SEC’s climate rule leaves questions over future

The reaction to the SEC’s 3-2 decision to approve climate disclosure rule changes suggests the vote may not be the end of the story in terms of either pressure for further regulation or potential efforts to overturn the agency’s actions. In the meantime, governance professionals will be looking at their next steps in terms of compliance.

The SEC’s rulemaking has been the subject of a wide array of often strong opinions, including around 24,000 comment letters and threats of litigation to overturn the rule changes. The decision to include some limitations – notably removing Scope 3 disclosures – from the final rules has both disappointed environmentally focused groups, including those active in the shareholder advocacy space, and failed to fully mollify at least one major business group in addition to the two dissenting commission members.

The final rules will require public companies to disclose, among other things:

• Climate-related risks that have had or are reasonably likely to have a material impact on the company’s business strategy, results of operations or financial condition
• Whether a company has taken steps to mitigate or adapt to a material climate-related risk, a quantitative and qualitative description of the material expenditures incurred and material impacts on financial estimates and assumptions that directly result from such mitigation or adaptation activities
• For large accelerated filers and accelerated filers that are not otherwise exempt, information about material Scope 1 emissions and/or Scope 2 emissions, and an assurance report at the limited assurance level
• Information about any actions taken to mitigate or adapt to a material climate-related risk, including the use, if any, of transition plans, scenario analysis or internal carbon prices
• Any oversight by the board of climate-related risks and any role by management in assessing and managing the company’s material climate-related risks
• Any processes the company has for identifying, assessing and managing material climate-related risks and, if the company is managing those risks, whether and how any such processes are integrated into its overall risk-management system or processes.

The SEC made several changes to its initial proposal. Key among these is the dropping of a requirement for companies to provide Scope 3 greenhouse gas (GHG) emissions disclosures in certain circumstances. Other modifications include:

• A less prescriptive approach to certain aspects of the rules such as the climate-related risk disclosure, board oversight disclosure and risk-management disclosure requirements
• Qualifying the requirements to provide certain climate-related disclosures based on materiality
• Eliminating the proposed requirement to describe board members’ climate expertise
• Eliminating the proposed requirement for all companies to disclose Scope 1 and Scope 2 emissions and instead requiring such disclosure only for large accelerated filers and accelerated filers, on a phased-in basis and only when those emissions are material
• Extending the reasonable assurance phase-in period for large accelerated filers and requiring only limited assurance for accelerated filers.

Those who oppose the rule changes
Tom Quaadman, executive vice president of the US Chamber of Commerce Center for Capital Markets Competitiveness, suggests in a statement that litigation has still not been ruled out: ‘For two years now, the [chamber] has raised significant concerns about the scope, breadth and legality of the SEC’s climate disclosure efforts. We are carefully reviewing the details of the rule and its legal underpinnings to understand its full impact.

‘While it appears that some of the most onerous provisions of the initial proposed rule have been removed, this remains a novel and complicated rule that will likely have significant impact on businesses and their investors. The chamber will continue to use all the tools at our disposal, including litigation if necessary, to prevent government overreach and preserve a competitive capital markets system.’

Two of the five SEC members are also unimpressed by the final measures and their comments suggest possible procedural objections. Commissioner Mark Uyeda says in his dissenting statement: ‘The [US] Supreme Court has stated that, in extraordinary cases – which I believe includes today’s rule – an agency must cite: something more than a merely plausible textual basis for [its] action. The agency instead must point to ‘clear congressional authorization’ for the power it claims. The commission has not done so for this rulemaking…

‘Even without the major questions doctrine [a principle of statutory interpretation applied in US law cases] and concerns about statutory authority, the commission conducted a flawed process by not reproposing the rule, raising the question of whether appropriate notice was provided under the Administrative Procedure Act.’
 

