A new rule from the Securities and Exchange Commission (SEC) will potentially shine a brighter light on climate-related risks from registered U.S. companies.
Starting with the SEC registration process, certain climate-related disclosures could now be required as part of a company’s registration statement. After the initial disclosure, the inclusion of climate-related information would then continue through periodic reports required for all new and existing companies. Under this new rule, companies would also have to disclose their greenhouse gas emissions (GHG).
Climate-related risks include those that are likely to have a material impact on a member’s business, results of operations, or financial condition. Gaining access to this information, through the SEC, could add weight to the environmental practices of a business for those considering investing in it. It would also create norms in how sustainability is measured, and make it easier to assess investment risk.
The proposed rule, in detail
This proposed rule would require companies registering with the SEC to provide four pieces of climate-related information regarding their business. These four pieces would include:
- How the business governs climate-related risks, including relevant risk management processes
- How identified climate-related risks have already impacted or may impact the business from a financial perspective
- How identified climate-related risks have already impacted or may impact the company strategy, business model, and outlook
- The potential impact of naturally occurring, climate-related events on the business, from a financial perspective
Those registering with the SEC would also have to share information about both their direct GHG emissions and indirect emissions.
All combined, this information will help investors gain a clearer picture of a company’s climate risk management. It will also give investors a better understanding of exposure to, and management of, climate-related risks.
Since many companies already provide similar information as part of a broadly accepted disclosure framework, initiating this rule may not be as overwhelming to businesses as it sounds. That’s a good thing, as both consumers and investors alike are beginning to hold businesses accountable for their environmental footprint.
Moving toward compliance
If this SEC rule is approved, all publicly traded companies will have to disclose certain information to comply with Scope 1, Scope 2, and potentially Scope 3 emission categories as defined by the GHG protocol standards:
- Scope 1: Direct greenhouse gas emissions
- Scope 2: Indirect emissions from purchased electricity or other forms of energy
- Scope 3: GHG emission from upstream and downstream activities within the value chain
A phase-in period would bring all existing registrants up to date, as new registrants are automatically asked to provide this information. Companies would be required to report on their direct and indirect emissions (Scopes 1 and 2), and only need to include Scope 3 if those emissions are considered material or if the company has declared an emissions reduction goal that includes Scope 3.
Much of the current criticism of the SEC rule stems from the difficulty in accurately measuring emissions, almost exclusively those within Scope 3. The SEC has proposed a safe harbor for liability within Scope 3 disclosures in addition to an exemption for smaller companies that may not have the resources to perform these calculations.
According to SEC Chair Gary Gensler, “Companies and investors alike would benefit from the clear rules of the road proposed in this release.”
When will the rule take effect?
The SEC is required to leave this proposed rule open for comment either 60 days after its issuance date and publication on the SEC website, or 30 days after its publication in the Federal Register; whichever time period is longer. The SEC proposed this new rule on March 21, 2022.
Once that window has passed, the SEC can then set about finalizing and enforcing the new rule, which could take weeks or months to get off the ground.
Appealing to climate advocates
Requiring climate-related disclosures will bring to light professional practices that need changing to meet national and global climate action goals, as well as satisfy investors who are pushing for more information around a company’s Environmental, Social, and Governance (ESG) strategy.
The disclosure of so much environmentally driven information, whether good or bad, could influence investors and hold businesses accountable for their environmental impact. If investors suddenly turn away from certain businesses, those businesses might start to rethink their climate-driven risk strategies.
This could potentially align businesses with the overarching climate goals in the U.S., including:
- Cutting greenhouse gas emissions by 50-52% of what they were in 2005, by 2030
- Adopting clean energy standards to make electric power carbon-free by 2035
- Establishing net-zero carbon emissions throughout the economy by 2050
And, it’s not just outspoken climate advocates who may applaud these efforts. The American people want to see change too. According to Pew Research data, 63% of Americans believe stricter environmental regulations are worth any cost. Additionally, almost two-thirds of all U.S. adults believe protecting the environment should be a top priority of the government, and 52% rank climate change at the top of the priority list.
Transparency can mean change
The SEC isn’t the first organization to use transparency to bring about change. It’s happening all over the world thanks to the Extractive Industries Transparency Initiative (EITI). Launched in 2003, this initiative now spans over 50 countries from around the world. Participants provide financial transparency when it comes to their use of oil, gas, and mining revenues.
A study out of the University of Sussex found EITI members benefitted from a significant reduction in carbon emissions. Between 2000-2014, their emissions decreased by 13%, while the rest of the world saw average growth by 23%.
EITI puts the focus back on companies, sparks dialogue around sustainability and the environment, and gives investors ways to measure relative performance through a sustainability lens. These results align with what could soon be happening in the U.S.
A positive step forward
Once put into play, this new SEC rule will open the door to a vast amount of potential when it comes to companies taking responsibility for their own environmental practices, or lack thereof.
Enacting long-term practices that keep climate-related risks at the forefront of everyone’s mind is one of the best ways to affect positive change. It’s a great step in the right direction toward creating an environmentally conscious economy.
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