Illustrations: Verónica Gresch
How the environmental, social, and governance movement is gaining ground in boardrooms, law firms, and legal scholarship
By Jeannie Naujeck
The dot-com bubble burst shortly after Susan Mac Cormac JD/LLM ’93 made partner at Morrison & Foerster in 2001. The implosion had a huge impact on Bay Area law firms focused on tech, resulting in canceled deals, layoffs, and even closures. But for Mac Cormac, it would open up new opportunities for her corporate law practice.Her husband had recently left his own tech career to help restore the Presidio of San Francisco, and the couple had moved into the national park. Mac Cormac found herself among a crowd of passionate environmentalists whose perspective she found fascinating. “I started to see the intersection between climate and humanity,” she says. “And I put it together that business was going to have to fundamentally change.” She approached a senior partner at her firm about concentrating her work on the junction of environmental and corporate law. “He said, ‘I don’t see any money in that, but if you want to focus on it we will support you,’” she says. Indeed, most of that early work was pro bono for nonprofits like The Nature Conservancy rather than businesses. But today it’s a different story. Mac Cormac now chairs her firm’s energy and infrastructure and social enterprise and impact investing practices, leading a group of more than 40 attorneys who work on environmental, social, and governance — or ESG — issues. And among their corporate clients, ESG is at the top of the agenda in response to pressure from consumers, investors, and regulators.
“Five years ago nobody had an ESG practice. Now everybody does.” — Susan Mac Cormac JD/LLM ’93, who heads a group of more than 40 Morrison & Foerster attorneys who work on ESG issues.
Examining investor pressure behind the corporate ESG focusMultiple drivers are contributing to the momentum in ESG, says Ronald Wu JD/MEM ’10, head of ESG/sustainability research, Asia Pacific, for UBS Investment Bank. These include asset owners pushing investment managers to integrate ESG considerations and markets drafting new regulations to create the ecosystem and rules for ESG investing. “And for a lot of younger people, ESG and climate are important issues and their attitudes and their actions are really changing companies and how investors are acting. All those things coming together are really pushing the agenda forward,” Wu says. The biggest push is coming from institutional investors whose assertion on ESG matters is having a profound impact on corporate behavior and governance, notably the Big Three — BlackRock, Vanguard, and State Street. These investors collectively have more than $20 trillion in assets under management and own more than a fifth of the shares in S&P 500 companies. Much of that money is invested on behalf of pension funds, but the firms also are catering to a growing market for ESG investing by creating funds that purport to invest in companies focused on environmental sustainability and social impact along with growth. Such funds, which often come with higher management fees, are attracting large amounts of capital, particularly from socially conscious millennials. In the first quarter of 2021, investors poured almost $21.5 billion into ESG or sustainability-focused funds, more than double the amount for the same quarter one year ago, according to Morningstar.
“Unless [institutional investors] can prove that their ESG activism increases shareholder value, they are arguably breaching their fiduciary duties to those shareholders who are not interested in pursuing ESG if it harms their pocketbooks.” — Professor Elisabeth de FontenayInstitutional investors have been using their massive leverage to vote against management and to back shareholder resolutions on issues related to climate change and the environment, human rights, employee treatment, and corporate board diversity. BlackRock CEO Larry Fink also has used his annual letters to issue increasingly urgent warnings to company executives on climate change. In January 2021 he requested they disclose plans for adapting their business models to a net-zero emissions economy. “These letters have really, I think, propelled the conversation forward in a very significant way,” says GFMC Executive Director and Lecturing Fellow Lee Reiners, who teaches seminars relating to financial policy and regulatory practice. “They are managing trillions of dollars worth of assets, so when they say that they are going to focus on something or care about something, firms listen and take action.” But not everyone believes ESG activism is the proper role for investors or in the best interest of companies or their shareholders. Professor Ofer Eldar, who holds secondary appointments in Duke’s Economics department and the Fuqua School of Business, was an early critic of ESG investing, arguing in two articles that most of it appears to be solely profit driven. “There is a concern that [ESG funds] may simply claim to pursue social impact to increase their fund flows,” he writes in “Designing Business Forms to Pursue Social Goals,” 106 Virginia Law Review 937-1005 (2020). De Fontenay says investor activism incentivizes corporate management to “greenwash” their ESG reports by selectively representing favorable data while glossing over less desirable consequences, including unintended ones. Until recently, she says, institutional investors have declined to take a position on such issues and have instead focused on maximizing investors’ financial returns. That has changed with the ascendance of ESG. Activism by the Big Three, she adds, may do companies more harm than good by adding unrecoupable costs and may even constitute a breach of fiduciary duty. “BlackRock, which has been by far the biggest proponent of ESG activism, says what it’s doing is improving the long-term financial returns of all its investors, but there’s really very little theory to back that up. Unless they can prove that their ESG activism increases shareholder value, they are arguably breaching their fiduciary duties to those shareholders who are not interested in pursuing ESG if it harms their pocketbooks.” Eldar is less worried about the impact on shareholder value, pointing to research that shows a positive correlation between shareholder returns and compliance with ESG metrics. “Paradoxically, many of the ESG policies are entirely consistent with shareholder value maximization,” he says. “For example, firms have revamped their compliance committees to ensure that they do not engage in illegal behavior that could cost the company a lot in fines and liabilities.” Eldar, whose new fall course, Corporate Social Responsibility and Social Entrepreneurship, addresses the increasing importance of social issues in legal practice and business transactions and the rise of ESG investing, says the key problem with ESG is that its actual social impact is unclear, given how difficult it is to measure. Several agencies rate companies in accordance with ESG performance, but all apply different criteria and there are discrepancies in their scores. “A company like Tesla might get a high score on one metric and a very low score on another,” he says, making ESG measures particularly susceptible to greenwashing. De Fontenay says that’s why government regulators, not privately organized ESG movements, should impose new ESG standards in areas like emissions reductions for companies heavily involved in fossil fuel production. “By making it totally voluntary you are creating an uneven playing field among companies, so the companies that do the best at reducing their emissions are going to be punished the most financially,” she explains. “Without government regulation of their emissions, companies really don’t have any strong financial incentive to comply. You’ll get a lot of talk about what they’re doing to reduce their impact on the climate but little in the way of actual change.” But even if ESG activism did cause companies to reduce emissions significantly, she is skeptical that this would have much impact on climate change. Rather, it could add disruptive or even fatal costs to targeted U.S. companies and industries while creating unintended consequences that do more harm. Already, she says, U.S. fossil fuel companies under pressure to cut emissions have simply sold off assets to foreign owners, foreign governments, and private parties that are subject to far less oversight.
“Paradoxically, many of the ESG policies are entirely consistent with shareholder value maximization. For example, firms have revamped their compliance committees to ensure that they do not engage in illegal behavior that could cost the company a lot in fines and liabilities.” — Professor Ofer Eldar“We’re talking about a relatively small set of companies — U.S. public companies that are primarily in the oil and gas industry — so when you view that as part of total global emissions it’s actually almost insignificant,” she says. “You’re basically asking them to sell half as much oil and gas as they normally would, so it’s going to have a big financial impact on these companies and an almost negligible impact on the climate. By pressuring U.S. public companies so much on ESG while not applying the same pressure to private and foreign companies, you create new incentives for companies to stay private or sell to foreign owners. And that’s likely to lead to worse ESG outcomes because these companies are not going to be in the public spotlight.”
Disclosures a first step toward accountabilityPolitically charged issues are more recent entrants into the ESG conversation. Wealth inequality, the disparate health and economic impacts of the pandemic on communities of color, the MeToo and Black Lives Matter movements, and the passing of controversial laws around issues like voting restrictions have only increased pressure on corporations to make statements on social matters and provide transparency around their own employment practices, community investment, and diversity, equity, and inclusion efforts. In August 2019 the Business Roundtable, which includes many of the nation’s largest companies, including Apple, Walmart, General Motors, and JPMorgan Chase, issued a new version of its “Statement on the Purpose of a Corporation” signed by 181 CEOs. While for 22 years the statement had emphasized shareholder primacy, the 2019 statement prioritized all stakeholders, including communities, customers, employees, and suppliers, and encouraged companies to adopt sustainable practices and disclose information about workforce diversity. Says Reiners: “I think companies are just responding to the demands of the marketplace. People are saying, ‘We care about this stuff now and we are not going to buy your products if we feel like you’re environmentally irresponsible, or we feel like you are mistreating your employees.’ And employees aren’t going to work at your company if they feel like you are not doing the right thing either, so I don’t think shareholder maximization has gone out the window by any means.”
