On March 6, 2024, the U.S. Securities and Exchange Commission (the “SEC”) published its long-awaited rules requiring certain climate-related information in registration statements and annual reports filed with the SEC (the “Rules”), which had generated significant public debate and controversy when they were first proposed two years ago.
As anticipated, soon after their publication the Rules became subject to extensive litigation. In less than a month, nine different legal proceedings were presented before six different federal Circuit Courts, which were then consolidated into a single proceeding before the U.S. Court of Appeals for the Eight Circuit.
In light of these challenges, on April 4, 2024, the SEC issued an order staying the rules, although it vowed to “continue vigorously defending the [Rules’] validity in court.” As of today, the future and enforceability of the Rules remains uncertain.
(Non-)Applicability to Sovereign Entities
For the most part, sovereign entities have maintained a detached stance from this debate. As drafted, the Rules apply to domestic and foreign private issuers, but not to Schedule B filers (i.e., sovereign issuers selling SEC-registered securities). The Rules would also not apply to entities selling securities pursuant to an exception from registration (typically, Rule 144A and Regulation S), although disclosure practice in those offerings will likely emulate to a large extent any changes in required disclosures adopted in registered offerings.
However, we believe sovereign issuers should follow the matter carefully, despite not being formally covered by the Rules. As noted above, disclosure practices in exempt offerings are likely to change as well as a result of the changes in the registered offering context, and investors may expect all issuers to follow at least some minimum core of the Rules, even if technically not required. If this were to occur, not following the Rules when and if they become effective may, in time, lead to lawsuits from investors under the anti-fraud provisions of U.S. securities laws, alleging the offering documents contained material misstatements or (more likely) material omissions1.
The key question is what information investors (and the courts) would consider to be material. Materiality is a fact-specific inquiry. Generally speaking, a piece of information is considered material to the extent it significantly alters the “total mix” of information made available2. We expect that, as more and more corporate issuers incorporate climate-related information in their prospectuses, the market will increasingly regard such information as material in making investment decisions. In this context, sovereign issuers may begin to receive pressure to follow the climate-related disclosure trend and include additional disclosures in their offering documents.
The above is not too different from the practice that has developed over time in the sovereign offering context. In our experience, sovereign issuers for the most part follow SEC rules and regulations with regards to disclosure even if not directly applicable to them, as such rules provide guidance on what the SEC and investors consider to be material information3. This practice has been further reinforced by marketing concerns, as investors increasingly require detailed information in an offering, regardless if technically required or not.
For example, even though Schedule B requires significantly abbreviated disclosure, a sovereigns’ prospectus will typically exceed 150 or 200 pages (when taking into account information incorporated by reference, such as that included in a sovereigns Form 18-K). Therefore, just as with regards to other matters, we expect sovereign entities to voluntarily expand their climate-related disclosure in line with what corporations are doing (which, for the most part, will derive from SEC regulation). A first example of this trend might be Uruguay, which has integrated a section dedicated to environmental, social and governance matters in its Form 18-K since 20224.
The above does not mean that sovereigns should over-disclose information. There is also a risk of a sovereign being the target of lawsuits in connection with “material misstatements” in the information provided to investors. This would be the case, for example, if an offering document disclosed a level of greenhouse gas emissions that is materially below the real number, or if it included a sustainability target that is not correlated with good faith actions the issuer is taking to achieve such target. In this regard, one category of anti-fraud upon which corporations have increasingly been sued in recent years (mostly by their shareholders) is “greenwashing,” or misleading/false marketing to exaggerate a company’s current or past practices in order for them to appear more environmentally friendly.
However, we believe sovereign issuers should follow the matter carefully, despite not being formally covered by the Rules. As noted above, disclosure practices in exempt offerings are likely to change as well as a result of the changes in the registered offering context, and investors may expect all issuers to follow at least some minimum core of the Rules, even if technically not required. If this were to occur, not following the Rules when and if they become effective may, in time, lead to lawsuits from investors under the anti-fraud provisions of U.S. securities laws, alleging the offering documents contained material misstatements or (more likely) material omissions1.
The key question is what information investors (and the courts) would consider to be material. Materiality is a fact-specific inquiry. Generally speaking, a piece of information is considered material to the extent it significantly alters the “total mix” of information made available2. We expect that, as more and more corporate issuers incorporate climate-related information in their prospectuses, the market will increasingly regard such information as material in making investment decisions. In this context, sovereign issuers may begin to receive pressure to follow the climate-related disclosure trend and include additional disclosures in their offering documents.
The above is not too different from the practice that has developed over time in the sovereign offering context. In our experience, sovereign issuers for the most part follow SEC rules and regulations with regards to disclosure even if not directly applicable to them, as such rules provide guidance on what the SEC and investors consider to be material information3. This practice has been further reinforced by marketing concerns, as investors increasingly require detailed information in an offering, regardless if technically required or not.
For example, even though Schedule B requires significantly abbreviated disclosure, a sovereigns’ prospectus will typically exceed 150 or 200 pages (when taking into account information incorporated by reference, such as that included in a sovereigns Form 18-K). Therefore, just as with regards to other matters, we expect sovereign entities to voluntarily expand their climate-related disclosure in line with what corporations are doing (which, for the most part, will derive from SEC regulation). A first example of this trend might be Uruguay, which has integrated a section dedicated to environmental, social and governance matters in its Form 18-K since 20224.
The above does not mean that sovereigns should over-disclose information. There is also a risk of a sovereign being the target of lawsuits in connection with “material misstatements” in the information provided to investors. This would be the case, for example, if an offering document disclosed a level of greenhouse gas emissions that is materially below the real number, or if it included a sustainability target that is not correlated with good faith actions the issuer is taking to achieve such target. In this regard, one category of anti-fraud upon which corporations have increasingly been sued in recent years (mostly by their shareholders) is “greenwashing,” or misleading/false marketing to exaggerate a company’s current or past practices in order for them to appear more environmentally friendly.
Sovereign issuers should be mindful of what corporate issuers are doing with regards to climate-related disclosure and carefully consider the information provided to investors in connection with the offer or sale of a security. Diligence in the preparation of bond documentation, together with a level of disclosure in line with market practice (to the extent applicable to sovereign entities, given their unique nature) will likely become increasingly necessary in the event the Rules become effective and disclosure practices shift accordingly.
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