Canadian Securities Administrators release updated guidelines on ESG-related investment fund disclosure

On March 7, 2024, the Canadian Securities Administrators (“CSA”) released Staff Notice 81-334 (Revised) – ESG-Related Investment Fund Disclosure (the “Notice”). The Notice updates and replaces the previously issued Staff Notice 81-334, which the CSA had released on January 19, 2022. The objective of the Notice, according the CSA, is “to bring greater clarity and consistency to ESG-related fund disclosure and sales communications to enable investors to make more informed investment decisions.”

As part of the Notice, the CSA classifies funds into four (4) categories to which the Notice applies. The following classification is broadly based on whether a fund considers ESG factors as part of its investment process and the extent to which such factors are considered:

1. Funds whose investment objectives reference ESG factors (“ESG Objective Funds”);
2. Funds whose investment objectives do not reference ESG factors but that use ESG strategies, where the consideration of ESG factors plays a significant role in their investment process (“ESG Strategy Funds”);
3. Funds whose investment objectives do not reference ESG factors but that use ESG strategies, where the consideration of ESG factors plays a limited role in their investment process (“ESG Limited Consideration Funds”, and together with ESG Objective Funds and ESG Strategy Funds, “ESG-Related Funds”); and
4. Funds that do not consider ESG factors in their investment process (“Non-ESG Funds”).

The CSA illustrates the distinctions among the four fund classifications in Figure 1 of CSA Staff Notice 81-334 (Revised) ESG-Related Investment Fund Disclosure.

The Notice provides guidance to Investment Fund Managers (“IFMs”) in determining whether: (a) ESG factors are considered as part of a fund’s investment process; and (b) whether a fund’s consideration of ESG factors plays a significant role in its investment process.

Whether ESG factors are considered as part of a fund’s investment process

In determining whether ESG factors are considered as part of a fund’s investment process, the Notice notes that, while the following types of funds may seem to consider ESG factors, in the CSA’s view, they may not actually consider ESG factors as part of their investment process:

1. Funds that invest in an ESG-related asset class but do not consider ESG factors (i.e. a fund invests in an asset class related to an ESG-related segment of the economy solely because of the financial value of the asset class, but the fund does not consider ESG factors as part of its investment process).
2. Funds that are subject to an exclusionary screening that has no impact on the investment selection process (i.e. a fund is subject to an exclusionary screening strategy that has no impact on its investment selection process, but the fund does not consider ESG factors as part of its investment process).
3. Funds that are subject to an IFM’s general proxy voting or engagement approach that addresses ESG matters (i.e. a fund without ESG-related investment objectives is managed by an IFM with general proxy voting policies and procedures that address ESG matters among other matters or a general engagement approach that addresses ESG matters among other matters, but the fund does not use any other ESG strategies as part of its investment process).

Whether a fund’s consideration of ESG factors plays a significant role in its investment process

In light of a number of instances where the CSA observed that funds had engaged in “greenwashing,” the Notice poses the following questions which may assist IFMs in determining whether the consideration of ESG factors plays a significant role in a fund’s investment process and therefore, whether such fund is an ESG Strategy Fund or an ESG Limited Consideration Fund:

1. Are ESG factors routinely weighted heavily in the investment process of the fund? (i.e. are ESG factors likely to drive or impact an investment decision?)
2. Are ESG factors always considered as part of the investment process? (i.e. is the fund’s consideration of ESG factors discretionary such that ESG factors may or may not be considered at any given time?)
3. What purpose does the consideration of ESG factors serve for the fund? (i.e. is a fund considering ESG factors with the aim of selecting issuers that possess certain types of positive ESG characteristics or attributes to achieve a favourable ESG profile or with the aim of achieving a specific ESG-related outcome?)

ESG related terminology

In the Notice, the CSA further stresses that IFMs should use plain language in describing ESG strategies and factors in a prospectus, in line with the requirement that a prospectus should provide full, true and plain disclosure of all material facts. Similarly, if a fund’s prospectus includes other ESG-related terms that may not be commonly understood, it should provide a clear explanation of those terms using plain language. Moreover, the Notice states that ESG-related terms used in a fund’s name, regulatory documents, and sales communications should be used in a way that is consistent with the plain language meaning, or, where applicable, established industry meaning, of such terms.

Guidance on investment strategies disclosure

The Notice provides further guidance on investment strategy disclosure, stating that funds should provide disclosure about the ESG-related aspects of their investment selection process and investment strategies. All ESG strategies, such as carbon offsetting, that are used as principal investment strategies or as part of a fund’s investment selection process should be disclosed in the investment strategies section of a prospectus. This includes identifying any ESG factors used and describing how such ESG factors are evaluated and monitored. In addition, IFMs should  disclose whether the evaluation of the ESG factor is quantitative or qualitative and whether the evaluation is conducted using third-party data.

Further guidance for ESG limited consideration funds

Unlike an ESG Objective Fund and ESG Strategy Fund, an ESG Limited Consideration Fund is not required to provide disclosure in its prospectus about its use of ESG strategies. However, the Notice provides guidance on circumstances where an ESG Limited Consideration Fund should include statements about the fund’s use of ESG strategies. Specifically, if an IFM of an ESG Limited Consideration Fund includes disclosure in the fund’s prospectus about its use of ESG strategies, the disclosure should clearly explain:

1. the limited role that the consideration of ESG factors and/or use of ESG strategies plays in the ESG Limited Consideration Fund’s investment process, including the specific parts of the investment process during which ESG factors are considered and the impact ESG factors will have on the portfolio selection process; and
2. whether this approach is specific to the fund in question or whether it is part of the IFM’s general process that is applied across all, only one, or a segment of the IFM’s funds.

