While the U.S. federal government has thrown its weight behind climate and ESG issues as a top priority and has issued a flurry of rulemaking around ESG investing and disclosures, some states have begun experimenting with a variety of anti-ESG legal approaches, including by passing new state laws, or interpreting pre-existing statutes, to target ESG initiatives or ESG investing. We survey below a few of these legal theories, namely: antitrust, “energy discrimination,” consumer protection, and fiduciary duties.
As early as November 2021, Arizona Attorney General Mark Brnovich announced the commencement of an antitrust investigation into common ESG initiatives, especially to the extent they potentially affect commercial relations with the energy sector and thus purportedly constitute "unlawful market manipulation" causing "artificial restrictions on production.” On August 4, 202, he, along with 18 other state attorneys general, penned a letter to a large investment management firm, alleging that “coordinated conduct with other financial institutions to impose net-zero …raises antitrust concerns.”
Most recently, on October 19, 2022, the attorneys general of 14 states announced an investigation into six large banks that had joined the Net-Zero Bank Alliance, asserting that the banks’ net-zero policies constitute a “coordinated practice” that violates state antitrust laws.
“Energy Discrimination” and Similar Laws
A handful of states have recently enacted so called “energy discrimination” or similar laws aimed at entities purportedly “boycotting” fossil fuel or firearm companies. The fossil fuel related laws rely on a broadly defined concept of “boycotting” many of which encompass common net-zero and ESG strategies. Texas was the first state to adopt this approach, passing S.B. 13 in May of 2021, which requires the Texas Comptroller to maintain “a list of all companies that boycott energy companies” and distribute this list to all state governmental entities, which are forbidden from contracting with any company on the list, and must divest from any with which they are already invested. Only a month later, Texas enacted S.B. 19, an almost identical bill that forbids contracts between state entities and any company that discriminates “against a firearm entity or firearm trade association.”
Meanwhile, other states which have adopted a similar anti-ESG approach include: Wyoming (H.B. 0236 in July 2021, providing that a “financial institution shall not discriminate against a firearm entity because the firearm entity supports or is engaged in the lawful commerce of firearms”); West Virginia (S.B. 262 in March 2022, barring government contracting with “financial institutions engaged in boycotts of energy companies”); Kentucky (S.B. 205 in April 2022, with almost identical provisions to the West Virginia law); and Oklahoma (H.B. 2034 in May 2022, with almost identical provision to Texas’ S.B. 13).
In early January 2023, Kentucky’s State Treasurer released an initial list of 11 financial companies their office determined are engaged in “boycotts.” If the financial institutions do not “cease boycotting energy companies” within 90 days, they are subject to divestment. Meanwhile, in February 2023, Oklahoma’s State Treasurer began the creation of their own list by sending questionnaires to “a list of national financial institutions. . . to determine which companies boycott energy companies.” Any company that does not respond by April 1, 2023 will be presumed to engaged in “discriminating activities.”
Eleven other states have proposed similar bills including Arizona, Idaho, Indiana, Kentucky (for firearms), Louisiana (for energy), Louisiana (for firearms), Missouri, Minnesota, Ohio, Oklahoma (for firearms), South Carolina, South Dakota, and Utah. Some of these proposed bills expand past the fossil fuel and firearm industries, to encompass purported “boycotts” of the mining, timber, and agriculture sectors.
Consumer Protection Claims and ESG Score “discrimination”
On July 27, 2022, Florida Governor Ron DeSantis announced proposed legislation that would amend Florida’s Deceptive and Unfair Trade Practices statute to prohibit financial institutions from discriminating against customers based on so-called “ESG social credit score metrics.”
Almost simultaneously, on July 26, 2022, Missouri began an investigation into a major ratings agency and its subsidiary alleging violations of consumer protection laws in connection with an ESG risk rating product due to an alleged "anti-Israel bias.” Missouri was joined in their investigation by 18 other state attorneys general on August 17, 2022. *
Additionally, the above-mentioned state investigations into member banks of the Net-Zero Bank Alliance encompass purported violations of state consumer protection laws, on the basis that net-zero policies involve the impermissible blocking of certain businesses from accessing banking services.