“You can’t just divorce shareholder wealth from ESG because the two things aren’t traveling on different tracks. They’re actually on the same track, so thinking about the way in which the firm engages with environmental, social, and governance matters is an important part of ensuring that they maximize shareholder wealth.” — Professor Gina-Gail FletcherIn 2020, BlackRock issued a strong statement in support of Black Lives Matter, made granular disclosures of its own workforce diversity data, issued specific goals for improving Black representation at the firm, and discussed how it would address racial justice in the communities where it operates. It also asked companies in which it invests to disclose racial and ethnic data of their workforces and other data related to diversity, equity, and inclusion. Professor Gina-Gail Fletcher, a scholar of complex financial instruments and market regulation, applauds the policy for its transparency and specificity. “I think they were trying to model for their corporations what they expect because BlackRock has been asking for this information from different companies for some years now,” she says. “They have committed to doing these things themselves, so it’s expected that if corporations are unwilling to do so, BlackRock will probably use its considerable influence to press them or incentivize them to get the ball rolling.” Companies are already required to record diversity data under Equal Employment Opportunity Commission rules, but that information is kept private. Publicly available data shows Fortune 500 corporations have made little progress in filling more board seats with directors of color. Diversity gains have mostly come from appointing white women to boards rather than people who identify with racial and ethnic minorities, according to “Missing Pieces Report,” published by Deloitte and the Alliance for Board Diversity in June 2021. The U.S. Securities and Exchange Commission (SEC) has begun acting on new disclosure requirements regarding “human capital management” in corporate workforces, including diversity in hiring, promotion, and on boards. In August the agency approved a new board diversity rule that requires firms listed on the Nasdaq exchange to disclose a standardized set of demographic data about their boards of directors and, by 2025, to have two or more board directors who qualify as “diverse” by gender, ethnicity, or sexual orientation or explain why they have not complied. But Fletcher argues that board representation doesn’t give a full picture of diversity or equality within an organization. “You may have two or three people of color on your board, but do you have the same percentages reflected in the workforce and what does it look like at each level? Are your workers of color just in the lowest category? What do they look like at the senior management level? We want to see what the composition of your firm looks like at different levels and within the supply chain.” Following George Floyd’s 2020 murder many corporations made public statements in support of the Black Lives Matter movement. In their essay “Equality Metrics,” published in June on Yale Law Journal Forum, Fletcher and co-author Veronica Root Martinez of Notre Dame Law School call on companies to adopt a more meaningful initiative: the systematized corporate disclosure of workforce and supply chain demographics and specific, measurable plans to improve racial equity and eliminate inequality within firms. They also argue that large institutional investors, because of the leverage they hold over companies, are ideally positioned to demand this kind of data. It is wholly within their purview to do so, Fletcher says. “When institutional investors take this more holistic approach in terms of their engagement with corporations in thinking through ESG issues, I would argue that this is completely in line with their fiduciary obligation to these firms and to the shareholders whose money they are managing,” she says. “Recognizing the impact that ESG can have on the whole firm is important,” she adds. “You can’t just divorce shareholder wealth from ESG because the two things aren’t traveling on different tracks. They’re actually on the same track, so thinking about the way in which the firm engages with environmental, social, and governance matters is an important part of ensuring that they maximize shareholder wealth.” Regulators would, ideally, be the ones enforcing these standards, but pressure from institutional investors is also useful, Fletcher says. “It gives us a chance to create an open sandbox in which people can put their data out there, put policies they have implemented out there, and see what works. There’s a positive side to it being untethered to regulators, but regulators have an important role if we want this to be widely adapted and implemented across all public companies.”
