SEC adopts landmark — but weakened — climate disclosure rules

The US Securities and Exchange Commission has voted to adopt the country’s first federal requirements for public companies to disclose information on their climate-related risks and greenhouse gas emissions. 

But after nearly two years of intense lobbying by industry, as well as threats of litigation from the same interests and Republican politicians, the SEC has adopted final climate disclosure rules that are significantly weaker than those proposed by the commission in March 2022 and those being implemented in Europe and California.

In the most consequential concession to industry, the SEC eliminated Scope 3 emissions disclosure in the final rules. 

These supply chain emissions, which many large companies already disclose voluntarily, often comprise more than half of a company’s total emissions.

The SEC also limited mandatory disclosure of a company’s Scope 1 and 2 emissions to larger companies, when those emissions are “material” to its business. For the SEC, “material” refers to whether “there is a substantial likelihood it is important to the reasonable investor”. 

Mandatory disclosure of Scope 1 and 2 emissions for companies begins in 2026 or 2028, depending on the market capitalisation of the affected company.

During the meeting on March 6 where the new climate disclosure rules were adopted, SEC chair Gary Gensler acknowledged that provisions in the March 2022 proposal, such as Scope 3 emissions disclosure, had been removed based on “public feedback”, but insisted he was “pleased to support this adoption because it benefits investors and issuers alike”.

The rules would provide investors with “consistent, comparable, decision-useful information” and issuers with “clear reporting requirements”, said Gensler.

The regulations build on the SEC’s decades-long tradition of updating disclosure requirements when necessary to fulfil the agency’s mandate to provide investors with what President Franklin Roosevelt called “complete and truthful disclosure”, said Gensler, citing the commission’s guidance regarding environmental risks in the 1970s and executive stock compensation in the 1990s, as previous examples of this approach.

Evaluating transition risk could be trickier

Environmental campaigners and climate disclosure market watchers criticised the SEC’s scaling back of ambition.

“The SEC has failed in its obligation to put investors first, its core constituency,” said Clara Vondrich, senior policy counsel, climate programme at Public Citizen. “By letting companies off the hook for reporting all emissions, the agency has stripped the most important metric for evaluating transition risk. Only by tracking emissions over time can investors tell whether a company is effectively decarbonising, rather than greenwashing,” she said.

“Something is better than nothing, but this ruling falls short of what many had hoped for,” James Parker, head of sustainability at carbon accounting platform Minimum, said in a statement. “The choice to remove Scope 3 and adopt a thinned-out approach to Scope 1 and 2 only muddies the waters when it comes to disclosure requirements and how companies account for their emissions.”

Brad Caswell, head of law firm Linklaters’ US financial regulation group, said for companies like banks with a huge global footprint, disclosure will be a mammoth undertaking from an operational and compliance perspective. 

“They’re going to have to aggregate all of this data across all their jurisdictions and product lines. Different teams are going to have very different approaches. Obviously, all of that information then has to flow up into the public company and will impact these disclosures.”

Banks will have to consider materiality, said Caswell, and the regulators will be closely scrutinising those determinations and disclosures. “It’s not just about making disclosures. You have to be able to back them up. It’s absolutely critical that banks navigate through this to make sure their disclosures are accurate and consistent.”

But when it comes to enforcement of the SEC’s climate disclosure rules, Caswell said we need to face the reality that the US presidential elections later this year will be impactful to the future direction of this rule and environmental, social and governance rules generally in the US. “Each administration has their own priorities and you do see changes in how active enforcement is under different administrations,” he said.

Business interests, meanwhile, welcomed the reduced scope of the rules.

“The Securities and Exchange Commission responded to American Farm Bureau Federation’s concerns and affirmed that regulations intended for Wall Street should not extend to America’s family farms,” the AFBF said in a statement.

“While it appears that some of the most onerous provisions of the initial proposed rule have been removed, this remains a novel and complicated rule that will likely have significant impact on businesses and their investors,” Tom Quaadman, executive vice-president at the US Chamber of Commerce’s Center for Capital Markets Competitiveness, said in a statement.

Scope 3 emissions a ‘notable omission’

The day before the SEC voted on the final rules, 79 advocacy organisations from the Stop the Money Pipeline coalition sent a letter to Gensler and other commissioners urging them to restore “reported notable omissions” such as the lack of mandatory Scope 3 emissions disclosure.

The absence of Scope 3 presents “a stark deficiency”, the group wrote. “Scope 3 emissions, which account for the majority of a company’s carbon footprint through its supply chain, are critical to understanding the full extent of a corporation’s impact on climate financial risk.”

Other observers said companies should act on their Scope 1 and 2 emissions first or highlight the challenges involved in accurately measuring Scope 3 emissions from suppliers

“Corporates urgently need to get their own houses in order — to determine and then begin reducing the emissions they have direct control over,” Ofir Eyal, director at consultancy Marakon, said in a statement. “It’s been a case of willing procrastination for too many businesses, which have used the complexity involved in calculating Scope 3 emissions as an excuse for delaying the development of a meaningful strategy to reduce their direct emissions.

