What is the Climate Disclosure Rule proposed by the SEC?

On March 21, 2022, the U.S. SEC (U.S. Securities and Exchange Commission) proposed a new climate disclosure rule that would force companies to report on their greenhouse gas emissions and environmental impact, alongside their financial data. One more step in the battle against climate change!

👉 But what are we exactly talking about? If you want to learn more about the last proposed rules of the Securities and Exchange Commission, just have a look on the following article.

What is the SEC’s new climate disclosure rule?

Concretely, business groups will have to report on their greenhouse gas emissions to answer investor demand and to include climate-related disclosures in their registration statements and periodic reports.

This includes information about climate risks that are likely to have a material impact on their business, results, or financial condition. Moreover, SEC proposes to add climate-related financial statement metrics to their audited financial statements.

Why is the U.S. Securities and Exchange Commission proposing this rule?

Adopting this rule would provide a corporate governance framework for all public companies to report on their environmental impact. This will make it easier for investors and consumers to compare data across companies, and make more informed decisions about the companies they invest in, or buy from. But the objective of such disclosures is also to hold companies accountable, in the well-known context of climate change.

Currently, SEC proposes that financial reporting includes information considered as “material” to investors — things they’d need to know to make informed decisions about a company’s stability, profitability, and longevity.

👉 In other words, climate related financial disclosures aim at allowing investors to understand how climate risk is likely to affect financial performance.

Indeed, the U.S. SEC believes that information about a company’s environmental impact is also material to investors, because it can affect its profitability and longevity. The commission also believes that consumers deserve to know about a company’s environmental impact, in order to align their investment choices with their personal values.

Although this rule would be a big step forward for the USA's climate change targets, it doesn’t come out of nowhere. The SEC first provided investors with climate related information, like environmental risks for public companies as far back as the 1970s.

In 2010, the Commission also provided specific guidance for reporting on environmental impact. Many companies already disclose climate data in their annual reporting. In fact, the SEC believes that about a third of the annual reports it has reviewed in the last two years included environmental data.

Which companies does the proposed rule affect?

If it’s passed, the new rule will apply to all publicly listed companies that are currently required to report to the SEC.

👉 This includes all US-based public companies, as well as foreign companies that are listed on US stock markets.

What does the Climate Disclosure Rule include?

From pages 1-2 of the Fact Sheet for the Enhancement and Standardization of Climate-Related Disclosures, here’s what the SEC say they’ll require companies to disclose:

• The oversight and governance of climate-related risks by the registrant’s board and management;
• How any climate-related risks have had or are likely to have a material impact on the registrant's business and consolidated financial statements (over the short-, medium-, or long-term);
• How climate-related risks have affected or are likely to affect the company’s strategy, business model, or outlook;
• The registrant’s processes for identifying, and managing climate-related risks;
• The transition plan adopted by the registrant as part of its climate-related risk management strategy (including the metrics and targets used to manage physical and transition risks);
• The scenarios used by the registrant to assess the resilience of its business strategy to climate-related risks (including the parameters, analytical choices, and projected financial impacts);
• If an internal carbon price is used, information about how it is set;
• The impact of climate-related events (weather events or other natural conditions, for example) and transition activities on the items of consolidated financial statements and related expenditures (including financial estimates and assumptions impacted).
• The direct and indirect GHG emissions (Scope 1 and 2) produced by purchased electricity or other forms of energy, separately disclosed;
• Indirect emissions from upstream and downstream activities in a registrant’s value chain (Scope 3), if material, or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions;
• If the registrant has publicly set climate-related targets or goals, information about:
  
  1. The scope of activities included in the target, the agenda by which the target will be achieved and the methodology used;
  2. Relevant data to show that the company is making progress;
  3. If existing, information about the carbon offsets or RECs.

What are Scopes 1, 2 and 3 that the Securities and Exchange Commission wants companies to disclose?

There are three levels of carbon emissions reporting available to companies. The GHG Protocol calls these Scopes 1, 2, and 3.

Scope 1 refers to direct emissions — those produced by assets a company owns or controls (think manufacturing processes, computers, factories and vehicles owned by the company).

Scope 2 includes indirect emissions resulting from electricity, steam, heating and cooling a company buys.

Scope 3 includes indirect emissions across a company’s entire value chain — from the materials and services they buy, to the waste they produce, the business travel they take, and the impact their products make when out in the world.

For now, the SEC has stated that most companies will only be required to report on Scopes 1 and 2 — essentially, the emissions caused by the company’s own activities and assets.

Companies will only be required to report on Scope 3 emissions (which is a much bigger and more complicated undertaking) if their Scope 3 data is considered “material” to investors (this will mostly be for larger companies). Also, any companies that publicly declare a commitment to reducing their emissions (that would include Scope 3) will need to report on Scope 3 emissions.

As a reminder, Scope 3 emissions are produced by activities from assets not owned or controlled by the reporting organization. To keep it simple, Scope 3 emissions include all sources not within an organization’s scope 1 and 2 boundary.

The proposed rule has only been initially approved, and is now open to public comment for the next two months. Once the comments are reviewed, the SEC hopes to finalize the rule in 2023.

Auditing (required for Scopes 1 and 2) will roll out over a period of two years, and will only be required for large companies in the early days.

At the moment, the rule is still in the proposal stage and has to face legal challenges.

It’s still possible that the proposed rules won’t be approved, which could happen if the public comments the SEC receives are strongly in opposition to the ruling.

If you’re a publicly listed company, you don’t need to do anything just yet. If the proposing release is approved later this year, it will come into effect in 2023. This isn’t all that far away though, so it’s a good idea to get started as soon as you can, because environmental reporting is not a small undertaking.

If you’re not a publicly listed company, but you plan to IPO at some point in the future, it’s a good idea to get started on disclosing your environmental impact now, as many investors will ask for this information.

And even if you’re a private company with no plans to IPO, there are plenty of benefits to voluntarily disclosing your environmental data and fight against climate risk, including better brand image, better productivity, and bigger profits.

Whether you’re public or private, big or small, talk to Greenly about how we can help you measure and manage your environmental impact.

With regulations like the SEC’s climate disclosure rule becoming more popular around the world, it’s a good idea to start addressing your carbon footprint now.