De-Facto Financial Regulation in the Form of Corporate Criminal Liability for ESG is Coming 

Traditional financial regulation would take the form of legislation passed by Congress and then interpreted by agencies. We are not in that world anymore. Given Congressional paralysis, de-facto financial regulation is being pushed by the setting of agency agendas and being communicated to the business community through announcements of priorities and prosecutions. 

For example, despite continued failure to enact national climate change legislation by June 2022, the U.S. Treasury recently demanded more “forceful and constructive” leadership at the World Bank to align funding priorities with climate change goals. Even though the United States has a checkered history of signing onto the Paris Climate Agreement, and the Biden Administration has not been able to pass enforcement provisions through Congress, the Treasury is requiring conforming action of the World Bank. The Treasury’s Department’s position carries weight because the U.S. is the Bank’s largest shareholder, and the only nation with veto power over Bank decisions. 

In a new manuscript, I argue that the Biden Administration’s current focus on ESG issues will lead to new criminal liability for corporations. The acronym ESG stands for environmental, social, and governance initiatives. ESG is an overly broad term that can encompass everything from deforestation, to diversity and inclusion, through questions about the ethics of lobbying. As it is a particularly fast-moving area, I focus here on precedents related to climate change. 

Why We Should Expect Liability for ESG in the United States 

There are several basic reasons why we should expect to see U.S. corporate liability move in the ESG space. It may start with civil liability, but it may move quickly to criminal liability, primarily on the basis of fraud

  1. We are experiencing tremendous changes in social norms around ESG factors. In 2021, 76 percent of millennials age 33 to 40 thought that climate change represented a serious risk to society. The investment community is responding. By the end of 2019, 564 actively managed U.S. funds had added ESG criteria to their prospectuses. Twenty-three of the funds had over U.S. $ 1 billion in assets. 
     
  1. Changing norms tend to push enforcement behavior. These changes put the Biden Administration on more secure footing in punishing ESG violations than would appear from the lack of endorsement from Congress. 

 
Arguments about norms have long undergirded the academic debate about the place of civil, criminal, and other sanctions. Professor David Skeel has written about how intertwined shaming sanctions are with enforcement norms. Professor Samuel Buell has written about the social value of labeling certain corporate behaviors as criminal, above and beyond the shaming value of civil liability. Professor Jennifer Arlen has noted recently the important political economy of having criminal sanctions as corporate enforcement tools. Professor John C. Coffee, Jr. has expressed skepticism about criminal sanctions actually being worse than civil ones in the corporate context, but finds that we need both—and possibly new tools as well. 

  1. There is a thin line in U.S. corporate enforcement between civil and criminal liability. Part of this problem is the nature of corporate cases. They tend to contain so much documentary evidence that it can be difficult, especially with the availability of willful blindness instructions, to deny sufficient coordinated intent. Similarly, with that level of documentation, it can be easier to meet the burden of proof for criminal behavior “beyond a reasonable doubt” in evaluating the behavior of the corporation as a whole. 
     
  1. There is plenty of money to be made from responding to the public’s feelings of urgency. And there is even more money to be made when companies feel that they can tell the public—customers, investors, employees, and others—what they want to hear to hand over money at a premium, while the companies do little, or none, of what they promised to earn it. That’s a recipe for fraud.  
     
    Will it be civil fraud or criminal fraud? I think it will be both.   

We Are Starting to See the SEC and DOJ Move on ESG Enforcement

Both the U.S. Securities and Exchange Commission (SEC) and the Department of Justice (DOJ) have started to move on ESG enforcement against U.S. companies. 

The signals have been the longest and loudest from the SEC. In March 2021, the SEC created a new Climate and Environmental, Social, and Governance (ESG) Task Force (Task Force) within the Division of Enforcement. In explaining the focus of the Task Force, Acting Deputy Director Kelly L. Gibson highlighted greenwashing as a particular priority. She wanted to target behavior “exaggerating” a “commitment to, or achievement of climate . .  . related goals.” There has been a “dramatic surge in popularity for ESG focused investment funds” without strong standards for what company promises about ESG behavior should mean.    

The SEC has now implemented an “all agency” approach, infusing ESG enforcement into many of the agency’s actions. Even before formation of the Task Force, in February, April, and March 2021, the SEC’s Divisions of Examinations and Corporation Finance made announcements that they would focus on climate-change related risks, as the agency was concerned about “deficiencies and internal control weaknesses from examinations of investment advisers and funds regarding ESG investing.” 