Commissioner Hester Peirce says in a statement: ‘The final rule is different from the proposal, but it still promises to spam investors with details about the commission’s pet topic of the day: climate. As we have heard already, the recommendation before us eliminates the Scope 3 reporting requirements, reworks the financial statement disclosures and removes some of the other overly granular disclosures. But these changes do not alter the rule’s fundamental flaw – its insistence that climate issues deserve special treatment and disproportionate space in commission disclosures and managers’ and directors’ brain space…

‘We should be reproposing this rule, not adopting it… The final rule differs quite dramatically from the proposal, both by excluding major provisions and including new rule elements. A reproposal would have helped us better assess these changes. It also would have helped us to understand recent legal developments in California and Europe that raise complex cost and mutual recognition issues.’

Gensler’s defense
In his statement, SEC chair Gary Gensler spells out his view of the commission’s authority on the issue: ‘Consistent with this agency’s disclosure rules over the decades, today’s final rules are grounded in materiality. Materiality represents a fundamental building block of the disclosure requirements under the federal securities laws. The Supreme Court articulated the meaning of materiality in cases in the 1970s and 1980s. It is this standard of materiality that is reflected in commission rules. It is this same materiality standard that appears in numerous disclosure rules governing registration statements and public company annual reports. It is this same materiality standard that is used throughout the final rules we’re considering today.’

He adds: ‘Already, 90 percent of Russell 1000 issuers are publicly providing climate-related information, though that’s generally in sustainability reports outside of their SEC filings. Further, nearly 60 percent of those top 1,000 companies are publicly providing information about their [GHG] emissions. Investors ranging from individual investors to large asset managers have indicated that they are making decisions in reliance on that information. It’s in this context that we have a role to play with regard to climate-related disclosures.’

Thanks, but…
Shareholder advocates and other environmentally focused groups have mixed feelings about the SEC’s final formulation, welcoming what they see as progress but bemoaning the exclusion of Scope 3 emissions. Here are some of their comments.

• Danielle Fugere, president and chief counsel of As You Sow: ‘Transparency is the bedrock of our financial system. While this rule is an important step in improving climate-related disclosures, it ignores a critical component of risk: Scope 3 GHG emissions reporting. This leaves, on average, 75 percent of total [GHG] emissions across all sectors unreported.

  ‘The old business maxim – what gets measured gets managed – is as relevant today as ever. The corollary, of course, is that risk that doesn’t get measured doesn’t get managed. Disregarding Scope 3 emissions creates a significant hole in shareholders’ understanding of climate risk. Decision-making will be impaired by this critical omission.’
   

• Eli Kasargod-Staub, executive director of Majority Action: ‘This rule marks an important step toward requiring companies to disclose the impact they have on our climate and the risk those business practices pose to investors and long-term value creation. Unfortunately, we have repeatedly seen oil & gas, utility and finance companies do everything in their power to avoid disclosing this information and change their business models to address the severity of climate risk, going so far as to sue to keep shareholder proposals from even being considered…

  ‘With climate change expected to cost the global economy $178 tn over the next half century, the SEC’s rule ultimately does not do enough to provide the level of climate-related financial disclosure and transparency that investors and fiduciaries need, leaving much of the power to decide when to disclose up to companies, including many that want to hide this information. It is vital that this not be the final effort and that the SEC is empowered to enforce this rule through guidance and additional regulations.’
   

• Mindy Lubber, president and CEO of Ceres: ‘We congratulate the SEC on this important step forward to bring the US closer in line with its global counterparts. Although this final rule does not go far enough compared with international standards and the SEC’s 2022 proposal, it will start to meet the demand for transparency that investors and companies have long sought…

  ‘For most companies and financial institutions, indirect emissions throughout a company’s value chain represent the largest source of a company’s transition risk. While we are disappointed the rule does not include key provisions from its 2022 proposal, including the mandate of the disclosure of Scope 3 emissions, investor demand for the disclosure of Scope 3 emissions continues to grow and many companies will be required to disclose this data in other jurisdictions.’
   

• Leslie Samuelrich, president of Green Century Funds: ‘It’s a step forward, but we feel it’s too little, too late. We wish the SEC had held fast with its proposal to have companies report Scope 3, or indirect, emissions because investors need this data to make informed decisions about how companies are addressing their climate-related risks.’