SEC set to require risk disclosuresOn climate, regulators have been slow to act on measures that would level the playing field for all companies, such as capping greenhouse gas emissions or imposing a carbon tax, even as the U.S. falls behind international jurisdictions such as the European Union, Singapore, and China that have carbon markets in which greenhouse gas emissions units are traded as a commodity. But President Joe Biden’s pledge to transition to a net zero economy by 2050 has spurred some movement on an idea that some global competitors have already adopted but did not get traction here under previous administrations: requiring public companies to make annual disclosures related to climate impacts and risks. While many large U.S. companies already voluntarily disclose the amount of their greenhouse gas emissions, there is no standard set of metrics required for all. That may change by next year, when the SEC is expected to issue a standardized framework for mandatory reporting of greenhouse gas emissions and other quantifiable climate-related metrics. The move is intended to improve transparency in the markets by forcing companies to provide information on the climate-related risks they are exposed to and what they are doing to mitigate risks to their business from climate change. Those include physical risks, such as the destruction of a factory, refinery, or entire supply chain, and transition risks, or abrupt policy changes that could affect a company’s bottom line, such as carbon pricing or a ban on oil extraction. “Investors want to know what the risks to their investments are,” Reiners says. “They’re less focused on how companies are contributing to climate change, and more concerned about how climate change and the policy response is going to impact the cash flow to these companies. “Ultimately the government is going to need to play a role here. Otherwise we’re not going to have consistent, comparable, and reliable information from companies that are disclosing ESG information, or from asset managers and investment funds that claim to be investing in ESG stocks.” Reiners is on the leadership team for the Climate Risk Disclosure Lab, an initiative of the GFMC that collaborates with other groups within and outside Duke University. The lab has submitted comments to the SEC on the proposed disclosure requirements and to the Commodity Futures Trading Commission regarding the formation of a subcommittee that would explore how to best design a U.S. carbon market. Regulators across all agencies need to think about adapting existing tools such as the bank stress test introduced after the 2008 financial crisis, says Sarah Bloom Raskin, a former Federal Reserve governor and deputy secretary of the Treasury during the Obama administration who is now the Colin W. Brown Distinguished Professor of the Practice of Law. “Could the stress test be adapted for a climate purpose? If the stress test incorporates a shock, maybe the shock could be a climate shock,” says Raskin, also a senior fellow at the Duke Center on Risk. “The Bank of England is doing this, the European Central Bank is doing it, and the Fed could be trying to do it as well. I’m not trying to prescribe anything specific. But there are things they have in their toolbox that can be redeployed,” she says. Financial markets are especially vulnerable to potentially climate-related risk. The nation’s largest banks face hundreds of billions of dollars of risk exposure to their loan portfolios, according to “Financing a Net Zero Economy,” released in September 2021 by Ceres, with the biggest physical risk coming from coastal flooding. “Think about a 30-year mortgage in Dade County, Florida,” says Baxter, who will co-teach a spring-semester seminar with Raskin on the impact of climate change on the financial markets. “Half of that’s going to be underwater in 30 years unless something is done. Banks and underwriters — Fannie Mae and Freddie Mac and companies that buy mortgages from banks and from other originators — are holding this collateral property that has serious risk of losing significant value. That’s straight physical risk. “And then you’ve got transition risks. Banks have to replace one type of investment that they make, like loans to the fossil fuel industry, which will be affected quite significantly over time, with new investments in alternative energy, which are still fairly risky at that stage. Banks also invest in securities, so they’re facing the risk that those securities lose value because of catastrophic events. There are so many layers of risk that they face.” He and other Duke Law faculty have been advising regulators and economic policymakers on how to address the risk that climate change could destabilize financial markets and the broader