The SEC's Climate Disclosure Rules are Coming: Is Your Organization Ready to Report?
Investors around the world are seeking greater clarity and transparency around the climate impacts of their investments. Similarly, regulatory agencies are seeking ways to verify that companies are accurately disclosing their climate impact.
As anticipated, regulatory bodies in the U.S., Europe and the UK have started to issue specific requirements for public companies.
The Proposed Rules
On March 21, 2022, the U.S. Securities and Exchange Commission (SEC) released its long-awaited proposed rules relating to climate-related risk disclosures. The proposed rules are based largely on the frameworks outlined by the Task Force on Climate-related Financial Disclosures (TCFD) and the Greenhouse Gas Protocol. These rules would require public companies (registrants) to include climate-related information in their financial statements and periodic reports, such as Form 10-K. Information subject to disclosure includes:
Greenhouse gas emissions, including scope 1, scope 2, and for large companies, material scope 3 emissions
The identification, management, and effects of climate-related risks
Publicly available climate-related targets and/or goals, if any
Transition plans, if any
Under the proposed SEC rules, public companies are not required to do anything beyond tracking and disclosing their greenhouse gas (GHG) emissions and disclosing their existing climate risk assessment and management processes. However, because of the visibility of companies’ responses to investors and other providers of capital, the rules would encourage companies to implement and enhance their climate risk assessment and management methods. Registrants with existing ESG programs in place as part of their corporate commitment to rigorous data collection, transparency and general climate risk management are in a good position; for example, these companies may already conduct scenario analyses, have prepared transition plans, or have publicly committed to climate-related targets or goals that can be readily disclosed.
The Reason for the Rules
The mission of the SEC is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.¹ The SEC’s proposed rules will help to ensure that investors have the data they need to make informed decisions on financial risks. Additionally, the rules will provide guidance to companies who are unaware of what data investors are looking for and how best to disclose that data.
Direct Benefits
If adopted, the SEC’s proposed rules will have several direct benefits for investors and for the ESG field. These direct benefits include:
providing investors with substantial, comparable information on how climate-related risks would impact their investments;
enhancing and building on existing accounting standards and thus improving the comparability and transparency of ESG metrics;
contributing to the greater good of the single stream location of data ensuring consistency across companies; and
increasing the overall reliability of climate-related ESG information.
Indirect Benefits
As a result of the imposed consistency in ESG reporting, there are also several indirect benefits that may arise from the SEC’s proposed rules,. These include:
improved financing assistance through capital markets or other funding sources;
more cost-effective pricing exercises; and
greater efficiency in capital procurement.
Costs to Consider
Companies should budget for measuring their exposure to climate-related risks, along with their GHG emissions. Large accelerated, accelerated, and non-accelerated filers may incur significant costs to track their scope 3 emissions. In addition, companies should allocate additional funds to prepare for publicly reporting their greenhouse gas emissions and climate-related targets, risk assessment and risk management initiatives. Finally, large accelerated and accelerated filers should budget for annual assurance of their scopes 1 and 2 emissions disclosures. If the SEC rules are adopted, once the reasonable assurance requirement takes effect, assurance costs will increase.
Image: High-level timeline for large accelerated filers
Next Steps for Public & Private Companies
Public companies should set short-, medium-, and long-term goals related to the assessment and management of climate-related risks and the measurement and reduction of their greenhouse gas emissions. Companies should also develop and budget for strategies to reduce their emissions. If companies lack internal expertise on climate-related risks, they should consider adding that expertise through internal hires and/or external consultants.
The SEC’s proposed rules do not explicitly mention private companies. However, private companies may feel ripple effects from these rules when adopted. Private companies that are subsidiaries of public companies may be required to adopt changes to their own policies and procedures (for example, to standardize and/or simplify emissions tracking). These subsidiaries may need to provide information related to climate risk and emissions to their parent companies for public disclosure. It is also likely that private companies will start seeing increased investor requests for the types of information that public companies will be obliged to disclose. For these reasons, private companies should consider preparing their own public disclosures, for instance by following TCFD, the Greenhouse Gas Protocol, SASB, or another climate-related reporting protocol.
Image: Actions for public companies
Conclusion
It is time to modernize and standardize how we assess climate risk. Currently, the lack of regulation on ESG disclosures has precluded comparability of ESG data, including data related to climate risks. The U.S. lags behind most developed countries when it comes to regulatory requirements around emissions, decarbonization and climate risks. In addition, this lack of regulation has allowed companies to conceal material information about their ESG risks from investors and other providers of capital.
With these rules, the SEC's majority proposes to join the EU and the UK in making ESG accounting and reporting a regulatory requirement. Proactively following globally recognized protocols such as TCFD and Greenhouse Gas Protocol will help standardize the reporting requirements. The SEC’s proposed rules represent a big step toward improving ESG data quality and corporate accountability. Verdani looks forward to the adoption of these proposed rules, and we are excited to continue helping our clients meet the needs of their various stakeholders.
Special Considerations for Commercial Real Estate:
Owners with less control over tenant spaces, such as those in multifamily residential properties and industrial properties, will face greater challenges in accurately tracking emissions. Green lease provisions that require utility data sharing can greatly assist here.
GHG emissions associated with any onsite fossil fuel direct energy sources, i.e., community kitchen that uses gas-fired appliances, gas grills for residents, gas-fired fireplaces, and gas-fired heating equipment are considered scope 1 emissions.
Indirect GHG emissions that result from the generation of electricity, heat, or steam on the property, purchased from a utility provider, are considered scope 2 emissions.
Owners that develop their own properties will also face data availability challenges, given that embodied carbon represents a significant portion of their scope 3 emissions. Developers should consider using tools such as the Embodied Carbon in Construction Calculator (EC3) to estimate their embodied carbon.