PE firms face growing regulatory and litigation risks from greenwashing claims as they navigate a fragmented anti-greenwashing landscape.

By Tom D. Evans, Nell Perks, Anne Mainwaring, David J. Walker, and Catherine Campbell

Amid concerns of exaggerated or misleading sustainability claims, the UK Financial Conduct Authority’s (FCA) recent proposal for new labelling and disclosure rules to combat greenwashing (see text box) should put PE firms on alert for a growing range of greenwashing risks. The FCA proposals are just the latest in a wave of new rules and requirements being enacted and contemplated as regulators across jurisdictions look more carefully at green claims and seek to hold regulated firms (including PE sponsors) to account for exaggerated credentials and misstated investment policies.

Similarly, investor and other stakeholder claims over greenwashing are on the rise as firms and portfolio companies come under greater scrutiny and are required to publish ESG disclosures in market-facing and other public information. These claims can be brought under different and overlapping laws, including statute, securities regulations, and “soft law” provisions, making a consistent and proactive risk management approach essential.  

Cross market focus

The FCA’s proposals are a clear signpost of its concerns, expectations, and areas of supervisory and enforcement focus in relation to greenwashing. Regulated firms are already required under existing UK rules to ensure that information communicated to clients is clear, fair, and not misleading. However, the new rules will link these requirements directly to sustainability claims — and sponsors must ensure that all claims are fair, clear, not misleading, and proportionate to the sustainability profile of the products or services.

The heightened regulatory emphasis on greenwashing is honing focus across the market. The FCA’s proposed rules raise reputational risks for PE sponsors and are an area of increasing focus for LPs (including as part of due diligence questionnaires). We have seen a recent a push by LPs to more fully understand sponsors’ ESG claims made during the fundraising process. Further, the rise of ESG activism targeting misleading sustainability claims, also heightens the need to be accurate with marketing materials. We are also seeing a growing number of whistleblowing allegations (internal and external) that relate specifically to greenwashing.

UK greenwashing litigation

A range of claimant bodies and regulators are scrutinising disclosures with increasingly sophisticated analytical tools — and adverse regulatory greenwashing findings will inevitably give rise to litigation.

The requirement to publish more ESG-related content increases the risk of adverse greenwashing findings, not just for regulatory breaches, but for other failings including based on OECD Guidelines or even advertising standards. Real reputational, legal, political and financial consequences can arise from failing to align business practice with statements and policies. Such statements and policies often contain laudable public commitments and pledges around ESG and acknowledgements of control of, and responsibility for, such matters by PE management and boards. However, these statements and policies have legal content and significance that must not be overlooked as they potentially create misstatement litigation exposure at board, operating and portfolio company levels.

Breadth of claims

Investors (including LPs) could choose to bring greenwashing mis-selling claims. While the threshold for establishing a mis-selling claim is high in the UK (e.g., an investor would typically need to demonstrate reliance on an ESG-related statement that induced their investment), the potential remedies are significant and include the rescission of investments — a major risk. Existing UK legislation also allows investors in listed companies (including listed PE firms) to seek compensation for loss suffered as a result of untrue or misleading statements in prospectuses or listing particulars. Class actions also remain a threat, risking very large exposures, and significant reputational damage.

Delivering on promises

There is more to this evolving area than simply general compliance and being a good corporate citizen. Sponsors should carefully consider whether they over-promise or under-deliver on ESG claims. Building a sound understanding of potential greenwashing risks and taking mitigating action (see text box) is increasingly important. There is enormous opportunity for those focused on sustainable investment but there is a real need to approach this as a fundamental regulatory and litigation risk mitigation issue.

FCA Need to Know
— As part of its proposed Sustainability Disclosure Requirements (SDR) and investment labels regime the FCA is consulting on the introduction of a general “anti-greenwashing” rule.
— This rule would require all regulated firms to ensure that the naming and marketing of financial products and services in the UK is clear, fair, and not misleading, and consistent with the sustainability profile of the product or service.
— The FCA is aiming to finalise these rules and publish a policy statement by the end of H1 2023 with the anti-greenwashing rule coming into effect immediately after publication of the policy statement.
Tips to Mitigate Greenwashing Risks
— Establish processes to identify where ESG claims have been made, and ensure mitigants have been applied.
— ESG terminology and disclosures must be clearly defined and understood across a PE firm and its investor base.
— No sustainability statements should be approved without understanding how they will be demonstrated.
— Fund and strategy naming discipline is required to ensure alignment with investment objectives, the percentage of strategy alignment in a given vehicle, and any exclusion criteria.
— Conduct due diligence on the integrity and limitations of ESG data and information provided by third parties, and conduct regular portfolio company reviews to assess ESG risks.
— Develop a clear understanding of cross jurisdictional greenwashing risks, and how risks interact in order to develop a consistent framework (e.g., by applying the “highest common denominator”).

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