduciary’s “single-minded purpose in their beneficiaries’ investments,” prioritize “activist goals over the interests of their public and state employee clients” and, therefore, are inconsistent with Kentucky law.”

In the spotlight: State treasurers share pushback efforts against ESG

The Daily Wire recently ran an interview with a handful of state treasurers about their individual and collective efforts pushing back against ESG on behalf of their constituents. The group included Treasurers Marlo Oaks (Utah), John Murante (Nebraska), Scott Fitzpatrick (Missouri), and Riley Moore (West Virginia):

“Many Americans have a distaste for wokeness — but few may realize that the ideology may soon be invading their retirement accounts and siphoning their taxpayer dollars.

As Utah State Treasurer Marlo Oaks pointed out in a recent op-ed for The Wall Street Journal, S&P Global Ratings — the nation’s largest credit rating firm — began applying an Environmental, Social, and Governance (ESG) rating system to states’ finances in a manner divorced from their true budgetary conditions.

Though the system purports to be objective, Oaks and other Republican state treasurers contend that progressive ESG metrics are giving investment funds an excuse to discriminate against states with conservative values.

“They are calling attention to political factors that are subjective — and that opens the door to being able to borrow in the capital markets at a less advantageous rate than would be indicated by the credit rating by itself,” Oaks told The Daily Wire.

Common ESG objectives pursued by corporations may involve setting certain green energy commitments or tapping a certain number of women to serve as executives. In essence, ESG conforms the nation’s most influential companies to a progressive agenda — even if political or social activism has nothing to do with their brand identities or corporate missions.

“It has the potential to increase the bond costs for states that don’t align with the underlying ESG ideology,” Oaks added. Utah has a AAA bond rating from ratings agencies S&P, Moody’s, and Fitch.

For states like West Virginia — which ranked among the top six states for energy production as of 2019, according to the U.S. Energy Information Administration — ESG funds pushing green power are particularly threatening to employment and public finances.

“They’re trying to punish us based on our culture, our economy, and our industries, making it more expensive for us to do things like build schools, build roads, build hospitals — all those types of projects that get bonds floated out there for them,” West Virginia State Treasurer Riley Moore told The Daily Wire. “They’re trying to coerce us into conforming to their agenda, and they’re doing that by trying to financially punish us.”…

Nebraska State Treasurer John Murante told The Daily Wire that the American people are undergoing a “Great Awakening” to the dangers of woke investing due to criticism from high-profile business leaders like Elon Musk, who has called ESG “fraudulent” and argued that its standards “have been twisted into insanity.”

“People do not want their retirement accounts invested for political purposes,” Murante said. “They want it invested in a way that will achieve the best return for their investment.””