By: Greg McNally
Introduction
Environmental, social, and governance (ESG) scores are a measurement tool used to help “investors to identify companies that align with their values.”[1] As ESG quickly became a leading metric for ethical investing, the world’s largest investment firms took note. Consequently, the nation witnessed an unprecedented collision of ethics and economics, resulting in a dispute with billions of dollars at stake.
Since then, Louisiana has joined several states challenging investment firms on the notion of environmentally responsible investing. As the financial battle between states and investment giants carries on, this article will focus on the assertion that leading investment companies have violated the fiduciary duty of loyalty by sacrificing financial gains for political objectives.
I. Background
A. What are ESG scores?
ESG scores are an investment tool investors can use to help educate themselves on potential investments.[2] Though different ESG-rating platforms[3] vary in how they evaluate ESG scores, the basic examination to issue a score is as follows:
Environmental criteria consider how a company safeguards the environment, including corporate policies addressing climate change, for example. Social criteria examine how it manages relationships with employees, suppliers, customers, and the communities where it operates. Governance deals with a company’s leadership, executive pay, audits, internal controls, and shareholder rights.[4]
To determine a final ESG score, a rating company will rate each measurement criterion and then weigh those ratings against the company’s actual performance.[5] To illustrate, a rating platform may issue its criteria ratings based on how an organization addresses climate change, diversity, and human rights–giving the organization an unofficial score of its environmental, social, and governance policies.[6] The rating platform will then issue a rating of the organization’s actual performance by evaluating “corporate disclosures, conduct[ing] management interviews, and review[ing] publicly available information….”[7] The two findings are then measured against each other to determine the organization’s final ESG score.[8]
B. What entities are behind the ESG movement?
There were campaigns for companies to undertake more sustainable business practices throughout the 1900s, most of which fell flat.[9] However, in the early 2000s, the United Nations released a report titled Who Cares Wins.[10] This report has since become remembered for popularizing the ESG movement in the modern era.[11]
Those with more cynical minds, however, would point to the growth of ESG investing being due to companies like the world’s largest investment firm, BlackRock Inc., making ESG “a top priority within their daily business.”[12] BlackRock has $10 trillion in assets under management, “more than the gross domestic product of every country in the world, except for the US and China.”[13]
In the world of investing, there are three companies that wield the power of entire nations: BlackRock, Vanguard, and State Street.[14] Together, they are known as the “Big Three,” and ESG factors have been applied by each of these investment firms. The impact the Big Three have on a global scale cannot be overstated.
Together, the Big Three control more than $22 trillion in wealth. To put this in perspective, this number could encompass the entire GDP of the United States, and is “equivalent of more than half of the combined value of all shares for companies in the S&P 500….” Thus, it is clear that the use of ESG by these large investment firms has a substantial impact on not only the companies they choose to invest in, but the economy as a whole.[15]
C. Conflicting views between states
Though ESG reporting has been accepted across the world, there are still no uniform reporting standards.[16] Moreover, critics of ESG scoring systems claim that the movement focuses more on politics and less on profit margins.[17] Some have even claimed the ESG movement to be nothing more than “woke capitalism.”[18]
Proponents, however, push back on these claims under the thought that a company’s short-term profits do not matter if the company has unsustainable practices.[19] In other words, ESG scores are an important measurement tool to help predict a business’s long-term success.
While many states have embraced ESG, others, including Louisiana, have taken efforts to undermine the movement by taking aim at BlackRock.[20] Simply put, Louisiana is among several states removing $100+ million in funds from BlackRock over concerns that BlackRock’s commitment to ESG investing is doing a disservice to shareholders.[21] Much of this is centered around the fact that Louisiana’s economy is dependent on the oil and gas industry, and BlackRock has partnered with groups that aim to “achieve net zero emissions by 2050 or sooner.”[22]
Louisiana has already pulled $560 million from BlackRock’s funds, and state Treasurer John Schroder has plans to pull another $234 million out of the asset management firm’s funds due to its push to embrace ESG investment strategies.[23] “This divestment is necessary to protect Louisiana from mandates BlackRock has called for that would cripple our critical energy sector,” Schroder said in a statement.[24]
Ultimately, states are targeting BlackRock to challenge ESG investing because BlackRock is one of the “Big Three” investment firms that manage almost all of the assets in index funds.[25] Index portfolios “comprise a substantial part of many state pension funds” which are made up with the private money of public and state employees.[26]
BlackRock’s admitted prioritization of ESG[27] has led to numerous allegations against BlackRock. This article will discuss the claim that BlackRock is breaching fiduciary duties, particularly the duty of loyalty, owed to its investor-clients by investing with the aim of forcing political change instead of investing in the “most financially prudent manner.”[28]
…[T]here is a trend among some investment management firms, such as BlackRock, to use money from public and state employee pension plans to push their own political agendas and force social change through use of ESG criteria. Some of the ESG goals, while well-intentioned, may have a direct adverse effect on Louisiana’s economy and state pension fund performance.[29]
In short, Louisiana is among several states claiming BlackRock is not committed solely to financial returns of state pension funds due to its desire to cut carbon emissions. Given many states’ dependence on the fossil fuel industry, states are concerned BlackRock has mixed motives, and by extension, is breaching its duty of loyalty owed to its shareholders.
