Super trustees in the post-ESG world

Introduction

After signalling its intent by issuing infringement notices to four financial services providers (including one superannuation trustee)[1] and foreshadowing its intensified focus on sustainable finance practices in its Corporate Plan[2] and enforcement priorities[3] for 2023, ASIC has fired a first shot across the bow for superannuation trustees. That shot took the form of commencement of legal proceedings on 27 February 2023 within which ASIC alleged that misleading statements were made about the sustainable nature and characteristics of certain superannuation investment options.[4] This will be a sobering warning to all superannuation trustees to take great care regarding their conduct and disclosure on ESG related matters. This article explores three aspects of those considerations.

Background

ESG has been brewing in the background for investors and financial services providers for many years[5] but has more recently come to the fore of the community’s consciousness and on regulators’ radars, with ASIC issuing explicit guidance on how to avoid greenwashing in June 2022.[6] All this means that superannuation trustees must now urgently grapple with both their investment conduct (both as an investment manager and as an investor) and the governance of being a trustee in a post-ESG world. In particular, there are three quite interesting challenges to consider:

what role does due diligence play in the management of investments and disclosure in relation to ESG and how can technology fortify and make efficient that process?
how can a well-planned organisational structure help superannuation trustees to manage the risk posed by the prohibitions under section 56 of the Superannuation Industry (Supervision) Act 1993 (Cth) (SIS Act)?
how do superannuation trustees discharge their obligations to their members when they use their voting power as investors?

Dynamic due diligence

The governance required to ensure that disclosure is made in compliance with both legal and regulatory requirements and community expectations is already quite complex and ESG has now become a more prominent part of that equation. There are existing mandatory disclosure rules for sustainability and sustainability-related products,[7] which fit hand in glove into the existing obligations of superannuation trustees under the Corporations Act, including (to name a few key obligations):

to comply with the product disclosure statement (PDS) content requirements, including to word the document in a ‘clear, concise and effective manner’;[8]
to avoid making misleading or deceptive statements in required disclosures;[9]
to avoid preparing a defective PDS.[10] There are due diligence defences available in certain circumstances - see further discussion below;
in relation to an Australian financial services (AFS) licensee:
- to comply with financial services laws, which will have been breached if disclosure requirements under Chapter 7 of the Corporations Act are breached;
- to maintain competency to provide financial services;[11]
- to comply with the conditions of its AFS licence, including to establish and maintain compliance measures that ensure, as far as is reasonably practicable, that the licensee complies with the provisions of the financial services laws;[12] and
- to do all things necessary to ensure that the financial services covered by the licence are provided efficiently, honestly and fairly.[13] Infringing behaviour in respect of this obligation can include a lack of oversight by a person in providing its financial services[14] and failure to reduce risks.[15] Relevantly, a lack of policies and mechanisms to manage risks and where steps are not expeditiously taken to deal with any risks that eventuate, may factor into a breach of this provision.[16]

The Due Diligence Defence

For the preparation of PDSs, there is a due diligence defence available in the situation where a person takes reasonable steps to ensure that the disclosure document or statement would not be defective.[17] There is no definitive path to ‘reasonable steps’, however having in place (and properly executing) robust and appropriate processes and procedures in relation to the review, verification of facts and statements within and sign-off of PDSs should enliven the due diligence defences.

Indeed, these due diligence processes are best practice for any disclosures relating to sustainability or responsible investing in PDSs and other disclosures and marketing as they can act as a control to prevent greenwashing from occurring in the first place.

Organisational structure and section 56 of the SIS Act

The increased disclosure risk presented by ‘greenwashing’ should bring the spectre of section 56 of the SIS Act to the forefront of a superannuation trustee’s mind. Amendments to section 56[18] now note that a provision in the governing rules of a superannuation fund is void to the extent that it would have the effect of exempting the trustee from, or indemnifying the trustee against, liability for an administrative, civil or criminal penalty under a Commonwealth law incurred by the trustee. This affects not only a superannuation trustee’s ability to indemnify itself out of the assets of the fund for which it is trustee for any penalties arising from greenwashing, it can also be problematic for the effectiveness of indemnities obtained from third parties and the consequences flowing from this could be financially devastating for a trustee, the fund itself and its members, if not appropriately addressed.

Superannuation trustee voting power on sustainable issues

Superannuation trustees are investors with significant voting power and they reflect the broader investor community which is becoming more and more active in the ESG space. Trends in proxy voting by superannuation trustees have seen the increase in supportive votes for environmental / climate proposals increase from 24.7% in 2017 to 46.2% in 2021.[19] Members are no doubt watching and may take action against trustees which fail to vote or vote in a manner which is perceived to go against their previously disclosed positions. The Environmental Defenders Office has been active in this space.

There are a number of considerations, pitfalls and tensions for trustees as investors on topic of sustainability, including:

the somewhat untested tension and interaction between a trustee’s duties and obligations, such as the former ‘best interests’ covenant[20] which is now explicitly financial in nature, and ESG-related concerns.[21] Just how far can a trustee take into account non-financial factors and to what extent do existing duties and obligations (both non-financial and financial) bear upon sustainability issues?

should a trustee be an active shareholder or should it delegate (or continue to delegate) voting to investment managers or proxy voting firms?

trustees’ choice of investments in relation to sustainability may draw the attention of activists’ advisers.

how transparently and effectively does a trustee disclose its proxy voting record and practices so that members can monitor this or make a decision regarding whether to join the fund or leave?

is it preferable and appropriate for trustees with significant bargaining power and influence, to take positive steps to engage with heavy emitters to improve behaviour (and sustainability outcomes) or should they merely abandon those investments?

should a trustee publicly disclose its investment and proxy voting policies and ensure that it acts in a manner consistent with that disclosure and those policies? How will it engage with its members and the public to make those disclosures? It may depend upon the demographic of a trustee’s membership base as to whether paper-based mail, email, public or member portal websites, apps or other forms of communication are the most effective and appropriate.

should trustees file shareholder proposals at annual general meetings and how will they settle and efficiently determine to file those proposals?