On March 21, the U.S. Securities and Exchange Commission (SEC) released a proposal for a new rule that would strengthen and standardize the way that public companies make climate-related disclosures. The SEC also requested public comment on the proposed rule change.
The public comment period for the new proposal remained open until June 2022, and eight of the 10 largest asset managers in the U.S. responded to the SEC’s request for comment. In July, Morningstar, an investment research firm, released a research paper with key takeaways from those responses.
The SEC is attempting to standardize climate-related disclosures and align them with international standards for reporting. The new proposed rules would require companies to disclose the risks from climate change that are likely to have financially impacts on them.
One of the more hotly debated items in the SEC proposal is the requirement for very large companies with significant emissions — or a public commitment to a net-zero plan — to disclose their Scope 3 emissions. Scope 3 emissions are, in most cases, the largest source of a company’s emissions, but it is also the broadest category and the most attenuated from the company’s direct control. Scope 1 and Scope 2 emissions are those emissions directly controlled by a company or from any electricity, heating, or cooling purchased by the company. Scope 3 emissions are any emissions occurring in the supply chain, downstream or indirectly from the company’s operations.
For example, an oil and gas company might have reasonably low Scope 1 and Scope 2 emissions if its company-owned or -controlled facilities are energy efficient. However, its Scope 3 emissions would encompass all of the emissions indirectly caused by the company, including all fuel consumption by drivers of gas-fueled cars.
According to Morningstar, all eight of the responding asset managers support the SEC’s goal of providing investors with standardized and comparable climate-related financial risks. There was also broad support for mandatory disclosures of Scope 1 and Scope 2 emissions and unanimous support among the asset managers for bringing SEC requirements in alignment with a globally-recognized framework like TCFD, a leading global framework for climate-related risks and opportunities.
The support for the SEC’s rule change did not extend to Scope 3 emissions disclosures, however. Capital Group was the lone firm to support disclosure of Scope 3 emissions. The remaining managers objected to the proposed Scope 3 disclosures, citing concerns such as data gaps and inconsistent methodologies that could be applied to climate-related disclosures.
For some industries, reporting on Scope 3 emissions will be both challenging and costly. Companies will have to rely on data for such climate-related disclosures from suppliers, customers and clients, and obtaining that information could be financially burdensome. However, requiring only Scope 1 and 2 disclosures does not give the public an accurate measurement of a company’s carbon footprint, because it omits the largest source of greenhouse gas emissions. Scope 3 emissions disclosures are critical for investors, and the greater public, to understand a company’s climate-related risks and opportunities, as well as the true measure of its greenhouse gas emissions. Furthermore, if firms are not required to account for their supply chain’s emissions, they would be incentivized by the reporting scheme to transfer emissions-producing operations to parts of their company not monitored by disclosure requirements.
Capital Group’s response to the SEC proposal aptly summarizes the situation. It reads: “Scope 1 and Scope 2 GHG emissions data alone provide an incomplete (and potentially inaccurate) picture of a company’s overall carbon footprint and its ability to create and sustain long-term value through shifting consumer demands or changes in energy policies. Scope 3 GHG emissions data is thus a necessary supplement to Scope 1 and Scope 2 GHG emissions data.”
Whatever the outcome, the SEC has indicated that a final rule will be introduced in December and will require companies to comply by fiscal year 2023.
Image credit: Lisa Johnson via Pixabay
Mary Riddle is a writer and sustainability consultant based in Florence, Italy. As a former farmer and farm educator, she is passionate about regenerative agriculture and sustainable food systems. Currently, she and her husband also own and operate Italy in Season, a subscription box company with a mission to support small-scale Italian artisans and traditional craftsmanship.