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Aug 04, 2023

The week in GRC: Microsoft, LSEG working on AI models and European Commission publishes ESG disclosure rules

This week’s governance, compliance and risk-management stories from around the web

–The Financial Times (paywall) reported that the London Stock Exchange Group (LSEG) is working with Microsoft and several banks to create bespoke generative artificial intelligence (AI) models in a development that shows how the financial-services industry is looking to use the technology without exposing proprietary data. Although many financial-services companies are interested in AI’s potential benefits, they are wary of inputting confidential information in the models, which continually learn from the data they are given.

LSEG CEO David Schwimmer said, ‘We are having conversations with customers about the opportunity for them to use the vast amount of data we have available, to commingle that with their data in a secure proprietary [manner].’ Banks are interested in creating their own generative AI models because they ‘want to make sure that none of [their] data is being used to inform any other large language models out there,’ he added.

Bloomberg reported that a majority of investment bankers who will be setting the first industry standards for calculating the carbon footprints of capital-markets activities have backed a compromise deal that would led to banks reporting only one third of emissions related to stock and bond underwriting.

More than half of the eight-member working group voted for disclosing just 33 percent of facilitated emissions, according to a person familiar with the matter. Two members of the group, which was assembled in early 2021 by the Partnership for Carbon Accounting Financials, voted for 100 percent, the person said.

–According to the FT, the world’s largest accounting firms are trying to block proposed new Public Company Accounting Oversight Board (PCAOB) rules that would require them to take more responsibility for finding fraud at the companies they audit. With days to go before the end of a consultation period on the measure, the firms are trying to sign up their clients to oppose the plan, saying that the changes would lead to higher audit fees.

The PCAOB’s new rules would broaden auditors’ responsibility to scrutinize whether a company is complying with laws and regulations, and to communicate more of their concerns to a company’s board. The Center for Audit Quality, a group representing audit firms led by Deloitte, PwC, EY and KPMG, is asking directors to sign a letter attacking the plan.

‘Auditors are not lawyers and as a result the proposed amendments would expand the auditor’s role to include knowledge and expertise outside their core competencies,’ the letter states. ‘The proposal will substantially increase the cost of the audit without a commensurate benefit.’

Lynn Turner, a former SEC chief accountant who is now an adviser to the PCAOB, said existing standards provided too much ‘wriggle room’ for auditors to avoid confrontation with management when they see potentially illegal behavior.

Reuters reported that the European Commission published final rules for corporate ESG disclosures, confirming earlier moves to water down the requirements. Commission president Ursula von der Leyen had pledged to cut red tape across the EU executive's work this year as companies complain about the mounting cost of environmental rules.

The European Sustainability Reporting Standards (ESRS) flesh out the bloc's corporate sustainability reporting directive that large companies will have to apply in annual reports for 2024, with smaller issuers following two years later. Companies will have more flexibility to decide what information is material and therefore should be reported, an approach common in financial reporting.

–The UK’s largest mobile and broadband supplier BT Group appointed Allison Kirkby to succeed Philip Jansen as CEO, saying the switch would take place toward the end of January 2024 at the latest, according to CNBC.

Kirkby has previously been president and CEO of Swedish telecoms provider Telia, with experience at Virgin Media and Denmark’s TDC. She has been a member of the BT Group board for the past four years. Jansen earlier this month announced he would step down from his role within the next 12 months. He will remain available to support the handover until March 2024 before retiring, BT said.

–The FT reported that, according to research from Scientific Beta, companies rated highly on widely accepted ESG metrics pollute as much as companies with low ratings. This lack of correlation holds even if companies’ carbon intensity — their carbon emissions per unit of revenue or market capitalization — is compared purely to their environmental rating, Scientific Beta found.

‘ESG ratings have little to no relation to carbon intensity, even when considering only the environmental pillar of these ratings,’ said Felix Goltz, research director at Scientific Beta. ‘It doesn’t seem that people have actually looked at [the correlations]. They are surprisingly low.’

The researchers found that 92 percent of the reduction in carbon intensity that investors gain by solely weighting stocks for their carbon intensity is lost when ESG scores are added as a partial weight determinant. Even just using environmental scores ‘leads to a substantial deterioration in green performance,’ they found.

Keeran Beeharee, vice-president for ESG outreach and research at Moody’s, agreed that ESG investment does not necessarily help an investor create a low-carbon portfolio, or any other specific goal. ‘[There is a] perception that ESG assessments do something that they do not. ESG assessments are an aggregate product, their nature is that they are looking at a range of material factors, so drawing a correlation to one factor is always going to be difficult,’ Beeharee said.

The Wall Street Journal reported that BlackRock and MSCI are being investigated by a congressional committee for facilitating US investments in Chinese companies that the US government has accused of bolstering China’s military and violating human rights.