As governments across the globe have begun a transition to cleaner energy sources, a pertinent question arises as to whether BlackRock’s ESG commitment is truly a breach of the duty of loyalty. Specifically, should climate risks be strongly considered by investment firms when they are managing a state’s retirement fund? Would such considerations hurt said pension funds’ long-term financial gains? And perhaps most importantly, has BlackRock continued its climate policy considerations into 2023? If so, there may be a valid argument that BlackRock is breaching the duty of loyalty.
II. Analysis
A. Louisiana’s claim that BlackRock is breaching the duty of loyalty
“A fiduciary must discharge his duties solely in the interest of system members and beneficiaries for the exclusive purpose of providing benefits to participants and beneficiaries….” La. R.S. § 11:3363.1(E). BlackRock is a fiduciary to its investor-clients under statutory law; therefore, BlackRock has a duty to invest in the sole interest of investors in state pension funds, i.e., maximize returns.
As states began publicly condemning BlackRock’s practices, the asset management firm’s CEO, Larry Fink, has countered much of the allegations waged against the company. In his annual letter to CEOs (this one being from 2022), Fink argued that focusing on climate policies equates to focusing on profits.[30]
…[B]usinesses, cities and countries that do not plan for a carbon-free future risked being left behind. [Fink] argued that the pursuit of long-term returns was the main driver behind climate policies, after being criticized for seeking to influence companies.
“Stakeholder capitalism is not about politics. It is not a social or ideological agenda. It is not ‘woke’,” he wrote. “We focus on sustainability not because we’re environmentalists, but because we are capitalists and fiduciaries to our clients.”[31]
It is difficult to reach an objective determination of Larry Fink’s subjective intent with BlackRock’s investment strategies as it relates to maximizing profits and fulfilling its fiduciary duty of loyalty to states. In years past, including Fink’s aforementioned 2022 letter to CEOs, BlackRock has consistently and openly focused on its desire to incorporate climate risks in its investments.
Notably, however, Larry Fink did not even mention the term “ESG” in his latest annual letter to investors (published in 2023).[32] With this in mind, Fink appears to be backing away from his company’s previous goal of playing an active role in pushing other companies to transition to cleaner energy.[33] Though his latest letter reinstates BlackRock’s previously held position that climate risk is an investment risk, Fink opined that “asset managers including BlackRock should not set policy or ‘be the environmental police….’”[34]
BlackRock certainly seems to be adhering to its CEO’s latest statements seeing as the asset manager supported a meager “26 of 399… proposals related to climate change and social issues in the 12 months ended June 30, down from 22% in the same period a year earlier.”[35] Moreover, BlackRock has relinquished some of its power to influence over publicly traded companies through its “voting choice” program, allowing certain clients it manages money for, notably all U.S. pension plans,[36] to cast their own votes at shareholder meetings.[37]
BlackRock allowing 100% of U.S. pension plans to cast their own vote at shareholder meetings is a non-negligible renunciation of power and could give the company a strong argument that it truly focuses on investor profits. Typically, “[w]hen state workers invest in pension funds managed by third-party asset managers, those asset managers are able in many cases to vote those shares on investors’ behalf, which is known as proxy voting.”[38] Additionally, Utah Treasurer Marlo Oaks has claimed ESG gets pushed into corporations mostly through proxy voting.[39]
These deviations could prove highly significant in the discussion of BlackRock’s duty of loyalty toward state pension funds the company manages. To illustrate, note that BlackRock’s previous engagement strategy (as it now seems) was alleged by states to have the potential to “covertly convert states’ core index portfolios to ESG-Focused funds….”[40]
Now, BlackRock is supporting less climate change policies than in recent years, and it has allowed U.S. pension plans to participate in proxy voting decisions. How might these decisions add to the discussion of BlackRock’s duty of loyalty it owes through its management of state pensions? It appears there are, at minimum, two possible explanations to BlackRock’s recent maneuvers.