In September 2022, Pennsylvania proposed H.B. 2799, which would prohibit discrimination by financial institutions on the basis of “subjective or arbitrary standards [including] social credit or environmental, social or governance scores[,]” and impose fines of $50,000 for a first violation, with an additional fine of $250,000 for every subsequent violation. Florida followed in February 2023, with the governor’s proposal of a bill including similar language prohibiting the consideration of what they referred to as “Social Credit Scores.” Legislators in five other states have used the prefiling process to place similar ESG score discrimination bills on the 2023 legislative agenda. Arkansas, Missouri, South Carolina, and Texas.
Breach of Fiduciary Duties and similar ERISA claims
A number of states have introduced draft legislation, passed resolutions, or issued policy guidance indicating that ESG investing approaches may violate fiduciary duties of prudence and loyalty applicable to state investments.
North Dakota enacted S.B. 2291 in 2021 restricting the state investment board from “social investment.” Idaho was the first to truly target ESG investing with S.B. 1405 in July 2022, a bill providing that “[n]o public entity engaged in investment activities shall consider environmental, social, or governance characteristics in a manner that could override the prudent investor rule.” Then, in August 2022, Arizona released an investment policy statement specifying that “all investments by or on behalf of the Treasurer are to be based on a fiduciary standard of care and only consider pecuniary factors” and specifically forbidding the consideration of “social or environmental goals.” Within the same week, Florida passed a resolution preventing the Florida State Board of Administration (SBA) fund managers from considering ESG factors when investing state funds, and making the maximization of investment returns for Florida’s retirees the sole factor for consideration by SBA fund managers. The trustees of the SBA formally approved these policies in January, 2023. Within the month, Florida’s Chief Financial Officer signed a directive blocking Florida’s deferred compensation program from investing any of its $5.1 billion of assets into financial products “ associated with [ESG] standards.”
Similarly, on September 1, 2022, Indiana Attorney General Todd Rokita presented his office’s advisory opinion that Indiana law prohibited the Pension Board from exercising voting rights based on supposedly “extraneous” ESG considerations. Soon after, the State Treasurers of Louisiana, Missouri, and South Carolina all released statements in the same month opining that ESG investing conflicts with their respective state laws on fiduciary duties for investment plans.
These letters accompany moves by a number of State Treasurers to withdraw their states’ investments with a large investment manager known for its leadership on ESG issues; totalling approximately $794 million for Louisiana, $500 million for Missouri, $200 million for South Carolina, and $2.03 billion for Florida. North Carolina has called for the removal or resignation of the investment manager’s CEO due to their focus on ESG initiatives.
On January 12, 2023, 21 state attorneys general sent a letter to two major proxy advisory firms questioning whether the firms’ commitments to “net zero” and board diversity resulted in breaches of various federal and state laws (including fiduciary duties owed by investment advisers, anti-fraud provisions of securities laws, and unfair and deceptive trade practices statutes). The attorneys general asked for “written assurance that [the firms] will cease such violations and commit to following the law” by January 31, 2023.
On January 26, 2023, 25 state attorneys general filed a lawsuit against the Biden Administration, aiming to stop implementation of a new Department of Labor regulation that would allow for the consideration of ESG factors with respect to federally-regulated pension investments. The Rule on Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights took effect February 1 (read more here), although the attorneys general have requested the court to halt its implementation and declare the Rule unlawful.
While Republicans in the U.S. House of Representatives have created a working group to “to combat the threat to our capital markets posed by those on the far-left pushing environmental, social, and governance (ESG) proposals,” and others have challenged the new Federal Supplier Climate Risks and Resilience Rule, federal agencies have pressed ahead with an ambitious rulemaking and enforcement agenda in respect of climate and ESG. Moreover, pro-ESG states have indicated a willingness to use their influence as well, with New York City’s Comptroller Brad Lander recently sharing an open letter to a major investment manager urging it to place more focus on its climate commitments despite the opposition from the state initiatives canvassed above.
Given the complex and fast-evolving landscape of state and federal developments in this area, companies should carefully monitor the latest ESG developments to stay ahead of regulatory and enforcement trends. **
*Arizona would withdraw its support of this investigation on February 13, 2023.
**This article was most recently updated on February 16 to reflect recent developments.