Climate-related disclosure may soon become mandatory in the United States

The SEC’s proposal would require climate disclosures in annual reports and registration statements, as early as for fiscal year 2023 for certain issuers

The U.S. Securities and Exchange Commission (the “SEC”) has finally released its climate disclosure proposal, a potentially major expansion of the U.S. public company reporting regime that would require climate-related disclosures in registration statements and annual reports and associated financial statements. As proposed, the requirements would apply to U.S. domestic and foreign private issuer registrants and would require accelerated and large accelerated filers to obtain an independent attestation report covering, at a minimum, Scope 1 and 2 greenhouse gas (“GHG”) emissions disclosure. 

The proposed climate risk disclosures are based in part on the Task Force on Climate-Related Financial Disclosures (the “TCFD”) framework, and the proposed GHG emissions disclosures on the Greenhouse Gas Protocol (the “GHG Protocol”), which are already familiar disclosure standards for many issuers. 

This note is intended to provide a high-level summary of the proposal, which will be followed by a more detailed note that will also compare the SEC’s proposal to UK and EU developments on climate-related disclosure. 

Who would have to comply? The proposed amendments would apply to both U.S. domestic and foreign private issuer registrants. This means companies with reporting obligations under Section 13(a) or 15(d) of the U.S. Securities Exchange Act of 1934 (the “Exchange Act”) or companies filing a registration statement under the Exchange Act or the U.S. Securities Act of 1933 (the “Securities Act”). No exemptions have been proposed for emerging growth companies, but smaller reporting companies (“SRCs”) would be exempt from certain of the proposed requirements. The proposed rules would not apply to Form 40-F filers or asset-backed issuers.

Where would disclosures have to be made? Currently, many registrants that choose to make climate-related disclosures communicate them outside their SEC filings. The proposal would require that climate-related disclosures be included in annual reports on Forms 10-K and 20-F, as well as Securities Act and Exchange Act registration forms. The proposal would also amend Form 6-K to add climate-related disclosure to the list of the types of information to be provided, but as a practical matter, this would only mean that foreign private issuers would have to disclose on Form 6-K the climate-related information they make or are required to make public in their home jurisdiction.

What kind of disclosures would be required? The bulk of the proposal is comprised of a new section for Regulation S-K (new subpart 1500) and for Regulation S-X (new Article 14). Under these proposed additions, a registrant would be required to disclose the following:

Governance and management processes (Reg S-K)

  • The oversight and governance of climate-related risks by its board and management, including whether any board members are experts in climate-related risk;
  • Its processes for identifying, assessing, and managing climate-related risks and whether any such processes are integrated into its overall risk management system or processes;

Climate-related risks and material impacts (Reg. S-K)

  • How any identified climate-related risks have had or are likely to have a material impact on its business and consolidated financial statements, which may manifest over the short-, medium-, or long-term;
  • How any identified climate-related risks have affected or are likely to affect its strategy, business model, and outlook, including the disclosure of (if used) any internal carbon pricing or scenario analysis;

Financial statement metrics (Reg. S-X)

  • The impact of climate-related events (severe weather events and other natural conditions) and transition activities on the line items of its consolidated financial statements, as well as the financial estimates and assumptions used in its financial statements;

GHG emissions (Reg. S-K)

  • Scope 1 and Scope 2 GHG emissions metrics, separately disclosed, and expressed both by disaggregated constituent greenhouse gases and in the aggregate, as well as in absolute and intensity terms;
  • Scope 3 GHG emissions and intensity, if material, or if the registrant has set a GHG emissions reduction target or goal that includes its Scope 3 emissions; and

Climate targets and goals (Reg. S-K)

  • Its climate-related targets or goals, and transition plan, if any, including disclosure of the units of measurement, the defined time horizon, any interim targets, if any carbon offsets are used and how the registrant intends to meet its targets. Inline XBRL tagging would be required of the narrative and quantitative climate-related disclosures.

How does the proposal address Scope 3 emissions? The proposal only requires the disclosure of Scope 3 emissions if material, or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions. The SEC is proposing a liability safe harbor for Scope 3 emissions disclosure by providing that any Scope 3 emissions disclosure by or on behalf of a registrant is deemed not to be a fraudulent statement, unless it is shown to be made or reaffirmed without a reasonable basis or disclosed other than in good faith. Finally, SRCs would be exempt from disclosing Scope 3 emissions, and the proposal provides a delayed compliance date for all filers for Scope 3 disclosure.

