Climate change remains focus and regulators demanding action on board diversity, say lawyers

2023 ESG update for finance and M&A
Climate change remains focus and regulators demanding action on board diversity, say lawyers

(Photo: Kathryn Bush, Ramandeep Grewal)

In Kathryn Bush’s practice, environmental, social, and governance (ESG) concerns first emerged over a decade ago with her university clients.  

“The universities were getting a lot of student revolt and uprising,” she says, and adds that they needed advice on their fiduciary duties.  

Bush, a partner at Blake Cassels & Graydon LLP practising in pension, benefits, and executive compensation, says that the schools were focused on fossil fuels.  

“The profs had great stuff. They were trying to make the good case about, ‘It’s not just ruining the world. It’s a lousy investment, so don’t put it in your pension plan.’ There were people on the other side of that story, but at least you got a really neat academic argument.”  

Aside from the environment, geopolitical factors have also cropped up in response to prevailing international trends. Bush notes that the Ontario Trustee Act had a specific exemption not to require trustees to invest in apartheid South Africa. 

Recently, clients have wanted to build a prohibition on Russian investments into their pension plans, and tobacco and nuclear arms have attracted similar attention over the years, says Jeffrey Sommers, a Blakes partner also in pensions, benefits, and executive compensation. 

“As lawyers, we have to explain to our clients that it’s not about what you want; it’s about what’s in the financial best interest of the members of the plan,” he says. “That’s your goal. It’s true that you can’t invest in sanctioned countries. That’s an illegal investment. But you just don’t pick your favourite country not to like. That’s not sufficient. 

“The purpose of the plan is to produce the best possible, risk-adjusted financial results for the beneficiaries.”  

Defined contribution plans are structured so that the plan administrator presents various investment options, and members choose the funds they want. In the last year or so, Sommers has had several clients approach him and request ESG-friendly investment options, which the beneficiaries are pushing for. While the plan administrator must consider the wishes of plan members, it cannot lose sight of its fiduciary responsibilities, he says.  

“It puts the administrator, often, in a difficult position. They’d like their plan members to be happy and to be able to invest in funds that they feel comfortable with. But at the end of the day, if you can’t justify those particular funds as providing a comparable rate of return to a similar asset-class fund that isn’t marketed as ESG-friendly or green, then, as a fiduciary, you have risks there. 

“It’s really not appropriate to be offering those types of funds if you don’t think that – at least, in the long run – the financial performance is going to be the same,” says Sommers. 

But even within these fiduciary confines, pension plan administrators are dialled in on ESG. 

“We’re seeing big pension funds spending a lot of time and effort on ESG,” says Bush. “It’s really becoming increasingly important. Some of them are walking the walk, not just talking the talk. 

“We’ve got our fiduciary limits, but I think we’re going to see increasing pressure for more progress in this area. People are going to have different views about what progress means, but I don’t think this is going away anytime soon. And when there are more international standards for disclosure, I think it will be even easier for people to hold plans to account.” 

Much of this progress is currently focused on the E in ESG, as climate change – and “climate risks and rewards,” notes Sommers – is both a significant investor concern and an investment risk. “There’s no doubt – climate is huge,” he says. 

In June 2022, the Canadian Association of Pension Supervisory Authorities (CAPSA) released draft guidelines for consultation on ESG considerations in pension-plan management. The guidelines detail how administrators can incorporate ESG into an investment plan while maintaining their duty of maximizing financial benefits.  

The draft guidelines clarify that administrators “cannot adopt a wholesale ESG focus,” but “some ESG factors are relevant to the financial performance of investments,” according to an article by Andrea Boctor and Jonathan Wypych, lawyers at Osler Hoskin & Harcourt LLP.  

The authors note three examples of how administrators can incorporate ESG: “placing portfolio limits on exposure to greenhouse gas emissions; setting investment targets for the portion of green assets in a portfolio; and setting standards related to executive compensation, diversity, labour, or cybersecurity practices in target companies.” 

As with the pension world, Ramandeep Grewal’s corporate clients are similarly focused on climate change and accountability. In 2023, she expects more clarity on disclosure, including how climate change accountability factors into the board and committee process and who has responsibility for oversight, as well as more specific disclosure around the company’s actions addressing climate change or promoting sustainability.  

“The other big topic continues to be board refreshment and renewal,” says Grewal, who is a partner in the corporate group at Stikeman Elliott LLP, primarily practising in corporate finance and M&A. Conversations on board diversity are moving beyond a concentration on gender to encompass more types of diversity, by looking at communities – LGBTQ+ and Indigenous, for example – with little representation on Canadian boards. 

In its 2023/2024 statement of priorities, the Ontario Securities Commission says it plans to publish for comment proposed changes to its disclosure requirements on diversity, board renewal, and director nomination processes. The OSC and other jurisdictions under the Canadian Securities Administrators adopted disclosure requirements related to women on boards and in executive officer positions in 2014. In 2020, the CSA announced that they would launch research and consultations to consider a broader range of diversity on boards and in executive roles, including the representation of Black and Indigenous people, people of colour, people with disabilities, and people in the LGBTQ+ communities.  

But while regulators expand to other areas of diversity, the CSA’s eighth annual report shows weak progress on their initial focus. In October, the CSA released “CSA Multilateral Staff Notice 58-314 Review of Disclosure Regarding Women on Boards and in Executive Officer Positions.” In a review of 625 of the TSX’s 1,779 securities issuers, the CSA found that women held 24 percent of board seats, seven percent of the board chairs were women, and only five percent of the issuers had a female CEO. Companies neared parity in the board seats that changed hands, as women filled 45 percent of vacated board seats. 

In Sarah Gingrich’s M&A practice, environmental considerations have loomed large in the ESG discussion in recent years. But she is now seeing clients increasingly focused on assessing how an organization performs in all aspects of ESG. Gingrich is a partner and co-leader in capital markets and M&A at Fasken Martineau DuMoulin LLP. 

“What are the risks that they face currently from their way of doing business? And what are the opportunities going forward? We’re seeing climate change and social equality reporting standards internally. It really covers a broad spectrum of the E and S and G.”  

In ESG in 2023, one of the most significant risks for organizations is disclosing their way into liability, says Grewal. There is litigation emerging in the US and elsewhere concerning ESG disclosures that have not been thoroughly reviewed and cannot be adequately backed up in reference. She says that organizations must ensure disclosure is verified correctly, it is not overstated, and ESG reports go through the same vetting processes as other material disclosure.  

ESG’s most significant opportunity is how organizations can use that disclosure to promote the business, says Grewal. This comes from speaking to investors, customers, clients, or, internally, to employees about the organization’s ESG profile and approach, turning it into a reason to want to buy that company’s products or work there. 

“More and more, people are conscientious about dealing with players who are sensitive to ESG issues in a real way,” she says. “I think there’s a real opportunity, particularly now that we have so much competition for talent.” 

M&A with an ESG lens 

77% of organizations incorporate ESG metrics when making target valuations and risk assessments 
75% have re-evaluated portfolios to acquire or divest through the lens of ESG 
72% view ESG as a challenge for the corporation 
72% say the ESG behaviour of acquisition targets/portfolio firms has “caused significant unrest among stakeholders/investors” 
Source: Deloitte survey of corporations in technology, media, and telecom; life sciences and healthcare; financial services; energy, resources, and industrials; and consumer products 

Women on boards

24% of board seats are held by women 
7% of board chairs are women 
5% of issuers have a woman CEO 
Source: Canadian Securities Administrators Review of Disclosure Regarding Women on Boards and in Executive Officer Positions