U.S. economy. Baxter, Fletcher, and Raskin are members of the Regenerative Crisis Response Committee, a select group of experts in economics, law, and public policy that also includes Joseph Stiglitz, the former chief economist of the World Bank, and others who have held high-level economic advisory roles in government. Sponsored by the William and Flora Hewlett Foundation, the group convened in September 2020 to strategize ways that agencies such as the SEC, Federal Reserve, Financial Stability Oversight Council, and Federal Housing Financial Agency can enact new fiscal, monetary, and financial regulatory policies to help the U.S. transition to a carbon-neutral economy. Raskin says the group’s focus on climate change wasn’t derailed by COVID-19, but rather gained momentum. “Many people feared climate would need to take a backseat while we dealt with the pandemic,” she says. “Surprisingly, a lot of countries and a lot of people said, ‘Hey, maybe these are linked — the need for a resilient economy that can withstand certain stressors, the stressor of a virulent virus, the stressor of a set of climate events like hurricanes and fires.’ People actually started linking the ideas and events.” The group has submitted to the SEC recommendations authored by Fletcher on the new ESG disclosure rules, comments to the Office of Management and Budget on the social cost of carbon, and commentary by members, including an August op-ed Baxter wrote for The Hill titled “Cryptocurrency Makes the Climate Crisis Worse” and one Raskin published in Project Syndicate in September, titled “Changing the Climate of Financial Regulation.” “The committee has done a lot in that period of time,” says Raskin. “It has catalyzed a lot of thinking among people who had not really been thinking about these issues before.”
Lawyers integral to creating new economyCreating an economy resilient to new challenges, Raskin says, will require a collective effort. Such a collective effort might include infrastructure spending through legislation, private sector investments in clean energy technology such as the Breakthrough Energy Catalyst project led by Bill Gates, and new “green” federal procurement policies. An initiative announced in January to replace the federal government’s massive fleet of cars and trucks with U.S.-made electric vehicles resulted in Ford’s announcement in late September that it would spend $11.4 billion to build carbon-neutral factories in Kentucky and Tennessee that will produce electric cars, trucks, and batteries. Ford, a major government supplier, plans to transform its product line to 40% electric-powered vehicles by 2030. “It sent a really strong market signal that a big purchaser called the federal government is going to be buying in a specifically green way and the private sector needs to scale up,” Raskin says. “And that’s something that is lasting. People don’t want to see things that are temporary or transitory or ephemeral. “If we can develop a certain momentum in all of these different areas, it’s an all-hands-on-deck kind of endeavor where it’s not just the responsibility of the EPA, it’s not just the responsibility of the private sector, it’s not just Wall Street. It really does need to be collective, and I think at a certain point we are going to start seeing a mutually reinforcing set of actions that bring us some real progress.” Lawyers, she says, will be instrumental in the transition, whether at law firms, science and technology companies, nonprofits, or in public service. “There’s a sense now that this work is not a nice-to-have, it’s a must-have,” Raskin says. “It is absolutely integral to economic prosperity, so from that perspective there’s no going back. It’s permeating, as it must, our entire set of structures and lawyers know how to navigate that. It’s almost like the lawyerly way of thinking itself brings about a set of opportunities where you can contribute in almost any dimension.”
“I don’t think I or any of my peers will have a choice. We will all have to be ‘ESG lawyers’ in some way or another, because these issues are going to impact pretty much every sector.” — Charlie Wowk ’21
ESG: Related scholarshipEmile Aguirre
- “The Social Startup” (forthcoming, 2022)
- “Beyond Profit,” 54 U.C. Davis Law Review 2077-2148 (2021)
- “A Revised Monitoring Model Confronts Today’s Movement Toward Managerialism,” 99 Texas Law Review 1275-1307 (2021) (with Randall S. Thomas)
- “Private Equity’s Governance Advantage: A Requiem,” 99 Boston University Law Review 1095-1122 (2019)
- “Designing Business Forms to Pursue Social Goals,” 106 Virginia Law Review 937-1005 (2020)
- “The Role of Social Enterprise and Hybrid Organizations,” Columbia Business Law Review 92–198 (2017)
- “Equality Metrics,” 130 Yale Law Journal Forum 869-915 (2021) (with Veronica Root Martinez)