“Introducing Scope 3 disclosure requirements now risks firms turning a blind eye on their own immediate impact in favour of casting their eye further down the value chain, which ultimately won’t speed up the transition,” he added.

“Scope 3 is challenging to estimate. It generates numbers that are somewhat imprecise,” Edhec-Risk Climate Impact Institute director Frédéric Ducoulombier said. “The company is compelled to disclose numbers which won’t be so precise and could have it exposed to liability [and] litigation.

“The Scope 3 protocol was not meant to produce data for investors; it was meant to help companies define their value chain emissions inventories and identify the hotspots, and start cutting the emissions by taking action,” he added.

Although Scope 3 emissions are excluded under the SEC’s disclosure rule, Caswell of Linklaters said they are already included under California law. “As early as 2026, companies caught under the California rule will still have to collect Scope 3 emissions data and report on it,” he said. So, banks with operations in California, or in overseas jurisdictions like Europe where regulations require Scope 3 emissions reporting, means banks are not “off the hook”. 

“This is the biggest concern for banks. How do they comply with all of the international regulations which are not consistent? It is a challenge,” added Caswell.

Legal challenges likely

In January, Republican politicians and business interests had threatened to sue to block the SEC’s final climate disclosure rules, and they may now sue to block the weakened rules.

“The chamber will continue to use all the tools at our disposal, including litigation, if necessary, to prevent government overreach and preserve a competitive capital market system,” Quaadman warned.

Indeed, business interests wasted little time in suing to block California’s first-in-the-nation climate disclosure laws. In October 2023, Governor Gavin Newsom signed two bills requiring large companies operating in California to disclose their greenhouse gas emissions (SB 253), including Scope 3, and climate-related financial risks (SB 261). 

On January 30, industry groups, led by the US Chamber of Commerce and the AFBF, filed a lawsuit seeking to invalidate both laws.

In its statement on the SEC’s adopted rules, the AFBF urged “California to follow the SEC’s lead by withdrawing its Scope 3 reporting requirement for any company doing business in the state”.

The SEC crafted its final rules to withstand legal challenges from industry, but in limiting mandatory climate disclosure to what the agency believes can be defended in a court, the commission may have invited legal action from environmental campaigners.

“The SEC should consider that litigation risk runs both ways,” Sierra Club senior attorney Andres Restrepo told E&E News last week.

“The agency’s decision was driven by fears of legal challenge stoked by the Chamber of Commerce and the farm bureau. Legal experts have repeatedly confirmed that the critical investor protections enshrined in the [March 2022] proposed rule were squarely within the SEC’s legal authorities and regulatory precedents. This decision is not going to age well,” said Public Citizen’s Vondrich, suggesting that the SEC has gone too far in scaling down the rules to assuage industry concerns.

Global laggard on disclosure

The SEC’s adoption of stripped-down climate disclosure rules also puts the US behind the growing number of jurisdictions where more comprehensive disclosure, including Scope 3 emissions, is becoming the standard. 

The EU’s new Corporate Sustainability Reporting Directive, which came into force on January 1, requires the 50,000 or so companies that are expected to fall within its remit to report Scope 3 emissions.

The UK government is also considering including Scope 3 in its Streamlined Energy and Carbon Reporting framework, and has launched a call for evidence to gather feedback “on the benefits, costs and practicalities of Scope 3 greenhouse gas emissions reporting in the UK”.

This mismatch could have potentially negative consequences for US companies and investors, including the risk of causing domestic confusion given that the rules in California would be stricter than those at a federal level.

During the SEC meeting, the agency’s general counsel, Megan Barbero, said: “Nothing in these rules that the commission is considering today expressly pre-empts any state law. The question would be one of implied pre-emption, and whether the commission’s climate rules have implied pre-emptive effect would be determined by a court in a future judicial proceeding.”

In short, if California’s more stringent climate disclosure regime survives legal challenges, disclosure requirements for large companies operating in the state will exceed the SEC’s federal requirements.

“The final rule blindfolds US investors and puts them at a major disadvantage compared to their peers abroad,” said Vondrich.

“This watered-down rule on climate risk disclosure is a departure from international norms and best practices,” wrote the Stop the Money Pipeline campaigners. “As regulators around the globe, including those in China and the EU, advance their regulatory frameworks to include rigorous climate risk disclosures, the SEC’s proposed rule lags, jeopardising the US’s position in the global market.”

“This is going to prove costly for US firms operating internationally, who will find themselves having to jump through expensive hoops to meet more demanding EU regulations. The SEC will need to extend a hand to help companies navigate this maze and lay out clear guidelines for companies to meet these conflicting demands,” said Minimum’s Parker.

He added: “The bottom line is we are in dire need of a regulatory consensus. While some sort of alignment and direction is better than nothing at all, this ruling sustains much of the regulatory confusion that it was supposed to resolve.”

Additional reporting by Anita Hawser

An earlier version of this article first appeared in Sustainable Views, a service by the Financial Times Group