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Fatally Flawed Claims of Environment, Social, and Governance (ESG) Proposals
The first in a series analyzing claims by proponents of Environment, Social, and Governance (ESG) and stakeholder primacy policies about the feasibility and value of their proposals.
ESG proponents assert that their almost uniformly leftwing proposals are in the financial best interests of shareholders, as required by American corporate law. But the “evidence” for these assertions adds up to nothing more than biased advocacy – essentially, propaganda – that meets none of the requirements of objective and thoughtful research. Corporate directors and officers would therefore violate their fiduciary duty by relying on this “evidence” in any meaningful way. And the stakeholder-primacy model of corporate governance that they embrace, in hopes of legally facilitating the move toward actively leftwing corporate involvement, is not law and cannot coherently be made into law without undermining every vital factor of corporate law and the American economic system.
This is the first in a series of policy papers that will demonstrate the fatal flaws of these proponents’ analyses and strategies. In this installment we will provide an overview of the problem and the potential consequences of relying on ESG-proponent analysis. In later pieces, we will review specific proponent reports and fields of advocacy, and will indicate the course of additional research and analysis that corporate leaders will need to undertake when considering ESG initiatives so as to fulfill their fiduciary duties. We will further explore the inherent instability of ESG as a category, and the fundamental incoherence of the underlying stakeholder-primacy model of corporate governance. Throughout, we will show that ESG policies and stakeholder primacy are so fundamentally flawed that corporations would run great risks and incur substantial liability, for no ultimate net reward whatever, by adopting them.
Supporters of Environmental, Social & Governance (ESG) shareholder proposals, particularly the members of a coalition (“the Coalition”) led by the As You Sow organization, make sweeping claims for their proposals. American corporations are told that these proposals are both necessary and proper, and then are badgered into adopting them.
The As You Sow organization is a longtime player in the effort to push corporations to the active political left, primarily through shareholder activism. According to Influence Watch:
One of As You Sow’s signature methods of activism is encouraging shareholder advocacy, a tactic whereby shareholders in publicly traded companies use their stock ownership “to promote environmental, social, and governance change” through Securities and Exchange Commission-regulated resolutions. On its website, As You Sow estimates that, thanks partially to its work, activist shareholders have made benefiting left-wing agendas a key consideration in over $3 trillion worth of investments by companies each year.
For instance, the Coalition demands quotas to enforce surface-characteristic diversity on corporate boards and among corporate work forces. At the same time it actively opposes efforts, primarily by the Free Enterprise Project (FEP) of the National Center for Public Policy Research, to protect corporate employees from even outright workplace discrimination on the basis of viewpoint, expression or political participation. It tries to force corporations to divest from fossil fuels by various dates-certain, without objective consideration of the costs or even the technological viability of its demands. While in almost every other sphere it pushes for high levels of regulation, it brazenly attempts to force corporations to take a no-restrictions-at-all position on abortion, arguably the single most divisive topic imaginable.
This dramatic leftwing bias creates a serious problem for the Coalition. American corporate law generally places very strict fiduciary duties on corporate directors and officers. These fiduciary duties require them to act solely to maximize the value of the investments in the company made by its owners, i.e. shareholders. This is commonly referred to as the “shareholder-primacy” rule. To adopt proposals that do anything other than that – for instance, to adopt proposals that fit the personal policy preferences of the directors and officers – at the expense of shareholder primacy constitutes a breach of the duty of loyalty by substituting corporate leaders’ personal considerations for their obligations to shareholders. This is perhaps the paramount breach of fiduciary duty, and can carry with it significant personal liability for the breaching directors and officers.
The shareholder-primacy rule is sound, wise and settled law because no other model can work. The Coalition and other opponents of the shareholder-primacy rule seek to replace it with a “stakeholder-primacy” rule that would permit, and in fact require, directors and officers to consider the interests of all possibly interested parties when making corporate decisions. In reality, though, this is both impossible and meaningless. All factors cannot be weighed and balanced against each other meaningfully. As a result, none of these stakeholders would have an effective method of enforcing any duties against the directors and officers. The result would be that directors and officers would be able to make any decisions they wished, without effective limitation. This would make the directors and officers, in effect, the unconstrained owners of the capital of the shareholders – the exact reverse of the facts. The law rightly does not – and cannot – permit fiduciary relationships (upon which the corporate form irremediably relies) to arise when they cannot be vindicated at law by identifiable beneficiaries of the relationship.
