Canada: The Lorax Speaks To Pension Fund Administrators - And They Better Listen!

A proposed1 change to pension fund investment regulations in Ontario will require pension fund administrators to include in their statements of investment policies and procedures (SIPPs), information about whether and, if so, how, environmental, social, and governance (ESG) factors will be incorporated into their investment decision-making process. This doesn't seem very onerous. It's not like it's a requirement to take ESG factors into account – or is it?

Well, it might be. Certainly pension fund administrators will now have to explicitly consider whether and to what extent to take ESG considerations into account. Pension fund administrators would be well advised to take legal advice before making any admissions about ESG at all. This includes any statement that they do not take such factors into account.

As explained below, the enactment of this requirement will serve to validate legal arguments that ESG factors can and, in some circumstances, should be taken into account. There are three main areas to consider:

  • Should ESG factors be taken into account when they are financially relevant, either to improvements in financial return or financial risk mitigation?
  • Can ESG factors be used as a tie-breaker between investments with equivalent financial characteristics?
  • Must ESG factors be taken into account where they can be clearly shown to be consistent with the purposes of the plan or the implicit or explicit interests or directions of all plan beneficiaries?

The Legal Debate

Whether the fiduciary duty of pension fund administrators is compatible with taking ESG concerns into account has been the subject of intense legal debate since the introduction of the prudent portfolio approach to pension fund investing – which coincidentally arose at about the same time as Dr. Seuss first published 'The Lorax' in 1971. Originally, the debate was between those who insisted that fiduciaries could take ESG concerns into account and those who felt that fiduciaries could not take into account any factors other than financial factors. Legal debate has now evolved to the point where there are issues about:

  • whether ESG factors must be taken into account in order to appropriately balance return and risk
  • whether they can be taken into account without breaching fiduciary duty
  • whether such factors must be taken into account in order to properly reflect the specific interests of the specific beneficiaries to whom fiduciary duty is owed.

In 1984, the famous case of Cowan v. Scargill in the UK suggested that because a pension plan is a device for securing and paying financial benefits, powers of investment under a pension plan have to be exercised in the best financial interests of plan members, without regard to other social or political interests.

In Cowan v. Scargill, the pension fund was jointly trusteed. The board of trustees consisted of five trustees appointed by the National Coal Board and five appointed by the National Union of Mineworkers. In 1982, the union trustees wanted a new investment policy to be adopted that would end investment overseas and in industries competing with coal. The intent of this strategy was to improve the coal business and provide greater job security for plan members. The court essentially ruled that the trustees could not be criticized for not taking social and non-financial benefits into consideration, and that "When the purpose of the trust is to provide financial benefits for the beneficiaries, as is usually the case, the best interests of the beneficiaries are normally their best financial interests. In the case of a power of investment, as in the present case, the power must be exercised so as to yield the best return for the beneficiaries, judged in relation to the risks of the investments in question; and the prospects of the yield of income and capital appreciation both have to be considered in judging the return from the investment."

The decision left open some questions about whether ESG considerations could or should be taken into account if those considerations were relevant to investment return or to precautionary risk management. Subsequent cases indicated that such considerations in some circumstances are acceptable – maybe even required. Other cases also confirmed that fund administrators could consider the social and moral interests of beneficiaries where they relate to the express or implied objects of the trust or they affect decisions as between two investments with the same financial characteristics.

A real turning point came in 2005 when one of the world's largest law firms – Freshfields, Bruckhaus, Deringer – co-ordinated a legal review of several large capital market jurisdictions, including Canada, and found that, in all cases, the law permits the integration of ESG issues. More significantly, the study found that, in certain cases, failure to consider ESG issues may constitute a breach of fiduciary duty.

Manitoba partially settled the issue for Manitoba fiduciaries by indicating ESG factors could be considered when it revised its legislation in 2005, provided the administrator otherwise complies with statutory fiduciary standards. The proposed change to Ontario Law does not so nicely say administrators will not be breaking the law by taking into account non-financial factors, but it might serve to implicitly suggest that ESG factors are relevant to pension fund investment – and arguably must be considered.

It should be noted that there may already be a partial ESG issue for all jurisdictions that have adopted the federal investment rules. Those rules require SIPPs to deal with the retention or delegation of voting rights acquired through plan investments. How proxies are voted is seen by many to be an integral part of the fiduciary duty to make investment decisions in the best interests of plan members. How a fiduciary votes proxies is part of the 'G' in ESG, so how proxy voting is addressed in the SIPP may also have legal implications and ought to be consistent with ESG disclosure.