The House of Representatives’ select committee on the Chinese Communist Party notified the firms of the probes, according to letters viewed by the WSJ. The goal of the investigation is to gather facts that would inform the US’s China policies, including on US capital flows.

The panel told the firms that a review of some of their activities – which are not illegal – showed that they are causing Americans to fund more than 60 Chinese companies that US agencies have flagged on security or human-rights grounds.

BlackRock said in a statement that it has engaged the committee directly to better understand its concerns. ‘The majority of our clients’ investments in China are through index funds, and we are one of 16 asset managers currently offering US index funds investing in Chinese companies,’ it added.

In a statement, MSCI said it’s reviewing the committee’s inquiry. It has previously said that all of its index decisions are made after consultations with a range of global market participants.

Reuters noted that most major companies use the Greenhouse Gas Protocol (GHGP) Corporate Standard for reporting emissions, which will form part of the framework for compulsory EU standards set to take effect next year. The US is set to announce similar rules this year and the standard is also embedded in other international emissions reporting standards. But according to Reuters the guidelines, which are overseen by the World Business Council for Sustainable Development and World Resources Institute, define the three main categories of emissions companies should report broadly and in doing so leave room for interpretation.

Half a dozen investors said that although the GHGP has been key to creating transparency about corporate emissions, it can be difficult to compare companies given the potential for differences in disclosures, and this will remain the case to some extent even with new mandatory norms.

European and US regulators and officials at the International Sustainability Standards Board acknowledge the criticisms of GHGP but argue that the new EU, US and global standards are just the start of a journey to more accurate reporting.

The Guardian reported that business lobbyists, including big agricultural and construction groups, are pushing to weaken or stop efforts at the federal and state levels to implement workplace heat protection standards. This summer, millions in the US have been exposed to some of the hottest days on record, prompting renewed urgency for federal protections from heat exposure for workers. The Biden administration has proposed federal heat protections, but the rules face stiff opposition and could take several years to be finalized under rule-making processes and laws.

Business groups and lobbyists have opposed efforts at state and federal levels to enact heat protection standards for workers, claiming employers already practice what a standard would mandate, expressing concerns about the burden on companies and claiming the efforts take a ‘wrong approach.’

–GAM repeated its plea for shareholders to accept a takeover proposal from Liontrust that it says is crucial to its survival, according to the FT. GAM’s board has previously said its ability to continue as a going concern rests on the takeover proposal from UK-listed Liontrust, which is facing a challenge from activist investors.

On Thursday, chair David Jacob reiterated his support for the offer. ‘Our investment teams continue to excel, but the need for corporate stability is essential to give our clients confidence to allocate to our strategies,’ he said in a statement. ‘The stable platform and investment that will be provided by the combined group, once the Liontrust offer is completed, gives our shareholders an opportunity to participate in future value creation.’

A group of activist investors, led by French telecoms billionaire Xavier Niel, has said Liontrust’s offer undervalues GAM’s potential.

–The WSJ reported that the SEC called on some Wall Street brokers to do more to ensure their services aren’t being used to launder dirty money. The SEC’s examinations unit issued a risk alert saying it had observed broker-dealers that weren’t putting enough resources or staffing into their anti-money-laundering (AML) programs. The unit also found that some firms were inconsistent in their implementation of policies and procedures designed to stop financial criminals. No firms were named.

Under US laws, banks and other financial-services firms must maintain controls to stop the flow of illicit funds. The SEC for years has policed broker-dealers’ AML, occasionally issuing fines to firms that fall short.

Newsweek reported that the board appointed by Florida Governor Ron DeSantis to oversee Disney World's operations in the state has abolished all diversity, equality and inclusion (DEI) programs in its district.

Legal political analyst Andrew Lieb told Newsweek: ‘To be clear, the [US Supreme Court’s] affirmative action decision did not require the abolition of DEI, but it did signal that race cannot be a factor, whatsoever, in employment decisions whether in hiring, promotion or otherwise, which likely occurred in the district prior to this ablution and which likely will result in lawsuits for reverse discrimination. That said, the district's abolition of all DEI appears to only concern its government workers, and does not reach private businesses within the district.’

–The WSJ reported that Icahn Enterprises, which says it offers small investors a chance to ‘invest alongside the iconic [Carl] Icahn,’ said it was cutting its dividend in half to $1 a share, the first reduction since 2011. Icahn also published a letter saying that his company would focus again on corporate activism. He said it would wind down bets that the stock market would collapse, which have caused heavy losses. ‘Our returns have been overwhelmed by our overly bearish view of the market,’ Icahn said. ‘Going forward, we intend to stick to our knitting and focus on our activist strategy.’