In addition to the foregoing, an ESG Limited Consideration Fund should be clear about the role that the consideration of ESG factors plays in the proxy voting or engagement approach in its investment strategies disclosure.

Guidance on sales communications

Any sales communication that does not accurately reflect the extent and nature of a fund’s focus on ESG, or lack thereof, would both be misleading and in conflict with the information in the fund’s regulatory offering documents.

The Notice outlines the types of ESG-related statements that may or may not be included in the sales communications of each of the following types of funds:

1. ESG Objective Funds: An ESG Objective Fund may include statements in its sales communications that accurately reflect the extent to which the fund is focused on ESG, as well as the particular aspect of ESG that the fund is focused on.
2. ESG Strategy Funds: An ESG Strategy Fund may include statements in its sales communications that accurately reflect the types of ESG strategies used by the fund and the extent to which the fund uses such ESG strategies. However, an ESG Strategy Fund should not exaggerate the extent of the fund’s focus on ESG in its sales communications.
3. ESG Limited Consideration Funds: An ESG Limited Consideration Fund may include statements in its sales communications regarding the fund’s use of ESG strategies as part of its investment process, but such statements should: (a) be clear about the limited role that the consideration of ESG factors plays in the fund’s investment process, including identifying the specific parts of the investment process in which ESG factors are considered, the weight given to ESG factors, and the impact that ESG factors will have on the portfolio selection process; and (b) only be included if the disclosure relating to the limited role the consideration of ESG factors plays in the funds’ investment process (including identifying the specific parts of the investment process.
4. Non-ESG Funds: A Non-ESG Fund should not refer to ESG in its sales communications, with the exception of factual information about the ESG characteristics of its portfolio, including fund-level ESG ratings, scores or rankings, or ESG metrics, provided that such factual information should not be framed in a way that suggests that the Non-ESG Fund is aiming to achieve any ESG-related goals or is trying to create a portfolio that meets certain ESG-related criteria.

In addition, the Notice states that a fund must not include misleading statements in its sales communications about the ESG performance or ESG-related outcomes of the fund. Any sales communication that includes fund-level ESG ratings, scores or rankings may be misleading for a number of reasons, including any of the following:

1. There are conflicts of interest involving the provider that prepares the fund-level ESG rating, score or ranking.
2. The selection of the specific fund-level ESG rating, score or ranking is the result of cherry-picking fund-level ESG ratings, scores or rankings in order to present the fund’s ESG characteristics or performance in a positive light.
3. The selected fund-level ESG rating, score or ranking is not representative of the ESG characteristics or performance of the fund.
4. The sales communication does not include explanations, qualifications, limitations or other statements necessary or appropriate to make the inclusion of the fund-level ESG ratings, scores or rankings in the sales communication not misleading.

Further guidance

• If a fund uses proxy voting or shareholder or issuer engagement related to ESG matters as a principal investment strategy, it must disclose this in its investment strategies section. This disclosure should include, but not be limited to, the criteria, goals and the extent of the monitoring process used to assess the success of such proxy voting or engagement strategy.
• A Non-ESG Fund should not include in its investment strategies section of a prospectus any disclosure about considering ESG issues in its proxy voting or engagement approach.
• Exchange Traded Funds (“ETFs”), non-redeemable investment funds, and mutual funds (excluding ETFs) that provide disclosure relating to the IFM about an overall investment strategy or approach used by the IFM in connection with the funds it manages may include any ESG strategies. Such disclosure should be clear about which funds in the prospectus the ESG strategy applies to, ensuring transparency to investors as to which specific funds managed by the IFM use the ESG strategy. In addition, an IFM should clearly articulate any variance in the approaches taken in considering ESG factors in its investment process, if any.
• If a fund’s use of one or more ESG strategies includes the use of targets for specific ESG-related metrics, such as carbon emissions, it should disclose whether those targets may evolve or change over time in response to changing circumstances.
• ESG Objective Funds and ESG Strategy Funds that invest in underlying funds that have an ESG-related focus and/or employ ESG strategies must describe the process or criteria used to select the underlying funds and disclose any ESG focus parameters the underlying fund will adhere to. If the underlying funds are named in the prospectus, the investment strategies disclosure should include any ESG strategies used by them. If the underlying funds are not named in the prospectus, the investment strategies disclosure should describe the ESG strategies that are used by them to the extent that such strategies are known.
• ESG Objective Funds and ESG Strategy Funds that use multiple ESG strategies should disclose how different ESG strategies are applied during the investment selection process.
• ESG Objective Funds and ESG Strategy Funds that use ESG-related indices or benchmarks as part of their principal investment strategies or investment selection process should identify the index or benchmark used and, where applicable, identify the provider of the ratings or scores. In addition, such disclosure should include a description of the methodology (i.e. whether based on quantitative or qualitative data) used to create the company-level ESG ratings or scores.
• When a fund does not always employ ESG strategies, its investment strategies disclosure should explain, where possible, when an ESG strategy will be used, including descriptions of any parameters of when the ESG strategy will or will not be used. If a fund “may” exclude certain types of investments, the level and scope of the discretion should also be disclosed.
• All investment funds should consider whether there are any material ESG-related risk factors that are applicable to the funds and disclose such risk factors where applicable.

The Notice provides guidance on ESG-related changes to existing funds, which the CSA has outlined in Figure 3 in the Notice.

With a strong national presence and unparalleled depth of experience, Miller Thomson’s Capital Markets and Securities and ESG and Carbon Finance Groups are well-positioned to advise on any and all business activities within the ESG space. Feel free to reach out to our national group leads to see how we can assist your business.