On March 6th, 2024 the U.S. Securities and Exchange Commission adopted the Climate-Related Disclosure Rule. This rule requires companies to publicly share how climate change can or does affect the business.
To make a long story short - this is what is now required:
How climate change risks have impacted or might impact their business plans, results, and financial health.
The specific ways these climate risks could change their business strategy, model, and future outlook.
If a company has taken steps to deal with climate change risks, they need to explain what they've spent money on and how these actions affect their financial plans and estimates.
Companies must also share their efforts to reduce climate change risks, such as using transition plans, analyzing different future scenarios, or setting a price on carbon emissions within their operations.
How the company's leaders and managers are involved in understanding and managing climate risks.
The methods a company uses to find, assess, and handle climate change risks, including how these methods fit into their overall plan for managing risks.
Details on the company's climate-related goals or targets, how these have changed or might change the company's performance or finances, including what they've spent money on and how it impacts their financial projections.
Larger companies need to provide specific information about their carbon emissions (Scope 1 and Scope 2), and they'll need an outside report checking these emissions. Over time, these reports will need to be more detailed and accurate.
Companies must also report the costs and financial losses from extreme weather events and natural disasters, like hurricanes, floods, droughts, wildfires, and rising sea levels, if these costs are significant.
Finally, if a company uses carbon offsets or renewable energy credits significantly as part of their climate strategy, they need to report the costs and financial impacts of these actions.
The Good News:
Increased Transparency and Accountability: The final rule requires larger publicly traded companies to disclose material climate-related risks, their greenhouse gas emissions (Scope 1 and Scope 2), the financial impacts of severe weather events and their governance structures. This step towards greater transparency is critical for investors, stakeholders and the general public to assess companies' environmental impact and their strategies for mitigating climate risks.
Mandatory Scope 1 and Scope 2 Reporting: The rule makes it obligatory for significant public entities to report their direct greenhouse gas emissions (Scope 1) and those from their energy providers (Scope 2) when these emissions are material to their shareholders. This requirement will help investors understand the direct environmental impacts of their investments.
The Bad News:
Legal and Political Challenges: The rule, even though significantly pared down from its original proposal, is expected to face stiff legal challenges and political opposition, particularly from the House of Representatives and Republican-controlled states. This could potentially delay or complicate its implementation.
Exclusion of Scope 3 Reporting: The most controversial aspect of the proposed rule, Scope 3 reporting, was removed due to legal concerns over the SEC's authority to regulate privately held companies indirectly. This exclusion limits the rule's ability to provide a full picture of companies' environmental impact, particularly concerning emissions from their supply chains and by end consumers.
Materiality Standard Unchanged: The U.S. materiality standard, which focuses solely on financial impacts, remains unchanged. This single materiality standard may overlook broader environmental, social, and governance factors that could influence shareholders' decisions, limiting the scope of what companies are required to disclose regarding their impact on people and the environment.
Additional Concerns:
Scope 1 and Scope 2 Reporting Limitations: While mandatory, the reporting of Scope 1 and Scope 2 emissions applies only to larger companies and only when they deem these emissions material to shareholders, potentially leaving out significant environmental impacts from smaller companies or those deemed immaterial.
Regulatory and Compliance Uncertainties: The rule's phased-in approach, starting in 2026, along with the anticipated legal battles, creates uncertainties for companies about how and when to comply. Additionally, concerns about the rule's potential to preempt state regulations and its impact on non-U.S. businesses add to the complexity of its implementation.
Cost Concerns: The rule is expected to increase the SEC disclosure cost to companies by an estimated 21%, raising concerns about the financial burden on businesses, especially amidst challenges related to gathering and attesting to the required information.
Related Quotes
“A bare minimum” - Commissioner Caroline Crenshaw (D)
"However well-intentioned, these particularized interests don’t justify forcing investors who don’t share them to foot the bill" - Commissioner Hester Peirce (R)
"Climate risk is financial risk. This is a sensible rule to protect investors” - Elizabeth Derbes, director of financial regulation and climate risk at the Natural Resources Defense Council.
"It's like buying a house and only receiving disclosures that the seller thinks are relevant to you, if you receive any at all" - Director of Land & Climate at Clean Air Task Force
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