SEC announces proposed rule for climate disclosures for U.S. public companies
On March 21, 2022, the U.S. Securities and Exchange Commission (SEC) announced the release of its long-anticipated proposed rule for climate disclosures for U.S. public companies. The proposals would‑for the first time‑require U.S. companies to provide information on climate risks facing their businesses and plans to address those risks, along with metrics detailing companies’ climate footprint, including Scope 1, 2 and, in some cases, Scope 3 greenhouse gas (GHG) emissions.
The proposed rule has been anticipated for over a year. In February 2021, the SEC initiated a review of the SEC’s guidance for public company obligations for disclosures related to climate change risk, citing increased demand by investors for material, comprehensive and consistent information. And, in March 2021, Acting SEC Chair Allison Herren Lee issued a request for input on climate-change disclosures as a prelude to rulemaking. While the momentum at the SEC can be seen as a top-down regulatory framework for ESG metrics, the SEC’s prioritization of ESG disclosures is well-timed as 2021 saw a substantial increase in investor demand for ESG-related and ESG-driven portfolios.
The Proposed Rule
The proposed rule would require a domestic or foreign registrant to include certain climate-related information in its registration statements and periodic reports, such as on Form 10-K, including:
- Climate-related risks and their actual or likely material impacts on the registrant’s business, strategy, and outlook: Because climate events can pose financial risks across industrial sectors, many commentators support more detailed climate-related disclosures under the proposed rule, which would include physical risks relating to climate-related disasters such as wildfires, hurricanes, tornados, floods, and heatwaves. Further, registrants may be required to disclose the actual and potential impacts of any climate-related opportunities it is pursuing, such as the impact of a potential transition to a less carbon intensive economy.
- Oversight and governance of climate-related risks by the registrant’s board and management: Oversight and governance related disclosures contained in the proposed rule align with the recommendations for the Task Force on Climate-Related Financial Disclosures. The disclosures would include identifying any board members or board committees responsible for oversight of climate-related risks, a description of the process and frequency by which the board or board committee reviews climate-related risks, and how those risks are factored into the business strategy, risk management, and financial oversight by the board.
- Certain climate-related financial statement metrics and related disclosures in a note to its audited financial statements: The proposed financial statement metrics would consist of climate-related impacts on existing financial statement line items in three categories: financial impact metrics; expenditure metrics; and financial estimates and assumptions. Such metrics would be subject to audit by an independent registered accounting firm.
- Information about climate-related targets and goals, and transition plan, if any: While the proposed rule does not require registrants to set specific goals, if registrants have set climate-related targets or goals, they must disclose these goals and targets, including timelines for meeting such targets and data indicating progress made towards each goal.
- Greenhouse gas (“GHG”) emissions: The proposed rule would require registrants to disclose their GHG emissions for the most recent fiscal year, including both direct and indirect emissions. This would include a requirement for registrants to disclose Scope 1 emissions (emissions from operations owned or controlled by registrants) and Scope 2 emissions (indirect GHG emissions from the generation of purchased or acquired electricity, steam, heat or cooling), and some registrants‑when such emissions are material or the registrant has set targets or goals relating to Scope 3 emissions‑will be required to disclose Scope 3 emissions (all indirect GHG emissions not otherwise included which occur in the upstream and downstream activities of a registrant's “value chain”).
The proposed rule is likely to impact companies across all industries and aspects of a supply chain, even if such companies do not have SEC registration requirements individually. As noted in the final bullet above, certain SEC registrants would be required to disclose indirect GHG emissions throughout their “value chain,” which includes upstream and downstream activities. Under the proposed rule, upstream activities include activities by a party other than the registrant that relate to the initial stages of a registrant’s production of a good or service (e.g., materials sourcing, materials processing, and supplier activities), and downstream activities include activities by a party other than the registrant that relate to processing materials into a finished product and delivering it or providing a service to the end user (e.g., transportation and distribution, processing of sold products, use of sold products, end of life treatment of sold products, and investments). As such, these registrants would be required to disclose potential exposure to climate related risks extending beyond the registrant’s operations to those of its suppliers, distributors, and others engaged in upstream or downstream activities.
The proposed rule would significantly change climate-related disclosure requirements of public companies, and, in order for public companies to properly make these disclosures, public companies will, in turn, necessarily seek disclosures from their suppliers, distributors, and others engaged in upstream or downstream activities regarding climate-related risks. Because of the substantial change in disclosure requirements, the time to prepare for these additional requirements is now. Companies should begin to think about some of the following issues:
- Who provides oversight responsibility at the company for climate-related and other ESG risks and opportunities? Is the board or company leadership involved in this oversight?
- What policies and procedures exist at the company or should be created regarding climate-related oversight responsibility?
- What data, information, and metrics does the company currently maintain regarding climate-related activities?
- Does the company currently have any climate-related or other ESG goals or targets?
- Does the company currently track the climate-related activities of its “value chain”? What policies and procedures can be implemented to better assess climate-related risks and opportunities in the value chain?
Comments on the proposed rule are due on the later of 30 days after its publication in the Federal Register or May 20, 2022. Assuming the proposed rules are adopted and go into effect in 2022, registrants would need to comply with the new disclosure rules in accordance with the chart below:
McDonald Hopkins has a cross-disciplinary team that can assist you with any ESG-related issues. Our Social Corporate Governance & Impact Investing practice area can help you to address the “key takeaways” section of this article, and help you to consider feasibility, liability, and risk mitigation relating to the proposed rule as it applies to your business. We will continue to update you as the proposed rule is finalized by the SEC.