A heightened regulatory focus and investor demand has driven a major issuer group to issue its first-ever recommendation on ESG disclosure.
On Thursday, the Government Finance Officers Association released its first-ever best practice on ESG — environmental, social and governance — to guide state and local governments on disclosing those concerns to the market. Analysts, often hungry for better issuer disclosure, applauded the move.
“This piece is a good step forward in helping issuers think about climate-related risks and impacts and the way that they can communicate what they’re doing to make themselves more resilient,” said Lisa Washburn, managing director at Municipal Market Analytics.
ESG has gained regulatory attention over the last few months. Last week, the Securities and Exchange Commission announced the creation of a climate and ESG task force in its enforcement division to find ESG-related misconduct.
On Feb. 24, acting SEC Chair Allison Herren Lee directed the SEC Division of Corporate Finance to increase its focus on climate-related disclosures in company filings.
The SEC should be encouraging ESG disclosure, Washburn said.
“The municipal market typically follows the corporate market, but there is usually a lag,” she added.
ESG disclosure in the municipal market still has a long way to go, Washburn said.
“It’s not near the level it should be given the number of municipal borrowers that are affected by climate-related issues whether it be flooding, hurricanes, wildfires and extreme heat,” Washburn said. “We’ve seen a large increase of the effects of climate change.”
Some issuers are disclosing their risks, Washburn added, but they are boilerplate and provide little information. Washburn called for more disclosure in issuers’ official statements and more disclosure in the secondary market, especially for those issuers that issue bonds less frequently.
“With regard to secondary market disclosures, there is a potential benefit for borrowers in getting that information out to investors,” Washburn said. “It means that investors will have to make less assumptions about what the potential risks and what the community is actually doing.”
As for unexpected events, analysts look for realistic disclosures.
“I wouldn’t expect the state of Wisconsin to report on hurricanes,” Washburn said. “I don’t think you’re looking for disclosure of things that aren’t going to happen. Issues that are being discussed within the context of climate change more broadly in a particular region and on the community, on the revenue stream. Those are things you’d want to see.”
GFOA’s best practice on ESG focuses more on voluntary disclosure in the primary market, while encouraging issuers to be more transparent.
“The increased focus and awareness from investors can also be the catalyst for encouraging more governments to increase on-going efforts to identify and address environmental risks and enhance their readiness and resiliency,” GFOA wrote.
The best practice focused solely on environmental factors, and the GFOA plans to follow up with social and governance later this year.
Issuers should consider environmental factors such as diversity of power generation sources, sea-level rise, wildfires, climate change affecting agriculture, infrastructure and major areas of its tax base among others, GFOA said.
“Investors and rating analysts are not just looking to see if risks are present, but also want information regarding what plans a government has to address these risks,” GFOA wrote.
A good starting point in primary market disclosure is addressing what the issuer knows and is currently experiencing and what steps need to be taken to address these factors and risks, GFOA said, such as climate action plans or greenhouse gas reduction strategies.
The GFOA best practice was about fundamentally changing how industry practices are going forward, such as embedding the ESG disclosure in an official statement, said Ben Watkins, director of Florida’s Division of Bond Finance.
“It’s the first time I can think of, when we in the muni space, are actually ahead of the curve,” Watkins said. “We’re actually doing something that’s not in reaction to what the regulators perceived as a shortcoming, but rather on a voluntary basis and working on understanding on what investors and analysts want and providing that information voluntarily.”
The SEC recognized ESG disclosure as a priority in the muni market.
“ESG-related disclosure has become a priority for many investors, including in the municipal securities market,” said Rebecca Olsen, director of the SEC’s Office of Municipal Securities. “In particular, disclosure of material climate risk is important, especially given the role of municipal securities in financing our country’s infrastructure. I look forward to engaging with municipal securities market stakeholders on this topic.”
