The Council of Institutional Investors (CII) has called for action to be taken to improve issuers’ reporting around human capital management and ESG matters, at a time when non-governmental changes appear to have more momentum than regulatory reforms.
Human capital management is becoming an increasingly important issue for companies and investors, putting many governance teams in a position where they need to help boards understand the challenges and opportunities it presents.
In a recent letter to the US Senate banking committee, which held a hearing earlier this month on ESG issues, CII general counsel Jeffrey Mahoney writes that ‘institutional and retail investors have a pronounced interest in clear and comparable information about how public companies approach [human capital management].’
Mahoney points to an increasing body of evidence that suggests good human capital management practices are associated with better corporate performance. ‘Human capital is an increasingly important value driver for companies, including those with securities listed on US exchanges,’ he writes.
Although some CII members are more enthusiastic about using the ‘ESG’ label than others, ‘we are unaware of any segment of our membership that does not consider human capital as important to valuation of most companies, and critical in particular for certain growth sectors,’ he continues.
Despite this, companies’ disclosures on human capital have been limited in the past, in part due to the intangible nature of key components, Mahoney notes. ‘We believe the time has come to seek ways to improve disclosure of both qualitative and quantitative elements of performance in this area,’ he says. For example, employee turnover is a measurable and comparable statistic that should be viewed as an important disclosure by companies, according to Mahoney.
CII generally supports the recent recommendations of the investor-as-owner subcommittee of the SEC’s investor advisory committee, which states that: ‘[A]s part of its ongoing disclosure review, the commission… [will] undertake a robust examination of the role [human capital management] plays in value creation today and incorporate that analysis into the wide range of tasks the commission performs on behalf of investors and the US capital markets.’
The council also suggests that the SEC’s division of corporation finance consider issuing additional guidance on corporate disclosures in management discussion and analysis to encourage management to do better in sharing with investors its thinking and strategy on human capital development and risks.
Aside from human capital matters, ‘CII has found disclosures on various ESG risks too often consist of boilerplate risk identification without adequate discussion of how those risks apply to the individual registrant. And most registrants’ disclosures relating to ESG risks provide no basis for investors to understand the scope of the risks or the likelihood of their coming to fruition,’ Mahoney writes.
‘CII believes clearer and more comparable information about key ESG risks would benefit investors and the US capital markets. In that regard, we are encouraged by private sector efforts to harmonize ESG disclosures such as those of the Corporate Reporting Dialogue (CRD).’
The CRD was launched by the International Integrated Reporting Council (IIRC) with the aim of promoting greater coherence, consistency and comparability between corporate reporting frameworks, standards and other requirements. Member organizations are the CDP, the Climate Disclosure Standards Board (CDSB), FASB (as observer), the Global Reporting Initiative (GRI), the International Accounting Standards Board, International Organization for Standardization and SASB.
They launched a two-year project last November to push for better alignment between the different frameworks. SASB, GRI and CDP plan to map their frameworks against the Taskforce for Climate-Related Financial Disclosure recommendations, which were launched by Michael Bloomberg in 2017. Meanwhile, the IIRC and CDSB will look at how to further integrate non-financial and financial reporting.
‘We think adoption by investors and issuers of common ESG disclosure standards would be a highly significant market improvement, but we are not yet confident this can come about through private, non-mandatory work,’ Mahoney writes. ‘[But] even if a voluntary approach should fall short on providing comparable and reliable disclosures of key metrics, we think the work of the participants in the CRD will be important in clarifying best practice and informing eventual rule-making.’
In addition, CII argues that the SEC should challenge issuers to disclose material ESG risks as part of its routine disclosure reviews. ‘That disclosure should, at a minimum, be sufficiently detailed to provide insights as to how management plans to mitigate risks relating to ESG issues, and how associated decisions could be material to a company’s business or its investors,’ Mahoney says. ‘CII would expect that with more rigorous SEC staff oversight, issuer disclosures about climate-related risks would be more robust.’
It seems unlikely, however, that the SEC will impose new ESG-related reporting requirements in the near future. William Hinman, director of the division of corporation finance, recently revealed his lack of appetite for mandating specific ESG disclosures, stating a preference for market forces to determine what companies report.
‘While many market participants have expressed a desire for more specific sustainability disclosure requirements, others have concerns that specific sustainability disclosure requirements could result in disclosure that might not be considered material to a reasonable investor,’ he said.
Hinman pointed to an interpretive release published by the commission in 2010 that discussed how existing disclosure requirements may apply to climate-related issues and reminded companies of the need to regularly assess their disclosure obligations as they pertain to climate-related issues. That guidance remains a relevant and useful tool for companies, he said.
Hinman’s approach appears similar to that of SEC chair Jay Clayton. In remarks made earlier this year about human capital disclosure requirements, Clayton said: ‘I am wary of jumping in with rules or guidance that would mandate rigid standards or metrics for all public companies. Instead, I think investors would be better served by understanding the lens through which each company looks at [its] human capital.’
