SEC Climate Risk Disclosure One Year On
For the climate policy news junkies and carbon geeks that follow greenhouse gas reporting for work or (sadistic?) pleasure, the last few weeks have seen a particularly high churn of new developments. It’s hardly news that the new U.S. Congress isn’t terribly keen on continuing to classify GHGs as pollutants. Likewise, new decisions from the European Commission on the EU Emission Trading Scheme may not please participants and environmental watchdogs alike, but its movements and process are at least well understood.
Looking past these regulatory news spigots, early March has seen a host of stories related to the mundane nuts and bolts of GHG reporting. Specifically: U.S. EPA announced it will delay its mandatory reporting deadline from the end of this month to later this summer; the British government is reportedly set to announce its carbon reporting rules (or justify why it doesn’t need GHG reporting); and the Australian government still has yet to give a clear picture of what we should expect.
A recently released Ceres report (Disclosing Climate Risks & Opportunities in SEC Filings a Guide for Corporate Executives, Attorneys, & Directors) [PDF] looks at this policy volatility through the lens of climate risk disclosure. Financial disclosures of climate risks must necessarily acknowledge our uncertain political environment, including the potential for future regulation as well as a host of other material risks and opportunities presented by climate change. (For more on what all is wrapped up in financial climate risk disclosure see a blog I wrote on the topic last year after the US SEC released its interpretive guidance on climate risk disclosure.)
Given the convergence of factors driving disclosure and the newness of the practice, conventional thinking has suggested that reporting would improve over time. With this in mind, just over a year on from the SEC’s release of interpretive guidance, where do we stand? And more pointedly, what does this mean for GHG measurement, reporting, and verification?
Deferring to Ceres’ expertise on the topic, their conclusion is less than heartening for those who envisioned financial disclosure requirements as a rapid driver of change. In the report’s conclusion, the authors set the tone by ominously reminding their audience of the power of disclosure requirements: “The release of the SEC Guidance on climate disclosure marks an important recognition of that reality, and underlines that disclosure is a matter not only of sound corporate strategy and good investor relations, but, in many cases, a legal obligation.”
Yet the gravity of the force of law is eroded by the authors’ concluding remarks on the realities of current practice: “Although public companies’ climate reporting has improved somewhat in recent years, it remains true that disclosures very often fail to satisfy investors’ legitimate expectations.”
How to measure this apparent mixed bag? The report presents examples of corporate disclosures in an attempt to sketch out a best practice vision. But while these case studies are helpful, from a GHG reporting angle, the authors’ 11-point checklist offers perhaps the most insightful perspective on the state of the art. On the one hand, this section offers frustratingly little reference to GHG verification (in fact the entire report contains only a single explicit reference to auditing/verifying GHG data); on the other hand, systems, governance, and data quality are generally broached:
Systems, processes and controls to gather reliable information on firm emissions, physical risks, enacted and proposed regulations, and climate-related initiatives will determine the quality of management analysis, decision-making and disclosure to investors. For many companies, these systems are essential, because the process of gathering emissions data poses complex questions related to setting organizational and operations boundaries, tracking emissions over time, managing inventory quality and other issues.
Yes, discussion in this paper remains relatively high level on these issues, but if this report can be viewed as broadly capturing the state of discourse on climate risk disclosure, it would seem to suggest a shift to considering some the realities of the institutional capacity questions related to implementation (a subject we at the Institute view as a critical — and often overlooked — priority).
In spite of progress on this front, the report also contains hints that seem to suggest a diverse field amongst corporates analyzing climate risk. With some still on the sidelines, requiring cajoling to begin even basic reporting.
Whether or not greenhouse gas emissions are material and subject to mandatory disclosure under the securities laws will depend upon the magnitude of a company’s emissions weighed against the content of existing or proposed regulations. But a firm cannot identify the potential impact of regulations without knowing what its emissions are. As the SEC Guidance explains, management “should ensure that it has sufficient information regarding the registrant’s greenhouse gas emissions and other operational matters to evaluate the likelihood of a material effect arising” from enacted or proposed legislation or regulations.
With these observations noted, what can we conclude about climate risk disclosure one year on from the SEC’s interpretive guidance release? Perhaps the authors left it best at marginal improvement that fails to satisfy legitimate expectations.
The report doesn’t bring up the issue of “materiality over what time period,” which is THE issue here. Even at the societal level, the whole social cost of carbon (SCC) debate is looking 100 years out using conventional cost-benefit analysis, and is coming up with very modest “willingness to pay” numbers because of 1) the future timing of impacts, and 2) NPV discounting (even at low discount rates). Even at low discount rates most of the damages of climate change “disappear,” whereas the costs of doing something about it are front-loaded. Pretty typical for cost-benefit analysis, which is clearly not the right tool for thinking about climate change, but if all you have is a hammer, everything looks like a nail. The point is that plausibly “reasonable people” are raising significant questions in the SCC literature about materiality even at the societal level (!!!).
Flip over to corporate materiality under the SEC, using a much more limited time frame (e.g. <5 years?), how could you EVER demonstrate materiality of a sort that one would be obligated to report in any kind of a regulatory context. In the short term the uncertainty bands around policy and climate impacts are so wide that companies would be hard pressed to point to materiality even if they wanted to. All the lawyers I know are writing very vague SEC disclosure sentences for their clients. Even for companies that want to do the right thing environmentally, could they reasonably argue materiality over such a short time frame? I think they'd be hard pressed to do so in a way they could defend to a CFO or investors.
Which brings us back to the issue of timing. If conventional financial disclosure timeframes are a square peg in a round hole when it comes to influencing corporate behavior around climate change, what are the disclosure theories that would push companies to have to be thinking about the longer term. Over a 20 year timeframe it would be MUCH easier to argue for materiality than over a 5 year time frame.
Disclosure is great, and I'd love to see more companies doing it well as defined in the CERES report, since it means that the words climate change at least show up in the reports. That said, I'd love to see something that actually changes corporate behavior, rather than something that just adds some text to corporate reports.