We are starting to see enforcement results from these announcements. On the civil front, on May 23, 2022, the SEC charged BNY Mellon Investment Adviser, Inc. for “misstatements and omissions about Environmental, Social, and Governance (ESG) considerations in making investment decisions for certain mutual funds that it managed.” The company has agreed to pay $1.5 million to settle the charges. On June 10, 2022, news broke that the SEC was investigating Goldman Sachs for potentially misrepresenting ESG claims about its funds. 

On the criminal front, it commanded market attention in December 2021 when the DOJ informed Deutsche Bank AG that it may have violated a criminal settlement for failing to inform prosecutors of its failures to live up to ESG disclosures. In March 2022, Deutsche Bank agreed to extend the term of its outside compliance monitor on this basis. Stemming from the U.S. developments, on May 31, 2022, German authorities raided DWS and Deutsche Bank offices for evidence of greenwashing allegations. The next day, the head of DWS resigned


Although the U.S. Deutsche Bank result arrived in the easier procedural form of enforcing an existing criminal settlement, as opposed to the generation and trial of a new indictment, the DOJ wants to step up corporate criminal enforcement. In her October 2021 keynote address, Deputy Attorney General Lisa Monaco explained that the Biden administration is “going to find ways to surge resources to the department’s prosecutors” combatting corporate crime. Enforcing the truth of ESG promises seems like low-hanging fruit in line with this approach. 

In the next editions of the manuscript, I will address growing concerns about potential individual liability for directors, corporate officers, and compliance personnel. 

Thoughts for Moving Forward 

Given this evolving landscape on potential criminal liability for ESG issues, and particularly climate change, we should be asking some questions and taking some measures. 

  1. Is this ad-hoc U.S. approach how we should be moving forward? We should want businesses to embrace action on climate change, but imposing liability without additional measures may backfire—and definitely leads to uncertainty. We need a comprehensive solution to respond to climate change that more clearly articulates the roles and expectations for businesses.  
     
    Given paralysis in Congress, and how reluctant the United States seems to be to adopt international standards, we are putting our companies at a disadvantage in meeting expectations for action that are increasingly based on those standards. Professor Felix Mezzanotte has written in this blog about the European standards and how they are being codified. It is in U.S. businesses’ interest to have a more uniform regulatory environment and expectations. Now that so many other countries have embraced uniform standards, businesses should push the United States to embrace similar standards too. 
  1. Can we speed up U.S. regulatory guidance on ESG? The SEC has put new climate change disclosure rules out for public comment. As with other attempts at standardization to protect them from liability, the business community should be welcoming these rules and encouraging their passage. In the face of potential criminal liability, 90 percent of company law departments should not be concerned that current U.S. regulations are too vague to follow.  
     
    Even if we cannot adopt broader international standards, articulating climate change disclosure rules is a first step to making our regulations less vague. In the pages of this blog, Professors Ran Duchin, Janet Gao and Qiping Xu have written about how difficult it is to use current ESG criteria to reduce pollution results. Professors Lawrence Baxter, Gina-Gail Fletcher, and Sarah Bloom Raskin have written on additional difficulties in white papers as part of the Regenerative Crisis Response Committee
  1. Can we reduce the amount of fraud and other abuse in ESG? This misconduct is what is drawing regulatory attention and pending suits. Companies should be proactive in ensuring that they say what they do, and actually do what they are say. This sounds basic—and it should be the foundation of any good compliance program—but there is so much money to be made now in ESG promises that the temptation to cheat and not follow through is always there. In this blog, Professors Michael Grote and Matthew Zook have highlighted “greenwashing” in the ESG market. See additional examples in my manuscript here. These are the moments that test ethics in the marketplace, and we should want to pass that test. 

J.S. Nelson is a Visiting Associate Professor at Harvard Business School and an Associate Professor of Business Ethics on leave from Villanova Charles Widger School of Law.  

This post is adapted from the author’s paper, “The Future of Corporate Criminal Liability: Watching the ESG Space,” available on SSRN, and her book with the late Lynn Stout, “Business Ethics: What Everyone Needs to Know,” available on Amazon, and wherever books are sold.  

The views expressed in this post are those of the author and do not represent the views of the Global Financial Markets Center or Duke Law. 

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