J.W. Verret here, honored to join for a few guest posts. When I was young once and on the market, Prof. B blogged my work even when he didn't agree with it. You never forget that. I've been on weird scholarly hiatus the last couple of years to bulk up my accounting toolkit with the CPA exam (done!) and some time as Chief Economist at the House Fin. Services Committee. If you can forgive it, you will see some financial accounting policy and DC beltway stuff mixed in with corporate governance and securities law during my visit here.
Prof. B has posted about the Business Roundtable Statement on Business Purpose, and I agree with his assessment of their true purpose. Bebchuk recently pointed out some of the problems with stakeholder capitalism generally and the Business Roundtable statement specifically here.
I sit on the Securities and Exchange Commission's Investor Advisory Committee, where we have spent the year partly playing out a related debate regarding a series of recommendations that were approved by the IAC over substantial and vigorous dissent.
The question we faced there was somewhat different from the question of proper corporate purpose. Does ESG based disclosure, disclosure which is one tool to encourage stakeholder based governance, fit into the mandatory disclosure architecture of the federal securities laws and related GAAP accounting policy?
And yet it isn't really a different question. The entire goal behind ESG disclosure is to shame CEOs into supporting politically charged initiatives regarding environmental or social policy that are embraced by stakeholder governance theory. The question for that purpose is not whether it would be a good thing (and I don't concede it would), but instead does it fit within the federal securities laws and longstanding GAAP accounting policies?
Our first debate was over a recommendation that the SEC include more information about human capital metrics in the Management Discussion and Analysis section of the annual report, see here. There was a focus in the recommendation on variables like relative mix of part-time vs full-time worker. It was of the same vein as the pay ratio rules in Dodd-Frank, if a smidge less obvious in its pro-labor advocacy.
I argued vigorously against mandatory non-financial human capital disclosure in a dissent here.
What's wrong with more human capital disclosure, you ask? I don't believe the SEC has the legal authority to mandate it if it fails to meet the materiality definition in the federal securities laws. And these disclosures (while no doubt material to a subset of labor union pension funds for their own personal reasons) would not have a material impact on shareholder wealth.
This was the same argument I've made previously against mandatory disclosure of corporate political spending, see here. If a future SEC requires such disclosure a legal challenge would likely succeed because the disclosure is not material. A recent debate over a broader ESG mandate recommendation by the SEC IAC played out along similar lines, see here.
My other concern about mandatory ESG based disclosure rules is that they would muck up Generally Accepted Accounting Principles (GAAP) with items in the narrative of the annual report that are inconsistent with the financial accounting estimates.
GAAP isn't perfect. The one way we are certain to make it worse is to allow politicians to infect financial accounting with political objectives. Mandatory ESG disclosure rules from the SEC is one way left leaning politicians have been pressuring the SEC to do just that.
There is no shortage of ESG disclosure guidance and standard setting bodies out there, including the Sustainability Accounting Standards Board. There are investment funds dedicated to ESG investing that can use those metrics. If investors want to support those initiatives with their own cash, then best wishes.
Meanwhile, let's not allow the ESG crowd to overextend the SEC beyond the reach of its jurisdiction or muck up GAAP with socio-political and cultural objectives.