Additionally, the critique of the shareholder-primacy rule implicit in the stakeholder-primacy alternative – that shareholder primacy ignores or subverts the interests of other key and genuinely relevant constituencies, such as employees, customers, and communities – is false. Shareholders’ interest in maximizing total profit – not just for the next quarter, as is often asserted, but the total present value of the firm, which includes long-term prospects properly discounted for current calculation – necessarily takes into account the interests of those constituencies as well, and maximizes their legitimate value too. For example, employees as a class are best off if the company is making the best use of their time and efforts in exchange for fair total compensation, rather than underpaying them (thus losing the best workers to other pursuits) or mismanaging them. Similarly, customer concerns and interests – and their satisfaction – obviously bear directly on total shareholder value. And again, corporations are best off when they have good relations with the communities in which they function and their employees live.
What stakeholder-primacy advocates seem to want (in contrast to what they notionally seek) is not wise and judicious consideration of the interests of relevant constituencies with an eye toward the preservation and growth of the company for the benefit of all concerned, but the subordination of all genuinely relevant corporate interests, including those of employees, customers and communities, to unrelated political goals which would be rejected under a shareholder-primacy model exactly because they will cause harm both to the corporation itself and to all relevant and reliant constituencies. For instance, a company that used a stakeholder theory to justify costly zero-carbon commitments that made the company’s products uncompetitive would serve no genuine stakeholder’s long-term interests. The result of political-policy-driven uncompetitiveness would be the shrinkage or collapse of the company, causing real-world losses to all legitimate constituencies. A company that hires on the basis of surface-characteristic quotas rather than merit will suffer similarly, with the same results. So too a company that remains at an unprofitable location or that welcomes an inefficiency-enhancing union for the ostensible benefit of the company’s host communities or employees. The real beneficiaries of such moves are not the company’s employees or host communities; dying companies that lay off workers and depress communities do neither any good. The real beneficiaries would be local politicians (whose interests are genuinely short-term: the length of their tenure in office) and union officials, neither of which are legitimate stakeholder constituencies of corporations.
There are only two possible ways around these basic facts of corporate law and the immutable basics of fiduciary duty. The first is for the Coalition to demonstrate that its initiatives, while almost uniformly very leftwing, are nevertheless in the best financial interests of shareholders, and therefore consistent with the shareholder-primacy rule. The second is somehow to make the stakeholder-primacy law work in theory, and then get it adopted as law.
The Coalition is ostensibly following both of these paths. With regard to the first, it has produced a number of documents, for which it claims the status of objective research, upon which action in its favor by corporate boards would be justified. But these documents bear none of the necessary indicia of objective analysis of the sort sufficient to demonstrate that the directors and officers have fulfilled their duty of care under the shareholder-primacy rule.
In fact, the Coalition’s non-objective, hortatory tactics in “demonstrating” the economic value of its propositions to the corporation invariably follow the same pattern fairly closely. First, the authors assume to be true any variables upon which their proposition must necessarily rest in ways that come very close to the literal, legitimate meaning of begging the question. If the authors wish to demonstrate the value to a company of reaching zero emissions by 2050, for instance, they assert as true that (1) reaching zero emissions by that date is possible; that (2) it will in fact occur, and will be forced upon companies by governments worldwide, including in the United States; and that (3) therefore any assets which still emit carbon as of 2050 will be “stranded assets,” i.e., lost investments.
The flaw in this logic is obvious. What about all of the other potential contingencies? What if, for an entire series of reasons, carbon production either cannot be or has not been eliminated by 2050? Then the assets will not have been stranded, and should not have been costed as losses in the economic analysis of the proposal. By ignoring that contingency, as well as a significant set of other relevant considerations, the Coalition authors do not merely steal a base; they steal a run, the diamond, the stadium and the whole parking lot.
The Coalition authors make the same and other related logical errors in all of their efforts to establish that their proposals and goals can reasonably be adopted under the shareholder- primacy rule. In each, they assume as fact things which are necessary for their claims but are neither certain nor in many cases even particularly likely, while also diminishing or ignoring entirely considerations which work against their positions. This is the very definition of cherry-picked boosterism.
The Coalition’s research can, therefore, provide no lawful basis upon which corporate directors and officers may proceed. While the business-judgment rule provides these corporate actors some latitude in how they weigh the appropriate evidence in deciding what action to take, it does not protect them from failing to take important material factors into consideration. That would violate their duty of care. And to have violated their duty of care in aid of enacting a personal policy preference would violate the directors’ and officers’ duty of loyalty as well. Because director and officer liability insurance often does not cover willful violations of the duty of loyalty, this could very well result in personal liability for the directors and officers themselves.
With regard to the second path, the Business Roundtable, a collection of CEOs, decided last year to “redefine the purpose of a corporation” to embrace stakeholder supremacy. This move had only psychological effect, not legal. It demonstrated that CEOs really do think themselves omnipotent, and resent having any duties to the lower orders who merely own their shares (which is to say, own the companies that they manage). And from a strictly utilitarian point of view it made sense for a luncheon club of CEOs to support a shift to stakeholder primacy; everyone would like to have more power with less responsibility in their lives, which is exactly what stakeholder primacy would mean for them. But their declaration has no legal effect. Indeed, as we will explore later in this series, it cannot be implemented as the CEOs imagine, and if implemented in any form would have disastrous effects on the American economy, including the corporate and personal economies of the very CEOs who have declared their support of it, and the companies they run.
