ESG+ Newsletter – 19 December 2024

In our final newsletter of the year, the theme is not Christmas, but the ongoing debate about the merits of ESG regulation and initiatives. In the EU, greater clarity is sought on regulation to address growing criticism, while a delay in the deforestation law has been announced; in California, a back and forth on the timing of its climate disclosure law has commenced; and, as DEI comes under the microscope, we look at changes in listing rules and pay practices. As the final destination for regulation remains unclear, our own research looks at growing risks around greenwashing

EU advisers propose overhaul of sustainable finance fund rules 

A group of EU-appointed sustainable finance experts has proposed a significant overhaul of the bloc’s Sustainable Finance Disclosure Regulation (SFDR) to simplify rules for retail investors and curb greenwashing. The advisers suggest replacing the existing Article 8 and Article 9 fund classifications with three clear categories: “Sustainable,” “Transition,” and “ESG Collection.” The “Sustainable” category will target investments aligned with the EU’s green taxonomy or other sustainability criteria. “Transition” funds will focus on companies that are not yet environmentally friendly but are on track through clear capital expenditure or transition plans. Lastly, “ESG Collection” will cover funds using ESG-related filters to include or exclude sectors. The proposal addresses concerns raised by regulators in June that the current system is overly complex and poses mis-selling risks. The new structure aims to create clarity for retail investors while ensuring sustainability claims are transparent and credible. The recommendations are part of broader EU efforts to streamline sustainability regulations, whereby EU officials are working to ease company reporting requirements following criticism from prominent figures like former ECB head Mario Draghi and a number of German politicians, who have pointed to excessive regulatory burdens. 

Debate continues on California climate disclosure law

In August 2024, California lawmakers released an updated, consolidated version of its two initial climate bills SB 253 and SB 261, under SB 219. This climate accountability legislation raises the bar for corporate climate action and reporting, applicable to companies (public and private) with revenue over a specified dollar threshold that do business in the state, including subsidiaries of non-US headquartered companies. SB 219 gives the California Air Resources Board (CARB) an additional six months to make the rules and keeps the current deadlines for company reports—starting in 2026. Governor Newsom signed SB 219 into law at the end of September 2024.  

Last week, CARB published an Enforcement Notice saying it would “not take enforcement action” on entities subject to Senate Bill 253 for incomplete reporting during the first reporting cycle due 2026. More specifically, CARB said companies who are required to comply with SB 253 could submit scope 1 and scope 2 greenhouse gas emissions data for 2026 — the earliest reporting deadline under the bill — based on information they “already possessed or [are] collecting at the time this Notice was issued.” While this appears to represent a reprieve for companies in the scope of the law, in response, California State Senators Scott Wiener and Henry Stern, authors of SB 219, have sent a letter to CARB, threatening the regulator with legislative oversight hearings if it goes ahead with the delay of enforcement. The Senators expressed frustration that positions for staff needed to craft and implement the legislation have not been filled, despite CARB being allocated $8.4 million in June 2024 for implementation. Much like in a number of other jurisdictions, there may be further back and forth this clarity is provided. In the meantime, companies should prepare for reporting requirements and, if it comes to it, will still be able to avail of additiFTI’s Insights: Greenwashing – The Emerging Liability Landscape onal latitude from potential future negotiations on the final shape of the law. 

FTI’s Insights: Greenwashing – The Emerging Liability Landscape 

Greenwashing has been in the crosshairs of regulators this year and companies may face looming liabilities for misleading sustainability claims. With growing regulatory scrutiny and increasing consumer awareness, companies are facing increasing legal and reputational risks. FTI’s latest ESG Insight, ‘Greenwashing: The Emerging Liability Landscape’, details the importance of transparency and compliance with emerging environmental regulations to avoid liabilities that could potentially lead to litigation proceedings. Alignment between companies’ sustainability statements and verifiable actions is crucial, with any environmental claims reviewed with the same rigor and assessment as financial statements. Read the insights here. 

