The Policy Environment on ESG

More than in recent years, 2019 saw a number of significant developments take place at the intersection of public policy in Washington, DC and the movement to integrate environment, social, and governance (ESG) considerations into how companies are evaluated by investors and managed by executives.

In July the Financial Services Committee in the U.S. House of Representatives held the first-ever hearings in Congress on how to better integrate ESG factors into corporate decision making. Furthermore, the House Financial Services Committee passed two bills – one in July (HR 3624) requiring companies to disclose risks to their business model posed by climate change and a second in September (HR 4329) compelling companies to link ESG practices to long-term business strategy. While unlikely to become law, those bills represent the most tangible efforts by Congress to date to dictate the ESG disclosures companies must provide to the public.

In August the Business Roundtable – a prominent Washington, DC-based trade association made up of CEOs from major U.S. companies – issued “Statement on the Purpose of a Corporation.” The statement was signed by 181 of its CEOs and called for companies to create “long-term value for all stakeholders” by taking actions that create value not just for the company but also society. This statement is a reflection of a growing belief among the public that companies must no longer be managed solely to create value for shareholders. Rather, a broader approach is needed that considers a company’s impact on stakeholders – not just shareholders. Stakeholders range from employees to residents in the communities in which a company operates to workers in its supply chain.

Throughout 2019 the Securities and Exchange Commission (SEC) has been reviewing its rules and guidelines on corporate governance practices and considering modifications to its policies on how companies must report on ESG factors. Largely reflecting the views of a Republican Administration, the SEC has made clear both in statements by commissioners and its policies that it favors a market-based approach rather than the prescriptive approach outlined by the bills passed by the House Financial Services Committee.

However, there is one potentially significant exception. In August the SEC released its “Modernization of Regulation S-K Items 101, 103, and 105” in which it proposed to expand what companies must disclose about their human capital resources. Currently, companies only need to disclose the number of employees they have. If the SEC proposal goes into effect, it would compel companies to share information on topics related to their employees such as: hiring practices, benefits, workplace health and safety, and grievance mechanisms for employees to raise complaints about working conditions.

Beyond the public pronouncements of CEOs and possible policy changes to ESG disclosure practices, many investors are pushing corporate executives to proactively manage their companies with ESG factors fully integrated into the business strategy. A paper published by Robert Eccles and Svetlana Klimenko in Harvard Business Review found that ESG issues in the corporate sector were “top of mind” for virtually every one of the 70 executives at investment firms interviewed for the research. Furthermore, there has been a “surge in investments” in the U.S. to companies that report on ESG practices – with an estimated $12 trillion is now invested in such companies.

The Lack of Collaboration

With the legislative actions of Congress, the changing views of CEOs, stepped up interest in corporate reporting on an important subset of ESG issues by the SEC, and the continued focus by investors on the ESG practices of companies, one could assume these actors are actively collaborating and sharing the same thoughts and ideas.

However, an analysis of nearly 200 news articles, blog posts, statements before Congress, and research papers published in 2019 found that is not the case. Instead, the actors are engaged in four very different conversations with little overlap.

Below is a network map of the conversation with each of the articles studied in the analysis represented by a dot. The articles are clustered into four conversations:

• Trends in ESG Practices (Red) – the manner in which companies are broadly adapting their governance practices to better align with ESG factors and the pressure they are facing from investors to integrate ESG into their business.
• Integrating ESG into Investment Practices (Green) – the manner in which investors are integrating ESG criteria into investment decisions.
• Role of Corporations in Society (Purple) – the release of and reaction to the Business Roundtable statement on the new role of corporations in society.
• House Financial Services Committee (Blue) – the discussion triggered by the Committee’s hearings on ESG issues and passing HR 3624 and HR 4329.

What This Means

Each of the clusters is condensed but clearly separate from the others. This means two things:

• The language used when discussing each topics is very similar within the topic but very distinct from the others. If CEOs, investors, and policymakers were using similar language when discussing ESG issues we would see a lot more lines going between the four clusters.
• The ideas of the actors are isolated from each other. If ideas were more commonly held and shared among actors (such as through joint interviews in news articles or co-authored thought pieces), the clusters would be much more connected and located closer to each other. Instead, it is the dots within each cluster that are tightly connected – a sign of “group think” rather than a back and forth exchange of ideas in search of opportunities for collaboration and consensus.

In other words, the Business Roundtable letter from the CEOs talked about the role of corporations in society in a manner that is different from how investors and policymakers are talking about ESG issues. Perhaps most concerning is that the legislative work of the House Financial Services Committee is very isolated from the rest of the conversation – meaning there is a risk that policy is being developed that is out of step with how others are looking at the intersection of ESG, investment strategies, the role of companies in society, and the work of the SEC.

The outcome of these disparate conversations is that companies, investors, or the general public do not have the benefit of a more consolidated framework by which to guide greater ESG practices in the private sector. Yes, ESG integration requires flexibility across industries and investment strategies. However, the nature of these conversations is a continuation of how ESG issues have evolved in the U.S. – through a fragmented and patchwork approach. This could be preventing the acceleration of efforts to incorporate greater environmental, social, and governance considerations into how we produce, sell, and invest in goods and services.

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Source: Analysis by author of data collected and visualized by Quid from January 1, 2019 – November 11, 2019