In this series we will review and critique a number of Coalition reports written to create the impression that its proposals will maximize shareholder value, as required by the shareholder-primacy rule. We will undertake these critiques from the vantage point of a corporate actor evaluating both the proposal and the supporting materials. Our goal will be to mimic the minimum analysis that such corporate actors would have to undertake to fulfill their fiduciary duty toward shareholders in deciding whether to adopt a proposal on the basis of the supporting materials.
Toward this end, we will consider the information that is included in the Coalition’s supporting materials, and try to determine whether it is correct, sound and reliable. If it appears that it is not, we will explain our concerns, including contrary evidence where appropriate, and discuss the minimum efforts that corporate actors would have to take to establish the true state of affairs. We will explore material information, concerns or risks that bear directly on the question at hand – the real import of the proposal for shareholder value – but that were not included in proponents’ analysis. We will explain why this missing analysis is important, discuss how we think it will affect any completed conclusions about the value of a proposal, and, where possible, provide the information required to undertake this additional analysis. At very least, we will provide any information we have in that regard and point toward ways of unearthing the additional information necessary for undertaking the further required analysis.
Through these efforts we expect that we will establish the minimum baseline of research and inquiry that corporate actors will need to undertake in order to satisfy their fiduciary duty in considering the adoption of any ESG proposals or initiatives, whether pressed by the Coalition or by other interested parties. And we expect that should corporate adoption occur without sufficiently diligent and complete study, our analysis will prove useful to concerned shareholders and other interested parties seeking to redress this breach of corporate-actor duties.
Further installments will critique supporting documents and arguments in a variety of areas. We will look at Coalition reports in support of ostensibly superior environmental goals, such as the high-speed replacement of the current broad and diverse array of increasingly clean and efficient energy options with a few narrow sources of limited reliability and deployment favored by the proponents. We will critique reports that assert that surface-characteristic (i.e., sex, race and similar suspect classifications) quotas lead in some unexplored way to shareholder-value maximization, even while those reports ignore the role of the true driver of increased corporate performance, viewpoint diversity, and even though the Coalition opposes any efforts to protect employees or corporate actors from viewpoint discrimination. We will evaluate Coalition claims that aggressive corporate support for a no-restrictions pro-abortion position is necessary to maximize shareholder value. And we will undertake further analysis as time and resources permit.
These and other installments will consider the fatal indeterminacy of the ESG category itself, and the opportunities for mischief and for legal liability that arise from that indeterminacy. We will explore in depth the theoretical and legal barriers to the adoption of a stakeholder-primacy model along the lines that the Business Roundtable CEOs seem to envision, and the deleterious consequences – for citizens, shareholders, corporation and corporate directors and officers alike – that would flow from the adoption of anything under a stakeholder-primacy banner. And we may address other salient issues that arise as the series unfolds.
Scott Shepard is a fellow at the National Center as well as the deputy director of the National Center’s Free Enterprise Project, the conservative movement’s only full-service shareholder activism and education program.
 See generally https://www.asyousow.org/.
 See generally https://www.asyousow.org/about-us. See, e.g., Lila Holzman, Mike O’Boyle & Daniel Stewart, Natural Gas: A Bridge to Climate Breakdown (March 2020) (“Natural Gas”), available at https://www.asyousow.org/reports/natural-gas-bridge-to-climate-breakdown (last accessed July 30, 2020); Heidi Welsh & Michael Passoff, Proxy Preview 2020 (March 2020) (“Proxy Preview”), available at https://www.proxypreview.org/ (last accessed July 30, 2020).
 See influencewatch.org. Influence Watch, an online publication of the Capital Research Service (CRC), provides biographical and organizational information about influential people and organizations active in public policy. It was “conceived… after [CRC] identif[ied] a need for more fact-based, accurate descriptions of all of the various influencers of public policy issues. … Armed with 30-years of research and data on advocacy organizations, foundations and donors, CRC also tapped into a universe of contributors to help build the individual and organizational profiles that” appear at the site. See About Us, Influence Watch, available at https://www.influencewatch.org/about-us/.
 See As You Sow, Influence Watch (2019) (internal citations omitted), available at https://www.influencewatch.org/non-profit/as-you-sow/.
 See, e.g., Proxy Preview, at 42-44, 57-59; Free Enterprise Project, Investor Value Voter Guide 2020, at 28-32 (April 2020) (“IVVG”), available at http://nationalcenter.org/IVVG/ (last accessed July 30, 2020).