How do the proposed disclosure requirements compare to reporting standards companies are already using? The proposed climate risk disclosures are based in part on the TCFD  framework, and the proposed GHG emissions disclosures on the GHG Protocol. However, there are some key differences. For example, the SEC is not proposing to mandate scenario analysis, as recommended by the TCFD (although disclosure would be required under the proposal if the registrant voluntarily chooses to conduct a scenario analysis). The proposal also does not require registrants to follow a specific external protocol for reporting emissions, instead requiring a registrant to set the organizational boundaries for its GHG emissions disclosure using the same scope of entities, operations, assets, and other holdings as those included in its consolidated financial statements. By contrast, the GHG Protocol requires a company to base its organizational boundaries on either an equity share approach or a control approach.

What are the proposed attestation requirements? The proposal would require only accelerated filers and large accelerated filers to include an attestation report covering, at a minimum, the disclosure of their Scope 1 and Scope 2 emissions. As proposed, these companies would have one fiscal year to transition to provide “limited assurance” (i.e., negative assurance) and two additional fiscal years to transition to provide “reasonable assurance” (i.e., affirmative attestation) starting with the respective compliance dates for Scopes 1 and 2 disclosure. The SEC is also proposing minimum attestation report requirements and minimum standards for acceptable attestation frameworks, while refraining from actually creating or adopting a specific attestation standard for assuring GHG emissions. The attestation service provider would not have to be a registered public accounting firm, but it would be deemed an expert for U.S. federal securities law (and liability) purposes and would have to be independent and meet certain minimum qualifications.

As proposed, the rules would not require filers to obtain a separate assessment by management and disclosure on the effectiveness of controls over GHG emissions or an attestation report specifically covering the effectiveness of controls over GHG emissions disclosures.

Separately, however, since the proposed Regulation S-X financial statement metrics discussed above are part of the financial statements, they would have to be included in the scope of the audit of the financial statements by an independent registered public accounting firm, and they would be within the scope of the registrant’s internal control over financial reporting. 

What liability would companies have for climate-related disclosures? The proposal only provides a safe harbor from liability for Scope 3 emissions disclosure, as described above. In general, the required climate-related disclosures would be treated as “filed” and thus subject to potential liability under Exchange Act Section 18, except for disclosures furnished on Form 6-K. The proposed disclosures would also be subject to potential Section 11 liability if included in or incorporated by reference into a Securities Act registration statement. Importantly, Section 10(b) and Rule 10b-5 of the Exchange Act would also apply to climate-related statements made in filings with the SEC (or elsewhere) in connection with the purchase or sale of a security.

When would companies have to comply? The proposal provides for  phase-in periods for the required disclosures that depend on a registrant’s filing status, and additional phase-in periods for Scope 3 emissions disclosure, as follows:

  • For large accelerated filers, fiscal year 2023 (filed in 2024);
  • For accelerated and non-accelerated filers, fiscal year 2024 (filed in 2025); and
  • For SRCs, fiscal year 2025 (filed in 2026).

Registrants subject to the proposed Scope 3 disclosure requirements would have one additional year to comply with the Scope 3 disclosure requirements.

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The Biden administration has made it clear that addressing climate change is a top priority, and this proposal plays an important part in aligning the U.S. climate reporting framework with that in other jurisdictions, particularly Europe. We expect the SEC will act quickly to adopt a version of these rules, and, as with many of the SEC’s recent proposals, the comment period is relatively short, closing on May 20, 2022 (or 30 days after Federal Register publication, whichever is longer). 

If adopted as proposed, the rules would be a significant expansion of the SEC’s reporting regime for public companies, presenting a change in approach for the SEC and a major new compliance burden for companies. It is difficult to predict for certain what form the final rules will take. The SEC will consider the comments it receives and will likely make some revisions to the proposal, at least at the margins. However, if the various parties (including the West Virginia Attorney General) who have threatened litigation are successful, we could see a different version of these rules in a few years. For example, when the SEC adopted the conflict mineral rules in 2012, the National Association of Manufacturers quickly sued, arguing among other things that the rules violated issuers’ First Amendment rights. The U.S. Court of Appeals for the District of Columbia partially upheld and partially invalidated the rules, and after deciding not to appeal the decision, the SEC issued a statement providing issuers with relief from certain of the rules’ requirements. 

We will continue to monitor developments in these areas and encourage you to contact us if you have any questions.