On Monday, March 21, 2022, the U.S. Securities and Exchange Commission announced issuance of a proposed new climate-related financial risk reporting rule in a public webcast. The Commission’s chair and some members and staffers argued the proposed risk disclosure requirements would help issuers more efficiently and effectively disclose such risks to investors who need reliable information about climate risk to make informed investing decisions. Comments on this proposed rule are due either 30 days following publication in the Federal Register or May 20, 2022, whichever provides the longer comment period.
The 510-page announcement, titled “The Enhancement and Standardization of Climate-Related Disclosures for Investors,” includes the proposed rule (which starts on page 469). The proposed rule sets forth three categories of emissions which would require reporting. Public companies would be required to report on Scope 1 and Scope 2 emissions linked to direct and indirect emissions which result from the company’s operations and energy purchases, respectively, while Scope 3 emissions related to those of the reporting companies’ suppliers and customers who use the companies’ products would also be required to be reported by some public companies. The proposed rule provides for exemptions for smaller companies from Scope 3 reporting requirements and a safe harbor from liability associated with Scope 3 reporting.
The introduction to the proposed rule states the required disclosures would
Provide consistent, comparable, and reliable – and therefore decision-useful- information to investors to enable them to make informed judgements about the impact of climate-related risks on current and potential investments.
And, citing Section 7 of the Securities Act, went on to state that
The Commission has broad authority to promulgate disclosure requirements that are “necessary or appropriate in the public interest or for the protection of investors.”
The Commission determined that, after consideration of this statutory standard, disclosure of information about climate-related risks and metrics would be in the public interest and would protect investors. The Commission also stated that it considered whether the proposed disclosures “will promote efficiency, competition, and capital formation” as required by the Securities Act.
In the rule summary, Scope 1 emissions are described as direct GHG emissions that occur from sources owned or controlled by the company, such as emissions from company-owned or controlled machinery or vehicles, or methane emissions from petroleum operations. Scope 2 emissions are described as those emissions primarily resulting from the generation of electricity purchased and consumed by the company, such as emissions derive from the activities of another party (the power provider), which are considered indirect emissions. Scope 3 emissions are described as all other indirect emissions not accounted for in Scope 2 emissions that are a consequence of the company’s activities but are generated from sources neither owned nor controlled by the company, such as emissions associated with the production and transportation of goods supplied by third parties, employee commuting or business travel, and the use of the reporting company’s products.
The very prescriptive proposed climate-related disclosure rule’s framework is modeled, at least in part, on the Task Force on Climate-Related Financial Disclosure’s (TCFD) recommendations, and also draws upon the GHG Protocol. In particular, the proposed rules would require a company to disclose information about:
- The oversight and governance of climate-related risks by the company’s board and management;
- How any identified climate-related risks have affected or are likely to affect the company’s strategy, business model, and outlook;
- The company’s processes for identifying, assessing, and managing climate-related risks and whether any such processes are integrated into the company’s overall risk management system or processes;
- The impact of climate-related events (severe weather events and other natural conditions as well as physical risks identified by the company) and transition activities (including transition risks identified by the company) on the line items of a company’s consolidated financial statements and related expenditures,
- Scopes 1 and 2 GHG emissions metrics, separately disclosed, are to be expressed:
- Both by disaggregated constituent greenhouse gases and in the
- In absolute and carbon intensity (or GHG intensity) terms;
- Scope 3 GHG emissions and intensity, if material, or if the company has set a GHG emissions reduction target or goal that includes its Scope 3 emissions; and
- The company’s climate-related targets or goals, and transition plan, if any, along with information concerning any identified climate-related opportunities.
These new disclosure requirements would be phased in for companies depending on their size and filing status. The proposal sets the earliest applicable compliance deadline dates at one fiscal year from the rules’ effective date. The rule further requires a third-party attestation requiring that third party be demonstrably independent, but the Commission is requesting comment on specific aspects of 1) the level of assurance and 2) the minimum qualifications for the attestation provider that should be required.
Finally, the rule sets forth the financial reports and filing forms which require the inclusion of the climate-related risk disclosure and provides instructions for both use of the forms and electronic filing of those forms.
Interestingly, the Commission’s very public vote and discussion was not unanimous. Not unexpectedly, the sole Republican on the Commission, Hester Peirce, voted against issuance of the proposed rule and filed a 17-page dissent titled “We are Not the Securities and Environment Commission – at Least Not Yet.” Peirce argued the proposed rule would hurt investors, that the rule is based on “faulty quantitative analyses,” that the commission was “doing the bidding of an array of non-investor stakeholders,” that the Commission is underestimating the costs to comply with the proposed rule, and that the existing disclosure requirements already capture material risks arising from climate change. She stated that the quantitative data requirements in the proposed rule are in large part, highly unreliable. The dissent is posted on the Commission website.
Pierce’s dissent challenges the Commission’s stated concern that the existing disclosures of climate-related risks do not adequately protect investors and these additional requirements may be necessary or appropriate to improve the consistency, comparability, and reliability of climate-related disclosures, by requiring specific scopes of disclosures, along with the methodologies, data sources assumptions and other key parameters used to assess those risks. She argues that the proposed rule removes the materiality measure from some aspects of the risk reporting requirements.
Some commenters believe the Scope 3 issues will be the most difficult, as they require data (or estimates) related to third parties. There is much discussion of the reliance on third-party data in the Commission’s announcement of the rule, along with discussion of the differences of opinion among prior commenters on the levels of assurance that should be required and the audit requirements (or even auditability) of climate-related risk evaluations/assessments. There were 600 independent (termed “unique”) comment letters and 5800 form letters received by the Commission in response to its March 2021 request for public input on climate disclosure. There will likely be as many or more comments on this proposed rule and much future litigation resulting from its promulgation.