With all of the anti-ESG legislation being enacted and the increase in greenwashing, diversity, environmental justice and shareholder litigation, companies have been asking whether ESG is still a driving force for business. The answer is a resounding YES!
Data collected as recently as October 2023 confirms that ESG is not going anywhere. While some companies are softly retreating to terminology like “corporate responsibility” or “sustainability,” the substance that makes up the components of their ESG programs and goals is sticking because stakeholders demand it. Three-fourths of Americans believe companies need to positively impact society, and the large U.S. corporations that best meet stakeholder needs saw a 4.5% higher profit margin and a 2.3% higher return on equity and they paid five times more in dividends. (“Why Companies Should Prioritize ESG and Tips for Success,” forbes.com, October 4, 2023). At the same time, 70% of potential employees are more likely to apply for and accept a job from a socially responsible organization, and 92% of U.S. investors believe a company with a strong ESG performance deserves a premium valuation of its share price. Id. And look how far the world has come without any regulation.
Yet as we enter this new era and move away from solely voluntary disclosures, it will be more important than ever for companies to continue to develop authentic ESG programs that align with company values and stakeholder input and to keep these programs fluid and flexible.
Here are 10 ESG-related items to evaluate (and watch) in 2024:
- The Securities and Exchange Commission’s (SEC) rule for climate-related disclosures. While no one has a crystal ball, the vast majority of ESG professionals believe that the SEC will work its way through the almost 16,000 comments it received and issue the long-awaited final rule for climate-related disclosures. While it is likely that the final rule will be challenged, its approach to Scope 3 emissions (greenhouse gas emissions up and down a company’s value chain) will impact public companies that have to directly report to the SEC as well as many private companies through the “flow down” impact public companies impose on their suppliers. Hopefully, the public companies are ready and have set up a process that will support making their climate-related financial reporting as reliable as their historic financial reporting.
- The California Air Resources Board’s (CARB) regulations interpreting California’s new climate laws (CA B 253, 261 and AB 1305). California wins the prize for being first out of the gate with new ESG laws regulating companies that do business in the state. Yet CARB is now tasked with telling the world what these vague and difficult-to-interpret laws mean; CARB has until January 1, 2025, to complete this mission. The new laws will require Scope 3 disclosures by 2027, and California’s requirements are generally broader than the proposed SEC rule, applying to both private and public companies that do business in California and generate over $1 billion in gross annual revenue. There is also a new very broad law imposing mandates on carbon offsets and net-zero disclosures, although it will be a while before the regulated community truly understands the full meaning of these new requirements and how they will interact with the other regulations arising on the federal level. While companies are eager to prepare, it will be interesting to see if CARB provides any previews next year.
- The Federal Trade Commission’s (FTC) Green Guides. As with the SEC rule, every company that makes any type of environmental claim wants to know when the FTC will issue its new Green Guides, the premier resources aimed at preventing deceptive claims about the environmental benefits of products or services. The FTC was supposed to provide an update back in 2022, but we are still living with the 2012 version. While the comment period for the Green Guides update ended in April 2023, many experts are not optimistic that the FTC will even issue the long-awaited update in 2024 due to the number of comments it received and the breadth of changes that will be required. It will be important to monitor if 2024 is the FTC’s year, as the update will be the instruction manual for how to make environmental marketing claims while mitigating the risk of greenwashing litigation. Businesses will also need to keep an eye out for increased FTC enforcement, which is expected to quickly follow the release of the update.
- Has your materiality assessment gotten stale? Many companies go through the strategic process of launching their ESG programs from the ground up with a materiality assessment (although the better term is a prioritization assessment). This best practice tool allows an organization to gather information from stakeholders to identify which issues under the ESG umbrella are most important to employees, suppliers, customers and investors. Yet stakeholder values change over time, so ESG programs need to stay nimble and fluid. Thus, a pre-COVID materiality assessment may not serve a company well in 2024 and beyond. Indeed, it may be time to initiate a reboot or consider breaking the assessment down by business units or locations to get greater clarity around what really matters and where the company’s goals should be focused and dollars should be spent.
- What Corporate Sustainability Reporting Directive (CSRD) disclosures will actually look like. While U.S. companies doing business in the EU have received a two-year reprieve, EU-based companies will be faced with CSRD next year. As of January 1, 2024, European companies complying with the Non-Financial Reporting Directive will be required to report on climate impact as well as various social topics (which is broader than the SEC rule). Other types of companies will be phased in from there. CSRD is intense and requires disclosure of double materiality (i.e., impact to the business and the climate) and auditing of data, which makes the mandates a whole new ballgame for most businesses. The goal is to improve the quality and reliability of this type of data for investors, but it will be interesting to see the practical effect. Thus, it is time to apply the company’s best practices for disclosure of historical financial information to GHG emissions and other related environment impact statements that are provided as part of the CSRD directive.