The first view is perhaps a bit more pessimistic than the other, but it will likely be shared by those who subscribe to the notion that money is power. Under this view, one may point to the fact that by the end of 2022, there were “at least seven states [pledging] to pull more than [three] billion [dollars] collectively from BlackRock” due to climate-oriented investment strategies having an adverse effect on shareholders.[41]
Even to a powerhouse like BlackRock, three billion dollars in potential losses is a bit extreme when the problem can be fixed. Knowing this, one may argue that BlackRock’s commitment to ESG over several years became so pervasive that states across the country concluded BlackRock had no intention on maximizing profits for its client-investors, thus breaching the duty of loyalty. As such, states began divesting large amounts of money from BlackRock, ultimately forcing the asset management firm to act quickly to help mitigate losses before more states began pulling funds.
The second view takes a separate, more step-by-step approach to help explain BlackRock’s recent changes. Here, one may point to BlackRock moving away from ESG by pointing to major ESG funds performing worse than the S&P 500 last year.[42] In particular, BlackRock’s primary ESG fund had “fallen 18.3 percent, while the S&P 500 index [was] down 16.8 percent.”[43]
Therefore, one may argue that BlackRock thought it was financially prudent to turn its focus elsewhere in order to fulfill its duty of loyalty to investors, and states pulling money from the company over ESG concerns were really only doing so to please oil and gas giants that place significant amounts of money in the political process. As to BlackRock’s decision to turn power over to its investors through its “voting choice” program, subscribers of the second viewpoint would simply to refer to BlackRock’s reasoning that it was “[i]n response to growing client interest….”[44]
III. Conclusion
In total, it seems this financial battle between the states and BlackRock has raised more questions than it has answered. With that said, one thing is clear: the ESG movement and its complexities are on full display. While BlackRock does seem to be moving away from ESG investing, questions as to its fiduciary duties and its role in ethical investing are still up in the air.
Was BlackRock’s shift away from its ESG focus a response to political pressure, or was the firm simply acting in a financially prudent manner? Without answers, it is hard to determine the direction ESG investing will take in the near future. Maybe ESG investing was merely a trend that is beginning to slow down. It seems more likely, however, that ESG considerations will endure. If so, a clear takeaway from this discussion is that ESG is a potent force that will likely continue to demand constant scrutiny and discussion until the societal roles of these asset management giants are made clear.
[1] Marguerita Cheng, ESG Investing 101:What Is an ESG Score?, U.S. News & World Report (May 22, 2023), https://money.usnews.com/investing/news/articles/what-is-an-esg-score [https://perma.cc/DS6W-ZXBP].
[2] What Is Environmental, Social, and Governance (ESG) Investing?, Investopedia (Mar. 22, 2023), https://www.investopedia.com/terms/e/environmental-social-and-governance-esg-criteria.asp [https://perma.cc/46A2-TYX8].
[3] Noah Miller, ESG Score, Corporate Finance Inst., https://corporatefinanceinstitute.com/resources/esg/esg-score/ [https://perma.cc/7F46-UP6N] (last visited Oct. 19, 2023, 8:32 PM); those who assign ESG scores can range from investment firms and consulting groups to government agencies.
[4] What Is Environmental, Social, and Governance (ESG) Investing?, supra note 2.
[5] Noah Miller, supra note 3.
[6] Id.
[7] Id.
[8] Id.
[9] Dan Byrne, What is the history of ESG?, Corp. Governance Inst., https://www.thecorporategovernanceinstitute.com/insights/lexicon/what-is-the-history-of-esg/ [https://perma.cc/3TF4-8JWZ] (last visited Oct. 19, 2023, 8:40 PM).
[10] Id.
[11] Id.
[12] Id.
[13] BlackRockLetter, http://www.ag.state.la.us/Files/Article/13066/Documents/BlackRockLetter.pdf [https://perma.cc/2TUF-49J9], citing Rebecca Ungarino, Here are 9 fascinating facts to know about BlackRock, the world’s largest asset manager, Bus. Insider, (Mar. 10, 2022), www.businessinsider.com/what-to-know-about-BlackRock-larry-fink-bidencabinet-facts-2020-12 [https://perma.cc/LZ24-JN8S].
[14] The New Emperors: Responding to the Growing Influence of the Big Three Asset Managers, Minority Staff of the U.S. Senate Comm. on Banking, Hous., and Urb. Aff. (Dec. 2022), https://www.banking.senate.gov/imo/media/doc/the_new_emperors_responding_to_the_growing_influence_of_the_big_three_asset_managers.pdf [https://perma.cc/S5R4-A3B7].
