The Securities and Exchange Commission’s (SEC) Climate-Related Disclosure Rule proposed in March of 2022 has received significant coverage and pushback due to its far-reaching requirements, demonstrating the U.S. regulatory sphere taking steps to address investor-concerns on climate. Below, we examine the context behind the proposal, the main highlights of its proposed requirements, where it has received criticism, and what registrants can expect in the finalized rule.
Background on “The Enhancement and Standardization of Climate-Related Disclosures for Investors”
On March 21, 2022, the SEC issued its proposal on climate-related disclosures, “The Enhancement and Standardization of Climate-Related Disclosures for Investors-Release Nos. 33-11042, 34-94478.” The proposed rule amendments would require a domestic or foreign registrant to include certain climate-related information in its registration statements and periodic reports, such as within the Form 10-K. Such disclosures (see fact sheet, 3 pages and full proposal) are intended to enhance and standardize information to address investor needs for more consistent and extensive data about the impacts of climate-related risks on a company’s business.
The proposed rule is extensive, significant, and in some respects, controversial. In the initial three-month comment period, the SEC received more than 10,000 comments1, with many supporting the proposal but others expressing concerns. In October 2022 – the self-imposed deadline previously set by the SEC for finalizing the disclosure’s requirements – the Commission reopened its comment file following a technical glitch which prevented some feedback from reaching the agency. This has pushed back the finalization of the proposal by several months, with the agency recently remarking that they intend to release the finalized rules by the end of April this year.
What Does the SEC Proposal Cover?
The catalyst for this delay, beyond technicalities in the SEC’s system and the volume of comments, is the extensive disclosure requirements the commission is proposing from eligible registrants. Highlights of these potential requirements include:
- Scope 1 and Scope 2 emissions: Companies would be required to disclose direct GHG emissions from owned or controlled sources (Scope 1) and indirect GHG emissions from purchased electricity and other forms of energy (Scope 2), expressed both by disaggregated constituent greenhouse gases and in the aggregate, and in absolute terms, not including offsets, and in terms of intensity (per unit of economic value or production).
- Scope 3 emissions: If material, companies would also be required to disclose indirect emissions from upstream and downstream activities in a registrant’s value chain (Scope 3), or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions, in absolutely terms, not including offsets, and in terms of intensity.
- Compliance and Assurance: The proposed rule would include phase-in periods for both the compliance date and assurance requirement as well as the levels of assurance (limited and reasonable).
- Disaggregated Climate-Related Financial Metrics: The proposed rule would require companies to also provide certain disaggregated climate-related financial metrics across three categories: financial impact metrics, expenditure metrics, and financial estimates and assumptions. Companies with climate goals, such as net zero by 2050, would need to disclose how the commitment would impact financial estimates and assumptions, such as estimated useful life, fair value measurements, and depreciation expense.
The proposed rule includes a phase-in period for all registrants, with a compliance date determinant on the registrant’s filer status, as well as an additional phase-in period for Scope 3 emissions disclosure. Notably, the dates initially included in the proposal assumed an adoption by December 31, 2022, with an effective date in December. Following the October delay and January agenda update, it is likely that we will see these compliance dates extended in the finalized rule in April.
Where The SEC Proposal Has Received Pushback
Amongst the several thousand comments sent to the commission, we have seen substantial criticism of the proposal, with various industry groups, political leaders, and institutional investors asking the SEC to scale back the mandated disclosures and provide more flexibility. Nareit, a trade association for real estate investment trusts, commented that “[t]he proposal’s departure from a principles-based disclosure approach grounded in materiality to a highly prescriptive ‘one size fits all’ approach is not warranted.”3 BlackRock, whose views on corporate climate disclosures are broadly aligned with the SEC’s proposal, wrote to express their strong support of the SEC implementing a framework for public companies, but suggested the commission adopt a different approach to mandating disclosures that are still based on estimates and evolving methodologies, as well as maintaining established standards of materiality and avoiding disincentives for robust climate-risk disclosure.4
Republican members of Congress have taken their disapproval a step further. In April, top Republicans on the Senate Banking, Housing, and Urban Affairs, and the Environment and Public Works committees wrote in a letter to SEC Chairman Gary Gensler urging the commission to withdraw the proposal, arguing the move is outside the agency’s mission.5 In December, House Republicans introduced a bill that would limit the SEC’s ability to establish additional requirements on registrants, including the climate-related disclosure rule.6
Our Take at HXE Partners
Historically, the SEC often alters its final rule from earlier drafts, and we anticipate this trend to continue with the release of the finalized climate-related disclosure rule. Despite this, the proposal has made one thing clear: investors and regulators are continuing to coalesce around select frameworks and standards, and we expect this consolidation to continue. The proposed disclosures are heavily informed by the Task Force on Climate-related Financial Disclosures (TCFD) and the Greenhouse Gas (GHG) Protocol, both of which have already been widely accepted by companies and investors and for many registrants who are already collecting and reporting on this information, it would simply change how and where the information is presented.
There is no consensus on the more contentious elements of the proposal, like Scope 3 emissions and climate-related financial metric disclosures. Several of the submissions during the 3-month comment period were related to these segments of the proposed rule. If the SEC elects to take a more conservative approach to their requirements, we expect these elements to be scaled back, and potentially amended to a “comply or explain” approach to rulemaking, rather than mandatory reporting of such data points that as of today, are still highly estimated.
Ways to Prepare
We still await a final rule, but the nature of this proposal is not forward-looking. The elements included are a result of the investor, corporate and regulatory landscape converging around select frameworks, notably the TCFD which is heavily referenced. Companies who utilize the TCFD framework to inform their sustainability strategy and disclosures will be well prepared for potential requirements of merging such reporting into registrant disclosures, like the Form 10-K. At HXE Partners, our advisory philosophy has always been to align best practices in ESG and sustainability management and disclosure with what investors and capital markets are seeking. We will continue to encourage clients to deepen their ESG narratives and annual sustainability reporting to reflect the TCFD recommendations and SASB standards (which the TCFD frequently references), which in turn will set them up for success in light of this new regulatory era for climate disclosures.