US SEC to consider mandatory climate risk disclosure rule by year’s end: Chairman

The chairman of the US Securities and Exchange Commission (SEC) said the agency will consider a "mandatory climate disclosure rule" by the year's end to respond to investors who have been clamoring for clarity on this topic for months.

"Companies and investors alike would benefit from clear rules of the road. I believe the SEC should step in when there's this level of demand for information relevant to investors' decisions," said Gary Gensler, who made the announcement about the rulemaking at a "Climate and Global Financial Markets" webinar hosted on 27 July by Principles of Responsible Investment, a United Nations-affiliated group of investors that certifies companies with environment, social and governance (ESG) portfolios.

Saying he had directed SEC staff to develop the rule requiring mandatory disclosure, Gensler noted the rule will help investors representing tens of trillions of dollars (and in increasing numbers) understand the climate risk of the companies whose financial products or debt or even stock they own or might want to buy.

This information also will help them determine whether to invest, sell, or make a voting decision one way or another.

Clearest Insight

The SEC asked for public comment in late March on how it can improve the current process of reporting climate risks by public holding companies.

The agency a decade ago deemed climate impacts caused by torrential rains, flooding, and wildfires to be a material risk, but only recently began to scrutinize the reports, given the complaints it has received over inconsistent disclosure.

Gensler's remarks clarify when the SEC will move forward with the regulation and provide the clearest insight into what it could require of companies.

Agreeing with 500 unique comments that the SEC has received in favor of mandatory disclosure, Gensler said, "When disclosures remain voluntary, it can lead to a wide range of inconsistent disclosures."

In proposing the draft, Gensler said he told the SEC staff to "consider whether these disclosures should be filed in the Form 10-K, living alongside other information that investors use to make their investment decisions."

Investors like fans need metrics

Drawing an analogy with the fans watching the athletes compete in the Olympics in Tokyo, Gensler said investors are like fans who need metrics to compare companies with one another. "Fans can compare athletes across heats, countries, and generations. It's not like some sprinters run a 100-meter dash and others run 90 meters. Investors today are asking for that ability to compare companies with each other," he said.

To that end, Gensler said he has asked the staff to consider the types of qualitative and quantitative information that would help investors make decisions going forward.

As examples of qualitative disclosures, he pointed to how a company's leadership manages climate-related risks and opportunities, and how these factors feed into its company's strategy.

For quantitative disclosures, he said companies could include information about the financial impacts of climate change, progress towards climate-related goals, and most importantly, GHG metrics such as reporting the emissions they release when they are manufacturing the product and the releases from the use of those end products.

"Many investors," he said, "are looking for information beyond Scope 1 and Scope 2, to Scope 3, which measures the greenhouse gas emissions of other companies in an issuer's value chain. Thus, I've asked staff to make recommendations about how companies might disclose their Scope 1 and Scope 2 emissions, along with whether to disclose Scope 3 emissions — and if so, how and under what circumstances."

In addition to disclosing climate risks, Gensler said he also has asked staff to consider the impact of transitioning to a low-carbon economy on companies, and also whether certain metrics for specific industries, such as banking, insurance or transportation, should be considered.

Biggest development

IHS Markit Climate & Cleantech Executive Director Peter Gardett called the SEC's impending action "the biggest development in financial oversight" since at least the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act that was enacted in the wake of the subprime mortgage crisis in 2008, and, probably, since the Sarbanes-Oxley Act of 2002 that was designed to protect consumers. He expects the months leading up to the rulemaking to be marked by intense lobbying.

About where the proposal is headed, Gardett said, "the SEC has chosen the most aggressive path available to them by pursuing mandatory climate risk disclosure as part of the 10-K filing process."

While the final language is still to be determined and almost certainly subject to legal challenges, Gardett said, "This proposed timeline means firms could be looking at a federally mandated climate risk reporting regime in place a year from today."

Cautionary note

Sarah Fortt, a corporate governance attorney and ESG professional with the Vinson & Elkins law firm, was not surprised to hear Gensler say the SEC may include climate disclosures as a requirement for 10-Ks, which are annual reports all publicly held companies are required to file with the SEC.

However, Fortt cautioned the SEC to "be thoughtful" about the number of assumptions and estimates that go into a company's climate change strategies, including steps like measuring emissions, establishing paths towards net zero and completing climate change scenario and risk analyses.

"If the Commission creates rules that do not take into account these assumptions and estimates or provide a mechanism for companies to perfect their approaches over time without fear of incurring liability for good faith efforts, they could leave companies with a Hobson's choice: liability now or liability later," she said.

Investors, however, welcomed the SEC's move.

Ted Holmes, founder of UK-based Blue Ocean Investment Partners that launched in December 2017, told Net-Zero Business Daily 28 July that Gensler's comments were balanced because they recognize that net-zero claims made by companies need to be accompanied by internal plans and objectives.

"If not these claims are nothing more than statements of intent, at best, or simply comfort statements without substance," Holmes said. "For investors, and especially those of us who have signed up to the PRI, it is important to have comparable and consistent data that is both forward-looking and a review of current status. Otherwise, investing with compliance to the PRI objective is difficult to impossible."

Companies that get ahead of risks posed by climate impacts, and set models for their peers, will be the "most sustainable" in the long-term, noted the Interfaith Center on Corporate Responsibility (ICCR), which represents at least 300 members organizations among faith communities, socially responsible asset managers, unions, pensions, nongovernmental organizations and other socially responsible investors,

Investors also are increasingly concerned with the systems-wide risks of certain corporate practices and the impact of those risks can have on portfolios, ICCR CEO Josh Zinner told Net-Zero Business Daily 28 July.

"We are thus heartened that the SEC is strongly considering mandatory disclosure on climate risks, to help ensure that both that investors have the information that they need to make sound long-term investment decisions, and that companies are operating in a business environment where there is a more level playing field for those that are leader," Zinner said.

Silent on safe harbor

Gensler didn't touch on the liability concerns that large banks have raised in comments to date with the SEC. He also didn't discuss the question of auditing, either.

In their comments to the SEC, large banks notably Bank of America, Citibank, Goldman Sachs, and HSBC urged the commission to consider creating a safe harbor to protect them against the liability of disclosing climate risk.

The banks are members of a nonpartisan policy and advocacy group, the Bank Policy Institute (BPI), which spoke out against the idea of having its members investigated by government agencies or having audits of climate disclosures because they are based on a "nascent stage of verification and data inconsistencies."

But not all banks agree with BPI. For instance, the Amalgamated Bank, a wholly owned subsidiary of Amalgamated Financial Corp. that has roughly $6 billion in assets, told the SEC it supports "audited, tabular disclosures" of a company's estimated GHG releases that include both direct and indirect emissions, in line with the standardized approach developed by the Partnership for Carbon Accounting Financials, a collaboration of 118 financial institutions with assets exceeding $38 trillion.

Backing Amalgamated Bank's position was Norges Bank Investment Management, the investment management arm of the Norwegian central bank that has $399.5 billion invested in listed equities and $139.9 billion in fixed income in the US.

Posted 28 July 2021 by Amena Saiyid, Senior Climate and Energy Research Analyst