Don’t miss PracticalESG.com’s next free virtual event – “Developments in EU Policy and ESG Disclosure Assurance.” You can register here for this 3-hour program, which will kick-off at 12:00 pm eastern on Tuesday, May 14th. This virtual event features three panels of experts who will provide insights into the intricate policy landscape shaping EU regulations, strategies for ensuring compliance, and what to expect in ESG/climate report assurance and how to prepare for it.
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The Hoover Institution and other Stanford-affiliated entities recently published the results of a survey of senior decision-makers at 47 of the largest institutional investment firms and asset managers in North America, Europe & Asia on sustainable investing priorities. The survey found that when it comes to ESG issues, there’s climate change and corporate governance, and then there’s everything else. This excerpt summarizes some of the key findings:
– When asked which ESG factors fund managers explicitly consider as part of an investment decision, climate change ranks as the most important, selected by 78% of respondents. After this, the next four factors are all governance-related: board structure (72%), ownership structure (72%), board diversity (65%), and quality of financial reporting (57%).
– The least important ESG factors according to respondents are the ratio of CEO pay to the pay of the average worker (20%), pollution and waste byproducts (24%), packaging and product waste (24%), and raw material sourcing (26%).
– Most investors (67%) consider ESG quality as one of many factors when making an investment decision; 2% use it to screen out potential investments, while 11% do not rely on it at all. Overall, 59% say ESG is important, while 41% say it is not.
Since investors appear to be most interested in governance and climate-related issues, I found another one of the survey’s conclusions a little surprising. The survey found that 98% of investors believe that governance risks are appropriately reflected in stock prices and 76% believe that climate risks are mostly or somewhat reflected in those prices. In contrast, only 50% said environmental risks (other than climate change) and 46% said social risks are reflected in stock prices. If that’s what these investors think, shouldn’t the risks that aren’t appropriately reflected in the market price for company stocks be more of a priority to them?
Last month, Dave blogged about the SCOTUS’s decision in the Macquarie case, in which the Court held that a company’s “pure omission” to disclose information concerning known trends required by Item 303 of Regulation S-K could not serve as the basis for a private securities fraud claim. The decision may have some companies wondering whether they’re off the hook for known trends disclosures, but a recent Weil memo makes it clear that they aren’t.
The memo points out that the decision doesn’t affect the SEC’s ability to bring an enforcement action for failure to comply with Item 303’s disclosure requirements, and that any protection that it provides against private claims may turn out to be very limited:
As the Court itself stated: “For one thing, private parties remain free to bring claims based on Item 303 violations that create misleading half-truths.” A half-truth by its nature is an affirmative statement that may be literally accurate, but it is nonetheless misleading due to the failure to provide additional qualifying information. “In other words, the difference between a pure omission and a half-truth is the difference between a child not telling his parents he ate a whole cake and telling them he had dessert.”
So following Macquarie, a claim that was once asserted as a pure omission of required SEC disclosure may instead be recast as a claim that other affirmative statements in the disclosure were rendered misleading by such omission. The practical result is that companies may continue to face litigation and liability exposure as a result of such omission.
For instance, consider the SEC’s examples of currently known trends and uncertainties that may require disclosure in the MD&A, such as a reduction in the company’s prices, an erosion in its market share and the likely non-renewal of a material contract. It would seem that a plaintiff in such cases would seek to identify affirmative statements in a company’s public disclosures that were rendered misleading (i.e. “half-truths”) as result of the failure to disclose the known trend or uncertainty. For example, if a company makes statements regarding the impact on revenues of a material contract, knowing that the material contract is not likely to be renewed, a plaintiff might argue that these statements are actionable “half-truths” under Rule 10b-5 if the company omits to disclose the potential non-renewal of that contract.
The memo also notes that while Rule 10b-5 may not be available to private plaintiffs in a pure omissions case, Section 11 of the Securities Act does provide for liability based on material omissions of information required to be included in a Securities Act registration statement.
Check out our latest “Timely Takes” Podcast featuring Orrick’s J.T. Ho & his monthly update on securities & governance developments. In this installment, J.T. reviews:
– Climate disclosure rules developments
– New DEI case law from the 4th Circuit
– AI developments on the disclosure & enforcement front
– Cybersecurity guidance and Corp Fin staff comments
-ISS & Glass Lewis developments
As always, if you have insights on a securities law, capital markets or corporate governance issue, trend or development that you’d like to share in a podcast, we’d love to hear from you. You can email me and/or Meredith at john@thecorporatecounsel.net or mervine@ccrcorp.com.