But what exactly could this new disclosure requirement mean for administrators of registered pension plans in Ontario? Is it a signal that Ontario feels that ESG factors must be considered by pension plan fiduciaries? Is it simply implying that it is appropriate to take such factors into account? Is Ontario concerned that plan administrators are giving the wrong emphasis to ESG factors? Or is it simply to address transparency? It is difficult to say. Accordingly, one ought to be careful when inserting any statement about this in the SIPP.

The starting point for administrators to consider is simply what is ESG all about in the context of investment of registered pension funds? And what are the fiduciary implications?

It's my experience that the whole issue of ESG and the legal implications are not well understood. It doesn't help that the issue of recognizing ESG factors is tied up with principles of responsible investment (PRI), socially responsible investment (SRI), and ethical investment. So let me take a moment to spell out what I think this issue entails from a legal perspective.

ESG Is Not Ethical Investing Per Se

Taking into account ESG factors does not mean avoiding investment in so-called 'sin' industries, like gambling, tobacco, pornography, or landmine production. That is simply an ethical screen. It also doesn't mean sacrificing financial return for environmental, social, or governance reasons. What it does mean is using non-financial information to improve assessment of financial returns and investment risk. What it might also mean, is giving effect to non-financial interests of plan beneficiaries where those interests are consistent with the purposes of the plan, even in our legal environment where tax rules require the 'primary purpose' of a pension plan be to provide financial benefits in the form of lifetime pensions.

By way of example, take Dr. Seuss's book, 'The Lorax.' It tells the story of a business tycoon, the Once-ler, who ignores the evidence and warnings of the Lorax (an environmental expert) about the effects the Once-ler's business is having on the environment. The Once-ler "biggers" his "Thneed" business to the point of destroying the environment necessary to grow Truffula trees which he needs to support the business. Predictably, the Once-ler's business collapses along with the environment and the quality of life for everyone in the vicinity.

ESG to Assess Value and Risk

From a purely financial perspective, the Once-ler's Thneed business clearly looked like a great investment. He was literally making truckloads of money right up until the sudden collapse. There appeared to be no market risk, credit risk, liquidity risk, or operational risk – the usual financial metrics associated with risk management. However, from a long term investment perspective (the perspective pension fiduciaries adhere to), the collapse could easily have been predicted by looking at ESG factors.

First, from a corporate governance perspective, the Once-ler held opaque control over his business. He only employed his relatives and friends, he failed to take into account the expert advice of the Lorax, and he failed to establish a capital expenditure program to deal with waste and planting of new Truffula trees to protect the business. From environmental and social perspectives, he failed to take into account early warnings of environmental degradation caused by his Thneed operations, namely the departure of the Bar-ba-loots for lack of Truffula fruits, their sole source of food, then the Swomee-Swans for want of clean air; and lastly the Humming-Fish to escape the polluted water.

The Freshfields opinion would suggest that any pension fund administrator holding this investment at the date of its collapse would be personally liable for failure to take into account the relevant ESG factors, even if any idiosyncratic risk associated with Thneed production had been addressed by diversification strategies. Clearly, taking ESG factors into account when the factors are financially relevant is not only allowable, but arguably obligatory for long term investors seeking value creation and sustainability without undue risk of loss.

But how do pension fund administrators get access to that information? Lack of information and reliable ESG analytics may have been an excuse 10 years ago, but growing investor interest in ESG performance data has resulted in greater disclosure of such factors in regulatory filings made by public corporations. Demand for ESG analytics has also resulted in a number of reliable providers.

Benefits and Pensions Monitor recently reported that a Hermes Investment Management survey, 'Responsible Capitalism,' found 71 per cent of institutional investors across the UK and Europe believe company retirement programs will reject more investment opportunities over the next five years because of ESG risks. More than three-quarters (79 per cent) said significant ESG risks with financial implications are good enough justifications for rejecting an otherwise attractive opportunity. It also found 55 per cent of respondents think companies that focus on ESG issues, especially corporate governance, produce better long-term returns for investors. This accords with compelling research showing that good governance correlates with increased returns.

ESG as a Tie-Breaker

Another aspect of ESG is whether it is permissible to take such factors into account when deciding between investments with the same financial metrics. It seems to me that this is clearly permissible and falls within comments found in Cowan v. Scargill. "Trustees cannot be criticised for failing to make a particular investment for social or political reasons, such as in South African stock for example, but may be held liable for investing in assets which yield a poor return or for disinvesting in stock at inappropriate times for non-financial criteria."

Accordingly, using ESG metrics as a tie-breaker is allowable. Using ESG metrics to assess value and mitigate risk is also allowable and arguably required. In other words, using ESG as an additional investment lens, rather than a screen, is fine.

