On May 25, 2022, the Securities and Exchange Commission (the “SEC”) proposed rule and form amendments under both the Investment Advisers Act of 1940, as amended, and the Investment Company Act of 1940, as amended, to require registered investment advisers, certain advisers that are exempt from registration, registered investment companies, and business development companies to provide information regarding their environmental, social, and governance (“ESG”) investment practices. This proposal follows the controversial SEC proposal from March 2022 regarding certain climate-related disclosure for public companies (summarized by us here).
The SEC believes that increased investor interest in ESG practices together with the lack of disclosure requirements for ESG investing can make it difficult for investors who want to understand which investments or investment strategies are associated with a particular ESG strategy. The proposed amendments are designed to help investors and those who advise investors make more informed decisions with respect to ESG investing, be better positioned to reliably compare fund and investment strategies, and determine whether ESG statements and representations actually translate into concrete measures taken to address ESG goals and portfolio allocation.
The proposed amendments would:
- Require specific disclosures on ESG strategies in fund prospectuses, annual reports, and adviser brochures;
- Create a standardized reporting table for certain ESG funds; and
- Require certain environmentally-focused funds to disclose greenhouse gas (“GHG”) emissions of their portfolio. Funds that disclose they do not consider GHG emissions as part of their ESG strategy are not subject to this requirement.
For funds, the amount of specific disclosure on ESG strategies would depend on the degree to which ESG factors are significant to a fund’s strategy. The SEC’s proposal identifies three categories of funds or strategies: integration, ESG-focused, and impact.
Integration funds consider ESG factors, among many others, in their investment selection process. For integration funds, ESG factors would generally not be given greater consideration than other non-ESG factors in the investment selection process.
ESG-focused funds are those which market themselves as ESG-focused and consider ESG factors as a significant or main consideration in their investment strategy. This category includes funds that have a policy of voting its proxies and engaging with management of its portfolio companies to encourage ESG practices. Under the proposed rules, ESG-focused funds will require more specific disclosure on ESG strategies than integration funds, including a standardized “ESG Strategy Overview” table that gives an overview of a fund’s construction and other information to provide investors with sufficient information to determine whether a fund’s methodology aligns with its ESG-related priorities.
Impact funds are a subset of ESG-focused funds and seek to achieve one or more specific ESG objectives or impacts. Under the proposed amendments, impact funds will have the most substantial disclosure obligations. If the rules are adopted, impact funds will be required to disclose how the fund measures progress towards the stated impact and the relationship between the impact and the fund’s financial returns. Additionally, as a subset of ESG-focused funds, impact funds would also be required to provide the ESG Strategy Overview table.
Under the proposed rules, advisers that consider ESG factors will be required to make generally similar disclosures regarding the consideration of ESG factors in significant investment strategies by reporting certain ESG-related information in their annual filings. As is the case with funds, the amount of ESG-related disclosure will depend on the degree to which ESG factors are significant to the adviser’s strategy: integration, ESG-focused, or impact.
The proposed amendments would also require ESG-focused funds that consider environmental factors to disclose certain GHG emissions information (including carbon footprint and average carbon intensity) of their portfolio. This would not be required of funds that state that they do not consider GHG emissions as part of their ESG investment strategy.
The public comment period ends August 17, 2022. The SEC proposed a one-year compliance period for the proposed disclosure requirements after effectiveness (which would be 60 days after publication of the adopted rule in the Federal Register).
The proposed amendments are summarized in the SEC’s Fact Sheet. We will monitor this proposal and provide updates as appropriate. In the interim, if you have any questions about this proposal, please contact a member of Harter Secrest & Emery’s Securities and Capital Markets group at 585.232.6500 or 716.853.1616.