On Friday, the SEC’s Division of Enforcement announced enforcement proceedings against the BF Borgers CPA PC accounting firm and its sole partner, Benjamin Borgers, for alleged “deliberate and systemic failures” to comply with PCAOB standards in audits and reviews incorporated in more than 1,500 SEC filings from January 2021 through June 2023. As this excerpt from the SEC’s press release illustrates, the allegations are jaw-dropping:
The SEC’s order finds that, among other things, the Respondents failed to adequately supervise and review the work of the team performing the audits and reviews; did not properly prepare and maintain audit documentation, known as “workpapers;” and failed to obtain engagement quality reviews, without which an audit firm may not issue an audit report. According to the SEC’s order, of 369 BF Borgers clients whose public filings from January 2021 through June 2023 incorporated BF Borgers’s audits and reviews, at least 75 percent of the filings incorporated BF Borgers’s audits and reviews that did not comply with PCAOB standards.
The SEC’s order further finds that, at Benjamin Borgers’s direction, BF Borgers staff copied workpapers from previous engagements for their clients, changing only the relevant dates, and then passed them off as workpapers for the current audit period. As a result, the order finds, BF Borgers’s workpapers falsely documented work that had not been performed. Among other things, the workpapers regularly documented purported planning meetings – required to discuss a client’s business and consider any potential risk areas – that never occurred and falsely represented that both Benjamin Borgers, as the partner in charge of the engagement, and an engagement quality reviewer had reviewed and approved the work.
The SEC’s order in this case reads like a litany of every SEC rule & statutory provision that an auditor could conceivably violate (or cause its client to violate) in connection with an audit or review engagement. The case was settled on a neither admit nor deny basis, but not surprisingly, the SEC absolutely clobbered both respondents in terms of the sanctions it imposed. In addition to hefty monetary penalties, the SEC essentially put an end to both respondents’ public company practice by issuing an order under Rule 102(e) denying them the privilege of appearing or practicing before the SEC as an accountant.
BF Borgers may not have been well known to many of our readers before last Friday, but the firm has been a fairly significant player, particularly among small cap issuers. The firm ranked 8th in overall market share for public company audits last year & ranked 6th in market share for non-SPAC initial public offerings. It also was the auditor for a particularly high-profile public company, Trump Media, and . . . umm. . . [This marks the point where I stopped writing and bit my tongue so hard I had to go to the ER for stitches.]
It’s hard to overstate the mess that the BF Borgers scandal creates for its public company clients. In an effort to provide some guidance to those clients, Corp Fin’s Office of the Chief Accountant issued a statement highlighting their disclosure and reporting obligations. In addition to flagging the Item 4.01 8-K report required in connection with a change in accountants, the statement highlights the impact on companies with respect to their future SEC filings:
– Form 10-K filings on or after the date of the Order may not include audit reports from BF Borgers. Each fiscal year presented must be audited by a qualified, independent, PCAOB-registered public accountant that is permitted to appear or practice before the Commission.
– Form 10-Q filings on or after the date of the Order may not present financial information that has been reviewed by BF Borgers. Each quarterly period presented must be reviewed by a qualified, independent, PCAOB-registered public accountant that is permitted to appear or practice before the Commission.
– Form 20-F filings on or after the date of the Order may not include audit reports from BF Borgers. Each fiscal year presented must be audited by a qualified, independent, PCAOB-registered public accountant that is permitted to appear or practice before the Commission.
That means that companies are going to need to re-audit all of the years covered by a BF Borgers audit report for their next 10-K and re-do prior interim reviews for periods presented in upcoming 10-Qs. Unfortunately, for some of those companies, that may be the least of their problems.
For instance, the timing of the SEC’s action means that former Borgers clients face a looming 10-Q deadline, and even with a Rule 12b-25 extension, it may be practically impossible to retain a new accountant and complete the required review by the extended 10-Q deadline. Under the circumstances, I expect that any new accounting firm will need to do a lot of additional work before it will issue a review report and that audit committees will want to have those numbers scrubbed very hard before signing off on a 10-Q filing containing them. The bottom line is that many of these companies are going to be late filers.
What’s more, given all the work that Borgers apparently didn’t do on hundreds of audits, once new auditors start poking around, my guess is we’re likely to see a fair share of these companies conclude that restatements of prior audits are necessary – which will open up a “whole ‘nother bag of snakes.”
By now, BF Borgers’ audit clients and their lawyers may feel like their heads are spinning, and with good reason. This is a mess, and there are going to be a lot of challenging issues for those companies and their advisors to address during the coming weeks. My guess is that the Staff will have more to say at some point about this situation, but in the meantime, we have resources that can help. These include:
ExxonMobil filed its definitive proxy statement yesterday, and – Holy Smokes! – it’s quite a read. The company devotes three full pages to a scorching diatribe against the current shareholder proposal process and those proponents and representatives whom it believes abuse that process. Here’s a taste of what ExxonMobil had to say:
The proposal process is being abused by those who treat shareholder democracy as a venue for activism and counter-activism, from self-styled “green” or “progressive” groups to the “anti-ESG” organizations that oppose them. In recent years, ExxonMobil has seen proposals that target Board members for their public statements, cherry pick key performance indicators to be alternately used or not used by the Company, redefine risk based on each proponent’s narrow view of the energy transition, and demand dozens of often contradictory actions – all driven more by ideology than shareholder value. When these proposals come to a vote, the low shareholder support they receive makes it clear that they do not add value, except perhaps to the proponents or their representatives in driving their marketing and fundraising efforts while they advance their individual agendas.
