SEC stay on operating company climate rules: Implications for ESG disclosure rules for funds and investment advisers

As noted in this Viewpoints post, on April 4 the SEC voluntarily stayed its recently adopted climate disclosure rules applicable to operating companies (the “Operating Company Climate Rules”) in light of litigation challenging that rulemaking in the Court of Appeals for the Eighth Circuit.

While the stay of the Operating Company Climate Rules has direct effects and takeaways for operating company registrants – as discussed in an earlier Viewpoints post – the Climate Rules have also been followed keenly by asset managers in part because the SEC’s outstanding proposal to enhance ESG disclosures by funds and advisers (the “Fund/Adviser ESG Rules”) would rely in part on data generated by the Operating Company Climate Rules. 

We have been receiving a number of questions regarding the effect of the stay of the Operating Company Climate Rules on the Fund/Adviser ESG Rules, and here are our thoughts:

At a first glance, one might think that the stay of the Operating Company Climate Rules may indicate that the Fund/Adviser ESG Rules would not be a top-line concern for the SEC, given that a significant data source for funds and advisers to use in compliance with adopted Fund/Adviser ESG Rules will be delayed indefinitely.  This seems plausible, particularly in light of the SEC’s significant outstanding rulemaking agenda and the changeover of Directors at the Division of Investment Management (“IM Division”).

More likely, however, is that the stay of the Operating Company Climate Rules will have little effect on the substance or timeline of the adoption of the Fund/Adviser ESG Rules.  The following are considerations that we think are relevant to that assessment of the likelihood of timely adoption of the Fund/Adviser ESG Rules:

• Given the political controversy associated with the Operating Company Climate Rules preceding their adoption, the SEC anticipated litigation against those rules. That is to say, the SEC filing for a stay of those rules is far more likely to reflect a procedural/litigation strategy rather than an indication that the SEC was caught by surprise by the challenges to the rulemaking in a manner that would have downstream effects on the Fund/Adviser ESG Rules.
• The climate-data component of the Fund/Adviser ESG Rules was a relatively small component of the rulemaking: only a subset of registered funds (“ESG-focused” funds that consider environmental factors as part of its investment strategy) were proposed to be required to disclose the carbon footprint and weighted average carbon intensity of a fund’s portfolio (i.e., relying on data generated by the Operating Company Climate Rules). The rest of the Fund/Adviser ESG Rules proposal likely stands on its own terms, and even for the carbon-related reporting by funds or asset managers the SEC could either stay that component of an adopted rulemaking and/or require reporting based on other sources.
• Although the two rulemaking projects are interrelated in part, the Operating Company Climate Rules were primarily drafted by the SEC’s Division of Corporation Finance whereas the Fund/Adviser ESG Rules will be primarily drafted by the IM Division.  While each Division drafts their rulemaking in coordination with one another under the oversight of SEC Chair Gensler, the principles, developments and purposes of the two different Divisions both generally and with respect to the two rulemakings specifically are distinct.
• For politically controversial rulemakings such as the Fund/Adviser ESG Rules, the SEC must consider the impending Congressional Review Act “deadline” by which regulations must be submitted to Congress ahead of a particular date so as to not be eligible for repeal by resolution of a subsequent Congress. With that consideration in mind, the SEC is likely to aim to adopt controversial rulemakings it intends to complete this year in the relatively near term (i.e., by the end of the summer, if not sooner).

Given the above, we would not advise or expect our clients to alter their current course and pace of preparation regarding the anticipated Fund/Adviser ESG Rules given the litigation developments associated with the Operating Company Climate Rules.

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