ESG to Reflect Plan Purpose or Non-Financial Beneficiary Interests

What about claims that choosing investments on ESG grounds is obligatory when it is reasonable to believe that the selection would be supported by plan beneficiaries? There is a line of legal thinking, mostly in the U.S. and the UK, that suggests that the duty of loyalty owed by pension fiduciaries is to the actual human beneficiaries, not to the plan itself, and that courts have on some occasions allowed exceptions to the rule that financial interest trumps other interests where trustees have considered their interests in a slightly broader sense.

I am not so sure this is the case in Canada. First, unlike the U.S. or the UK where pension legislation makes it clear that the fiduciaries have a duty to the human beneficiaries, Canadian law recognizes either explicitly or implicitly that employers are also beneficiaries of pension plans. So aside from any difficulty in aligning all human beneficial interests relating to employees, retirees, deferred vested, and others, the employer's interests would also have to be aligned.

Second, 'exceptions' to the general legal rule which requires a focus on financial interests (value and risk mitigation) arise in cases where it is clear that the purpose of the fund is not simply to provide financial benefits, where the will of all plan beneficiaries is known, or where the investment is so morally or socially repugnant it should not have been made, regardless of financial return. Those exceptions may be difficult to find in most registered pension plans. Also, in Canada, there is a legal imperative imposed by income tax legislation that the "primary purpose" of a registered pension plan must be to provide lifetime pensions in order to obtain and retain tax qualification.

It seems to me that much of the discussion about purpose and beneficiary interests borders on arguments relating to 'ethical' investments which can be better addressed by including express terms in the governing plan documents – the plan text or trust agreement. It seems reasonable that a pension plan for the Cancer Society or the Heart and Stroke Foundation might purposely avoid investment in tobacco products, but that is more of an ethical screen. To be legally sound, it should be set out in the plans' foundation documents, not just the SIPP. In my view, the SIPP, as a policy document, is not by itself going to enable what is essentially an investment screen based on non-financial criteria to override the underlying legal requirement to assess yield, value appreciation, and mitigate risk without compelling and allowable language in the core plan documents.

The Bottomline

As stated in the Ontario Report of the Expert Commission on Pensions, it "remains somewhat uncertain precisely how, in practical and legal terms, the decisions of trustees and administrators to pursue socially responsible investment (SRI) can be reconciled with their duty to maximize the plan's investment returns for the benefit of its active and retired members. However, there is a growing global consensus that trustees must at least have a considered and informed discussion on the issue."

The requirement to disclose information about whether and, if so, how, ESG factors are to be incorporated into the investment decision-making process does not provide legal clarity. Yes, it does mean there will be transparency, but it also signals that trustees must have a considered and informed discussion since they will not be able to reference ESG in a SIPP one way or the other without discussion about whether or how to take such considerations into account. So it seems to me that this is a change to the legal landscape. It is a change that may give legitimacy to ESG considerations in a broader context.

It is also going to create angst for administrators of funds that are passively invested in mutual and segregated funds and for defined contribution investment offerings. How are ESG considerations to be discussed or identified in those contexts?

Mandatory ESG disclosure goes beyond transparency. At the very least, it implicitly acknowledges the potential materiality of ESG for fiduciary investment processes. But it also shines a light on fiduciary liability for these issues. As a result, pension fund administrators will need to understand and consider the relevance of ESG issues for their particular pension funds in a way that does not expose them to future legal liability. For one thing, they will need to reflect discussion around this issue in their governance committee minutes. They should also take care in how they express this in their SIPPs.

In giving consideration to ESG considerations it may be a useful starting point to separate legal implications arising from use of ESG information into three broad categories, namely:

  • Being financially relevant – ESG analytics as an additional lens to assess value and to provide precautionary risk management
  • Fulfilling a tie-breaker function where all financial considerations are equal
  • Reflecting the purpose of the plan or unanimous beneficiary consent or directio

The move to disclose ESG considerations will certainly be applauded by those in the SRI movement as a step forward in legitimizing the ability or even the requirement for fiduciaries to incorporate ESG considerations into investment analysis and risk management processes. But does it really go that far? I wonder what the Lorax might say.

The lawyers will say that pension plan administrators need to tread carefully. Clearly administrators will be required to consider these issues. And they need to think twice about the legal implications before they write anything about ESG into their governance committee minutes or into their SIPPs.

Randy Bauslaugh leads McCarthy Tétrault's national pensions, benefits, and executive compensation practice. This article was originally published on and can be accessed by clicking here.


1 Here is a link to the Proposed Amendment:

To view the original article please click here.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions