Important points:
- The U.S. Securities and Exchange Commission’s (SEC) Climate and ESG (Environmental, Social and Governance) Task Forces have taken the first two enforcement actions, citing allegations of misleading ESG-related disclosures by publicly traded companies and investment advisors, respectively. I taught.
- These actions reflect the SEC’s Enforcement’s close and continued focus on ESG. It is virtually certain that more such actions will follow.
- These cases also highlight the importance of issuers and advisors mitigating the risk of ESG-related disclosure breaches through strong internal controls and careful scrutiny of public statements on ESG impacts and investments.
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The formation of the SEC Enforcement’s Climate and ESG Task Force last year confirms that ESG has become one of the SEC’s top enforcement priorities, leading to an increase in investigations and enforcement actions against public companies and investment advisors. was suggested. Those expectations were borne out by his two first enforcement actions of the Task Force against public companies and investment advisors. Through these actions, the SEC has also made it clear that it will pursue issuers and advisers who are deemed to be involved in “greenwashing.”
Alleged misrepresentation of ESG risks by the issuer
On April 28, 2022, the SEC required Brazilian mining and metals company Vale SA to ensure the safety of its dam before its Brumadinho Dam in Minas Gerais, Brazil, collapsed in January 2019. He was charged with making misleading sexual claims. According to an SEC complaint filed in the U.S. District Court for the Eastern District of New York, the collapse killed 270 people, released 12 million cubic tons of toxic waste, and caused irreversible environmental damage to the region’s Palau Peva River. Most importantly, this action was not based on misrepresentation of Vale’s ESG policies and practices, but more broadly misleading safety practices and standards that mask environmental and social risks. Based on the statement.
According to the complaint, the company’s Brumadinho dam failed as a result of liquefaction. Liquefaction is a phenomenon where waste deposits saturate dams, dramatically increasing the risk of structural failure or collapse. Vale was allegedly aware of the risk to the Brumadinho Dam from liquefaction from a similar dam collapse in 2015, and as early as 2003 the Brumadinho Dam was considered a “hazardous dam” with “significant liquefaction risk”. I was aware that it was “very fragile”.
The SEC further said the company “willfully or recklessly concealed the findings of its own expert investigations” and found “a pattern of deceptive behavior designed to circumvent applicable regulatory requirements related to dam safety.” claims to have been involved in In particular, the complaint alleges a number of deceptive declarations of stability between 2016 and 2018 by auditors tasked with reporting on the structural integrity of dams that the company knew did not meet international safety standards. and claimed to have cut back on “back deals” and used “extortion.” Encourage or enforce compliance with requirements for reports that positively reflect the operational safety of the dam.
During the same period, Vale allegedly made a series of false statements to investors regarding the safety of the dam. For example, in an October 2016 investor presentation, the company claimed, among other things, that the dam was audited in his 2016 using a “rigorous” process to address the potential for liquefaction. It has been with. The audit process was “conservative” in modeling liquefaction. And the presentation reflected “a rigorous review of existing engineering research.”[.]In fact, the SEC alleges that another liquefaction expert had told auditors and the company that the relevant laboratory data were not reliable enough to be used in safety assessments.
Similarly, Vale’s 2016 SEC Forms 6-K and 20-F included a statement that the company had conducted a “special audit” of the dam’s stability and “no anomalies were identified.” It allegedly contained false and misleading statements. The company and its auditors learned through an audit that the Brumadinho dam was in a precarious state and that company executives had decided to suspend operations due to liquefaction concerns.
In addition, the SEC found that Vale executives made false statements in its sustainability report that after a cycle of dam audits, “100% of audited structures proved to be physically and hydraulically stable.” It claims that it was done. Vale has adhered to the “strictest international practices” and complied “strictly” and “rigorously” with legal requirements.
Alleged Advisor Misrepresentation Regarding ESG Investment Practices
The Task Force has followed up the Vale litigation with a resolved administrative proceeding filed against BNY Mellon Investment Advisors (BNYMIA) on May 23, 2022. Bunimia. BNYMIA agreed that he would pay $1.5 million in damages to settle the lawsuit.
According to the order, the fund’s BNYMIA-affiliated sub-advisor maintained a “responsible investment team” that prepared ESG quality reviews for equities and corporate bonds. For the specific Mutual his fund advised by the sub-advisor, the sub-advisor requested the team to conduct its own ESG “quality review” of all investments. This includes identifying ESG risks and opportunities posed by potential investments and assigning numerical his ESG quality reviews. Score of the investment reviewed. For other funds, including the one at issue in this case, the sub-advisor could, and allegedly did, select investments that had not undergone her ESG review.
The SEC announced that between July 2018 and September 2021, BNYMIA will ask fund prospectus investors and the fund’s board of directors to provide their sub-advisors with their own ESG assessments as part of the investment research process for all investments. I discovered that I had inaccurately stated that I had conducted a review. The order also found that BNYMIA made similar statements in written responses to requests for proposals (RFPs) from other investment firms considering investing in the fund.
In particular, BNYMIA allegedly stated in the “Objectives and Approach” section of the fund’s prospectus that its sub-advisors have a “well-established approach to responsible investment.” [ESG] Risks, opportunities and issues throughout the investigation process [. . .] Independent quality reviews to ensure material ESG issues are considered. The prospectus also states that this approach[i]Integrated into the fund’s investment process.
However, the SEC found that of the 185 investments made by the fund in question, 67 did not have an ESG Quality Review score at the time of the investment. This represented approximately 25% of the fund’s net assets at the time of the statement. Accordingly, the SEC has found that a “reasonable investor” who reads the prospectus may incorrectly conclude that all portfolio holdings in the fund have undergone her ESG quality review.
In addition, the SEC found that BNYMIA’s RFP responses to other companies considering the fund described the sub-advisor’s research process, including the performance of the ESG quality review, and the sub-advisor stated that the SEC It said it has performed an ESG quality review on all securities it recommends. Sub-advisor analyst.For example, one RFP response stated that “at every stage of the investment process he considers ESG considerations,” adding, “Before investing, a global industry analyst reviewed the investment. Each security is a member of [the Responsible Investment Team]”
Finally, the SEC recommends that BNYMIA not provide a prospectus, RFP response, or written statement reasonably designed to prevent inaccurate or materially incomplete statements to the fund’s board of directors regarding the sub-advisor’s use of ESG quality reviews. found to lack policies and procedures by Additionally, it was discovered that BNYMIA compliance officers were unaware until mid-March 2020 that a quality review was not conducted on all fund investments.
The Commission charged BNYMIA with negligent violation of the anti-fraud provisions of the Investment Advisers Act of 1940 and failure to comply with appropriate written policies and procedures required under the Advisers Act. BNYMIA also charged him with unscientific violations of Section 34(b) of the Investment Companies Act of 1940. The law prohibits misstatements of material facts or misleading omissions in registration statements or other documents filed pursuant to the Companies Act.
Impact on Issuers and Advisors
These actions are very likely just the first in a series of upcoming ESG-related disclosures. Last year, Enforcement recognized widespread violations by issuers and advisors in allocating human and financial resources to the Climate and ESG Task Forces, sending a strong signal that enforcement efforts will continue. . (Indeed, enforcement is investigating Goldman Sachs’ asset management division, and is reportedly conducting investigations in connection with ESG disclosures alongside the Ministry of Justice and Deutsche Bank.) Investigations tend to last about two years on average, so we expect the number of investigations and enforcement actions to increase as the task force continues to strengthen.
Additionally, the SEC recently proposed significant new rules for issuers regarding climate-related disclosures and how investment advisors and investment firms manage disclosures about their ESG investment practices. If adopted, these rules would provide enforcement with a set of additional offenses for charging these entities.
Given these developments, issuers and advisors should expect increased SEC scrutiny of ESG-related disclosures and should be vigilant. Issuers should not assume that disclosure violations must reach the level alleged in the Vale litigation in order to attract the attention of law enforcement. Rather, companies would expect the SEC to cover any public statement that it interprets as concealing or minimizing environmental, social, or governance risks from its business, and that those risks are accurately disclosed. ensure that internal controls are designed to ensure that Those controls work effectively. Similarly, an advisor should pay attention to disclosure controls and ensure that the information he provides to current and prospective investors about his ESG investment practices is accurate with respect to each fund to which it refers.
We will continue to provide updates on the SEC’s evolving ESG focus.
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