Over the past two years, proposals have been submitted to ExxonMobil seeking more than 19 new reports – including 13 such proposals that are or were on topics the Company already covers in its reporting. Many of these prescribe metrics and approaches that are inconsistent with the realities of the Company and the industry; advance unproven and poorly defined notions of materiality; or seek reports based on narrow, remote, or unlikely future scenarios to advance a specific agenda, not to enhance shareholder value.
Many of the proponents and representatives work with each other or other activist organizations, and hijack the shareholder proposal process to advance their own agenda, which often conflicts with growing investors’ value.
ExxonMobil goes on to identify the various proponents and representatives by name and highlights their efforts to collaborate on shareholder proposals. The company concludes this part of its smackdown with the following statement: “We are increasingly seeing a number of proposals each year, backed by the same activist organizations, submitted by different named shareholders. We believe that this is a misuse of the shareholder proposal process, which is designed to allow a shareholder to submit a single proposal each year.”
The company’s lawsuit seeking to exclude proposals submitted by Arjuna Capital and Follow This – which also gets a fairly lengthy mention in this part of the proxy – already signaled that ExxonMobil was prepared to play hardball with shareholder proponents this season, and its proxy disclosure makes it clear that it isn’t backing off.
Whether ExxonMobil’s strategy is a good one is an open question, but as someone who dealt with a few very frustrating shareholder proposals and proponents in a prior life, I’d be willing to bet that drafting this disclosure must have been a truly cathartic experience for everyone involved! (Thanks to Rhonda Brauer for tipping us off to this filing).
Remember the Barclays PLC over-issuance debacle from a few years ago? Unfortunately, the SDNY’s recent decision in In re Barclays PLC Sec. Litig., (SDNY 2/24) refusing to dismiss Rule 10b-5 claims against the company indicates that the repercussions from that incident continue to unfold. In that decision, the Court concluded that the plaintiff had adequately alleged that the company’s failure to appropriately track the amount of securities it had available under its shelf registration statement demonstrated that statements it made about its internal controls were misleading. This excerpt from Shearman’s blog on the case explains the Court’s reasoning:
The Court first considered the company’s general statements relating to internal controls before the alleged over-issuances were revealed, including that the company was “committed to operating within a strong system of internal control” and had “frameworks, policies and standards” that enabled the company “to meet regulators’ expectations relating to internal control and assurance.” The Court rejected defendants’ argument that these statements were too “simple and generic” to be actionable, explaining that, according to the complaint’s allegations, the company allegedly did not have any control mechanism in place to prevent the over-issuance of securities and the supposed omission of this lack of a control system was adequately alleged to be material.
The Court stressed that, in its view, the allegations were not merely that the company’s systems underperformed; rather, the allegations were that no system for tracking the company’s securities issuances existed at all. The Court further held that because it concluded that these statements were actionable, plaintiff could also pursue claims challenging the company’s Exchange Act compliance certifications.
The Court also found that the plaintiffs had adequately alleged that the company was reckless in failing to implement controls to appropriately track shelf issuances after the company lost its WKSI status. In reaching that conclusion, the Court noted the magnitude of the over-issuances and the fact that they had been uncovered through a simple inquiry from a low-level employee to the legal department.
With so many different jurisdictions imposing climate disclosure and reporting obligations, it’s very hard to keep track of what must be disclosed and to whom it must be disclosed. That’s why I think those of you who are struggling to deal with the brave new world of multiple climate disclosure regimes will find this Freshfields memo to be a helpful resource.
The memo includes a chart comparing the requirements under the SEC’s final rules, the ISSB standards, the EU’s CSRD & ESRS rules, and California’s SB 253 and SB 261 legislation. That chart is accompanied by a narrative discussion highlighting some of the differences between the regimes. This excerpt discusses the differences in the way each of these regulatory schemes approaches disclosures about transition plans and targets and goals:
Under the Final Rules, companies are only required to disclose climate-related targets that have materially affected or are reasonably likely to materially affect the company’s business, results of operations or financial condition as well as information necessary to understand the material impact or reasonably likely material impact of the target or goals and provide annual updates on actions taken to achieve such targets or goals.
Companies subject to the CSRD are required to disclose their climate-related targets and transition plans, if any, to ensure their business model is compatible with, among other things, the objectives of limiting global warming to 1.5°C in line with the Paris Agreement. The California Rules’ broader standard only requires disclosure of a company’s measures adopted to reduce and adapt to climate-related financial risk disclosed.
The memo says that companies developing transition plans and targets and goals need to consider the disclosure implications under each of these regimes and consider the potential liability, reputational and other risks arising out of the need to comply with differing disclosure requirements.
