The battles raging over ESG in the US show no sign of abating. While the anti-ESG movement in the Republican party stole a march on its proponents with a series of state-level bans, bills and boycotts, Democrats and investors have organised to fight back. The debate has even reached the White House.
With no sign of compromise on either side and the issue now being fought over in both the courts and Congress, where does the debate go from here?
Will Troutman, co-lead for ESG and human rights at Norton Rose Fulbright, said he would not be surprised if there is a “rush” for litigation seeking to get court opinions and definitions on what is ESG in the legal context.
Troutman explained to Responsible Investor: “Anti-ESG positions appear in part to be premised on the position that ESG-based investment decisions are non-pecuniary, risking investment returns. However, ESG advocates generally argue that ESG considerations are pecuniary – that they impact the viability of a company and weigh into the value and risk of a given investment.”
“If a court weighs in on this, it almost certainly will change the landscape.”
There are several ways in which cases could be brought to state courts, according to Troutman.
Firstly, an investor could bring a case against an investment adviser claiming that ESG decisions had lost them money. The adviser would defend by explaining that ESG was used to assess risk and value, and the court would rule accordingly.
Secondly, a shareholder could sue a company on the basis that ESG decisions had resulted in drop in share value and were not based on maximising shareholder value. The company would then defend by providing an explanation of how ESG decisions were intended to maximise shareholder value, according to Troutman.
In both instances, he noted, similar cases could also be brought from a pro-ESG perspective.
In the context of anti-ESG legislation – assuming there is no bar to suit in the law – a government employee or pensioner could litigate against a state pension fund which is subject to the law in question.
Troutman said the plaintiff could claim that the fund’s conformance with the law – for example, through divestment of funds from ESG investments – is a breach of fiduciary duties causing pecuniary damages to that employee/retiree by harming investment returns.
“The line of thinking being that the fund is not preparing itself for the fossil fuel regulations, post-fossil fuel and climate change economy, endangering investment returns etc. The pension fund would then presumably assert as an affirmative defence that it is complying with anti-ESG legislation. This could lead to the court ruling on the question of whether ESG is pecuniary, or the conditions under which it is.”
Also in the anti-ESG legislation context, a state pension fund or other state actor could choose to ignore or violate an anti-ESG or boycott law.
If the state attorney general or another actor then sought to enforce the law, Troutman said: “Presumably the state pension fund or other actor would present evidence that ESG investing is pecuniary/consistent with fiduciary duties/prudent investing, which could also lead to the court ruling on the nature of ESG.”
Already some state pension funds have vocally come out against local anti-ESG legislation.
At a special meeting in February, the board of trustees of the $20 billion Kentucky County Employees Retirement System (KCERS) voted to approve a letter to state treasurer Allison Ball advising that the pension fund would not divest from any of the 11 financial institutions deemed by her office to be boycotting energy companies.
Trustees at the KCERS meeting voiced concerns about the cost of ending contracts with current managers and finding new ones, and the risk that exclusions could introduce tracking error.
Fund CEO Ed Owens also noted that there was no guarantee that new managers found by the fund would stay off future iterations of the list, raising the risk of repeated costs.
He added that, if a state takes action/divests a company or a financial institution in response to anti-ESG laws, “the institution or an association could say this is an overreach, that it forces a violation of investor and fiduciary duties, laws, and regulations”.
Meanwhile in November, the Kentucky banks’ association announced plans to sue the attorney general for allegedly exceeding his authority and violating first amendment rights by issuing subpoenas and civil investigative demands to Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley and Wells Fargo in respect of anti-ESG laws.
Some anti-ESG legislation, such as Texas’s fossil fuel boycott law, prohibit legal action – but, as Troutman noted: “Somebody may find a creative way to plead around it.”
More broadly, he pointed to investors using litigation to push companies to do more on ESG. For example, in October six European pension funds started legal proceedings against Volkswagen over the firm’s repeated refusal to table a shareholder proposal calling for greater disclosure around its climate lobbying.
For Troutman, the current ESG backlash could increase pressure on investors or NGOs to bring forward more cases at companies.
“One could imagine scenarios in which pro-ESG investors or NGOs could view the anti-ESG movement as competition for directing company decisions,” he said. “In other words, if the pro-ESG investors/NGOs are not more aggressive, they could cede ground to competing anti-ESG interests.”