US companies review ESG-linked executive pay 

A new study by WTW highlights trends on ESG metrics in pay plans and alignment to business strategies. Despite the recent backlash against corporate diversity, equity, and inclusion (DEI) initiatives, the prevalence of DEI metrics in executive pay programmes remained steady year-over-year, with 57% of S&P 500 companies incorporating them. Notably, 26 companies introduced DEI metrics this year, while 29 removed them, and six more announced plans to phase them out. 

The study also examined the use of ESG metrics in executive compensation across regions, revealing stable adoption rates year over year. While almost all European companies (94%) include ESG metrics in executive pay compared to 75% in the US and Asia Pacific, notably, two thirds of European companies include similar metrics in their long-term incentive (LTI) plans, compared to just 9% in the US and 30% in Asia-Pacific. This European approach aligns with investor expectations, as emphasized by the UK Investment Association’s Remuneration Principles, which advocate that “Where the management of risks and opportunities, including material ESG factors, are important for the long-term sustainability and success of any business, they should be incorporated into the company strategy and the design and assessment of LTI awards.” Significant differences in the use of ESG metrics persist across regions, and current dynamics do not suggest any convergence in the near future; however, the report is clear that while in different guises, the adoption of ESG measures in pay plans remain commonplace, and the current challenges around ESG may produce greater justification for the inclusion of such measures and their link to strategy and performance.

EU gives Deforestation Law room to grow with one year delay

ESG Today covers the European Parliament’s approval of a one-year delay for its deforestation law, which is also expected to receive formal approval from Member States in the coming days. Originally set to take effect in December 2024, the new timeline gives large operators until December 30, 2025, to comply, while small and micro enterprises have until June 2026. The extension comes in response to concerns raised by various stakeholders, including EU Member States, non-EU countries, traders, and operators, about the initial implementation timeline. The regulation requires companies to ensure that products such as beef, soy, palm oil, coffee, and cocoa – as well as EU farmers’ exports- are sourced from supply chains free of deforestation. Christine Schneider (EPP, DE), the legislation’s rapporteur, stated that the extension aims to “ensure that the measures announced in the Commission’s binding declaration, including the online platform and risk categorisation, are consistently implemented to create more predictability throughout the supply chain.” The risk classification system as well as the information platform for operators will be crucial to support businesses with compliance and should be operational by June 2025. This will give companies six months to familiarise themselves with the tools before they will be subject to the regulation. Businesses should continue to engage with the European Commission, as it has committed to analyse measures to simplify reporting and reduce administrative burdens, with a full regulatory review planned by June 2028. 

Death of Nasdaq Diversity Rule Signals More Trouble for DEI 

A federal appeals court has overturned Nasdaq’s attempt to mandate increased diversity on boards for companies listed in the USA, which includes major firms like Apple, Microsoft, and Tesla. The ruling challenges diversity efforts by corporate America and, according to Bloomberg, may signal a broader rollback of diversity initiatives under the new Trump administration. 

Nasdaq’s rule required companies to have at least one diverse board member, with plans to increase the requirement to two diverse directors by 2025. Critics, however, viewed the rule as a quota system, leading to legal challenges. The court, siding with critics, stated that the rule fell outside the SEC’s authority, as the SEC is not empowered to enforce diversity mandates for boards. Bloomberg reports that the ruling also raises concerns that other SEC disclosure rules, including those related to climate risks and emissions, could be weakened. The lack of consistent diversity data across companies might create challenges for investors trying to compare businesses on their commitment to diversity and inclusion. 

ICYMI 

• Japan aims for renewables to supply 40-50% of its electricity mix by 2040, doubling the 2023 share, ESG News reports. 
• LGT Wealth Management becomes the first wealth manager in Europe to adopt pass-through voting.
• The Canadian government plans to introduce legislation to create a new supply chain due diligence regime, according to Responsible Investor. The legislation will require government entities and businesses to “scrutinise their international supply chains for risks to fundamental labour rights and take action to resolve these risks”. 
• Ecuador secures a $1 billion debt-for-nature swap deal. According to Environmental Finance, the transaction will secure more than $400 million in conservation funding for the Amazon.