[15] Jeff Landry, AG Guidance on ESG, http://www.ag.state.la.us/Files/Article/13066/Documents/2022.08.30-AGGuidanceonESG_Final.pdf [https://perma.cc/TEX9-FDJ2], citing Farhad Manjoo, What BlackRock, Vanguard and State Street Are Doing to the Economy, New York Times (May 12, 2022), https://www.nytimes.com/2022/05/12/opinion/vanguard-power-blackrock-state-street.html [https://perma.cc/BD2J-239P]; Gross Domestic Product (Third Estimate), GDP by Industry, and Corporate Profits (Revised), First Quarter 2022 (June 29, 2022), https://www.bea.gov/news/2022/gross-domestic-product-third-estimate-gdp-industry-andcorporate-profits-revised-first [https://perma.cc/DS5E-N9RE]; Manjoo, supra note 15.
[16] Byrne, supra note 9.
[17] Id.
[18] Id.
[19] Id.
[20] Courtney Vinopal, Here Are the States Pulling Their BlackRock Investments as Returns on ESG Funds Lag, Observer (Dec. 13, 2022), https://observer.com/2022/12/here-are-the-states-pulling-their-blackrock-investments-as-returns-on-esg-funds-lag/ [https://perma.cc/F3WE-DUA4]; Niket Nishant & Mehr Bedi, Louisiana to remove $794 mln from BlackRock funds over ESG drive, Reuters (Oct. 5, 2022), https://www.reuters.com/business/sustainable-business/louisiana-remove-794-mln-blackrock-funds-over-esg-drive-2022-10-05/ [https://perma.cc/YR2H-LMLA].
[21] Vinopal, supra note 20.
[22] BlackRockLetter, supra note 13, citing The Net Zero Asset Managers Commitment, www.netzeroassetmanagers.org/commitment/ [https://perma.cc/Y5RJ-MGG3] (emphasis added). BlackRock is on the Steering Committee for NZAM’s parent organization, the Glasgow Financial Alliance for Net Zero.
[23] Nishant & Bedi, supra note 20.
[24] Id.
[25] Minority Staff of the U.S. Senate Comm. on Banking, Hous., and Urb. Aff., supra note 14.
[26] BlackRockLetter, supra note 13.
[27] Byrne, supra note 9.
[28] AG Guidance on ESG, supra note 15.
[29] Id.
[30] BlackRock’s Larry Fink: climate policies are about profits, not being ‘woke’, The Guardian (Jan. 18, 2022), https://www.theguardian.com/environment/2022/jan/18/blackrock-larry-fink-climate-policies-profits-woke [https://perma.cc/E9T5-XDVH].
[31] Id.
[32] Laurence D. Fink, Larry Fink’s Annual Chairman’s Letter to Investors, BlackRock, https://www.blackrock.com/corporate/investor-relations/larry-fink-annual-chairmans-letter [https://perma.cc/U45U-QB8K].
[33] Andrew Freedman, BlackRock CEO “walks tightrope” on climate risk investing, Axios (Mar. 16, 2023), https://www.axios.com/2023/03/16/blackrock-ceo-larry-fink-letter-climate-risk-investing [https://perma.cc/USJ9-DN8T].
[34] Id.
[35] Silla Brush, BlackRock Backs Fewer Climate, Social Shareholder Proposals, Bloomberg (Aug. 23, 2023), https://www.bloomberg.com/news/articles/2023-08-23/blackrock-backs-fewer-climate-social-shareholder-proposals#xj4y7vzkg [https://perma.cc/KX7N-4FQU].
[36] BlackRock Expands Voting Choice to Additional Clients, BlackRock (June 13, 2022), https://www.blackrock.com/corporate/newsroom/press-releases/article/corporate-one/press-releases/2022-blackrock-voting-choice [https://perma.cc/6HWV-BANP].
[37] Brush, supra note 35.
[38] Kevin Stocklin, State Treasurers Demand Answers on How Asset Managers Vote Their Pension Shares, The Epoch Times (May 23, 2023), https://www.theepochtimes.com/article/state-treasurers-demand-answers-on-how-asset-managers-vote-their-pension-shares-5283687 [https://perma.cc/RLC7-2RNE].
[39] Id.
[40] BlackRockLetter, supra note 13.
[41] Vinopal, supra note 20.
[42] Id.
[43] Id.
[44] BlackRock, supra note 36.