- Task Force on Climate-Related Financial Disclosures (TCFD) requirements. TCFD seems to be the chosen standard/framework to comply with both the upcoming SEC and CSRD mandates, but TCFD published its final report in October of this year, which confirmed the momentum of companies disclosing TCFD-aligned information. As the task force is disbanded, the International Sustainability Standards Board will take over monitoring climate-related disclosures and reporting to the Financial Stability Board, but – at least at this point in time – TCFD will live on as the most accepted “gold standard” reporting framework.
- Whether courts will back companies as greenwashing and diversity-related claims rise. Right now, many courts are facing pending motions to dismiss from companies trying to defeat consumer class actions and other fraudulent misrepresentation claims that fall into every growing bucket of greenwashing claims. While plaintiffs are pushing the envelope on these claims, companies are pushing back, and courts have been fairly aggressive in dismissing claims. (See, e.g., David Swartz v. The Coca-Cola Company, N. Dist. CA, Nov. 18, 2022; Lizama, et al. v. H&M, E.D Missouri, June 2, 2023). Yet there are too many claims pending to count, and after the Supreme Court’s decision on affirmative action (SFFS v. President & Fellows of Harvard College, et al., June 29, 2023), various groups also are aggressively going after diversity, equity, inclusion and belonging programs as well as filing reverse discrimination claims. (See, e.g., Brian Craig v. Target, M.D. Florida, Aug. 8, 2023). While the Supreme Court’s opinion in the Harvard case is pretty narrow, it looks like the lack of regulation around these issues has created a gap that may be filled with court precedent next year, which may require some companies to revisit and revise aspects of their ESG programs.
- Decreased interest in carbon offsets and increased litigation related to carbon offset contracts. There is a clear trend indicating that key ESG stakeholders will not accept carbon offsets in place of addressing root cause problems for GHG emissions; thus, this alleged “pay to play” replacement will be looked at very closely in the coming year. Most recently, a California federal court threw out a lawsuit (with leave to amend) against an arts and crafts company related to carbon offset claims it made associated with shipping its products. The risk to companies purchasing these offsets is heightened by the challenges inherent in the contracts and a company’s ability to collect damages should the offset provider not be able to deliver. Liquidated damages will most definitely not cut it when a company may face litigation and enforcement from an offset agreement gone bad. Injunctive relief may be helpful, but only if there is an action that can be enforced, and oftentimes the offset just does not exist. This will remain a risky proposition in the coming years.
- An uptick in the “flow down” impact. Scope 3 emissions are the heart of every company’s emissions. According to the UN Global Compact, a non-binding United Nations pact to get businesses to adopt sustainable and socially responsible policies and report on them (July 26, 2000), Scope 3 emissions make up at least 70% of a company’s emissions. Some companies even report that Scope 3 emissions make up 95% of total emissions. (“Tackling the scope 3 challenge,” PWC Global in collaboration with The Climate Group, October 28, 2022). The pending regulatory framework will require a deeper dive into a company’s full supply chain, both upstream and downstream, to even begin to tackle Scope 3. Thus, there will be additional mandates to meet the Science Based Targets Initiative, a rigorous and expensive process that validates GHG emission calculations and data and allows a company that successfully completes the process to rely on the certification. The days of customer surveys and forms and requests related to ESG are just beginning. Creating a single streamlined response framework and workflow will be critical.
- A way to track data comprehensively. The number one challenge businesses faced in 2022, according to a Thompson Hine ESG Collaborative survey, is tracking data. ESG professionals’ email boxes are full of messages from companies trying to sell a one-size-fits-all solution; yet as of now, there is not a single product that can synthesize and amalgamate all of the data needed to substantiate a company’s full set of goals and metrics under the ESG umbrella. Between the use of AI and the development of more specific and streamlined reporting frameworks, it is highly likely that various solutions will emerge. In the interim, it remains critical to continue collecting data to back every claim or statement that is made, to update it frequently and, ideally, to regularly audit the data. This is the best risk mitigation strategy available for now.
There are many significant developments on the ESG horizon as we shift into a new area of requirements and mandates. Be sure to make a New Year’s resolution that includes tracking this ever-changing landscape. The seismic shifts that are expected in 2024 will impact all businesses, public and private. Put the resources in place now to allow your business to be agile and proactive in meeting stakeholder expectations for ESG and everything that falls under that ever-growing umbrella.
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