 The FEP is the sponsor of this policy paper series. Its website is http://freeenterpriseproject.org.
 The website for the National Center for Public Policy Research is https://nationalcenter.org/.
 See, e.g., IVVG, at 20-27; As You Sow, Proxy Voting Guidelines 2020, at 17 (April 2020) (“Proxy Voting”), available at https://www.asyousow.org/reports/proxy-voting-guidelines-2020 (last accessed July 30, 2020).
 See, e.g., Natural Gas, supra note 2.
 See, e.g., Shelly Alpern, et al., Hidden Value: The Business Case for Reproductive Health (2020) (“Reproductive Health”), available at https://rhiaventures.org/business-case-reproductive-health/ (last accessed July 30, 2020).
 See, e.g., Harris v. Carter, 582 A.2d 222, 234 (Del. Ch. 1990); Francis v. United Jersey Bank, 87 N.J. 15, 36 (1981).
.See, e.g., Shareholder Primacy, Corporate Finance Institute, available at https://corporatefinanceinstitute.com/resources/knowledge/other/what-is-shareholder-primacy/ (last accessed August 6, 2020); Robert J. Rhee, A Legal Theory of Shareholder Primacy, 102 Minn. L. Rev. 1951 (2018), available at https://scholarship.law.umn.edu/cgi/viewcontent.cgi?article=1121&context=mlr (last accessed Aug. 6, 2020).
 See id.
 See, e.g., Shocking Technologies, Inc. v. Michael, et al., 21-22 C.A. No. 7164-VCN (Del. Ch. Oct. 1, 2012), available at https://law.justia.com/cases/delaware/court-of-chancery/2012/ca-7164-vcn-0.html (last accessed Aug. 6, 2020); Nagy v. Bistricer, 770 A.2d 43, 49 n.2 (Del. Ch. 2000); Ivanhoe Partners v. Newmont Mining Corp., 535 A.2d 1334, 1345 (Del. 1987).
 See, e.g., Shocking Technologies, supra note 14, at 28; Nagy, supra note 14, at 49 n.2.
 See, e.g., Business Roundtable – press release, Business Roundtable Redefines the Purpose of a Corporation to Promote ‘An Economy That Serves All Americans’ (Aug. 19, 2019) (“Business Roundtable Redefines Purpose”), available at https://www.businessroundtable.org/business-roundtable-redefines-the-purpose-of-a-corporation-to-promote-an-economy-that-serves-all-americans (last accessed July 30, 2020).
 See, e.g., Natural Gas, supra note 2; Reproductive Health, supra note 10; Conrad MacKerron & Kelly McBee, Waste & Opportunity 2020: Searching for Corporate Leadership (2020), available at https://www.asyousow.org/report-page/waste-and-opportunity-2020-searching-corporate-leadership (last accessed July 30, 2020).
 See Natural Gas, supra note 2, at 6, 11, 13-14 and passim. “Begging the question, sometimes known by its Latin name petitio principii(meaning assuming the initial point), is a logical fallacy in which the writer or speaker assumes the statement under examination to be true. In other words, begging the question involves using a premise to support itself. If the premise is questionable, then the argument is bad.” Begging the question (fallacy), Grammarist, available at https://grammarist.com/rhetoric/begging-the-question-fallacy/.
 See id.
 See, e.g, Francis, supra note 11; Miller v. American Telephone & Telegraph Co., 507 F.2d 759, 762 (3d Cir.1974).
 See id.
 Nagy, supra note 14, at 49 n.2.
 See, e.g., D&O Insurance Explained, Allianz (2020), available at https://www.agcs.allianz.com/news-and-insights/expert-risk-articles/d-o-insurance-explained.html (last accessed Aug. 6, 2020); Gregory G. Johnson, Am I Covered? What You May Be Missing In Your D&O Liability Insurance, Lexology (June 18, 2018), available at https://www.lexology.com/library/detail.aspx?g=6a46911c-1930-4592-86d6-a8f7635271a3 (last accessed Aug. 6, 2020).
 See Business Roundtable Redefines Purpose, supra note 16.
 For further discussion of these points, see Scott Shepard, Stakeholder Primacy: Who’s Playing Whom?, Townhall Finance (June 30, 2020), available at https://finance.townhall.com/columnists/scottshepard/2020/06/30/stakeholder-primacy-whos-playing-whom-n2571611 (last accessed July 30, 2020); Justin Danhof, Business Roundtable Becomes One Bloated Bullseye, The Hill (Aug. 28, 2019), available athttps://thehill.com/opinion/finance/458841-business-roundtable-becomes-one-bloated-bullseye (last accessed July 30, 2020); IVVG, at 46-47.
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Author: Scott Shepard