Mandatory Pollution Disclosure Regulations to be Implemented by 2024

The Securities and Exchange Commission is set to make a decision by next spring regarding a regulation requiring public companies to reveal their greenhouse gas emissions and assess the potential impact of climate change on their operations. This proposed rule has faced opposition from business leaders and lawmakers, who claim it goes beyond the SEC's mandate to protect investors and oversee markets, especially in light of the Biden administration's focus on addressing climate change.

A group of Republican lawmakers wrote a letter to the SEC earlier this year stating that the agency was not created to advance progressive climate policies, but rather to protect investors, maintain fair markets, and facilitate capital formation. Advocates argue that with the increasing climate-related regulations, investors should be informed of the financial risks posed by climate change and emissions laws before making investment decisions.

Whats in the rule

The SEC first proposed its climate disclosure rule in March 2022, but since then, the agency has delayed releasing a final version on multiple occasions.

Companies are mandated to disclose details regarding two types of climate change risk: physical and transition risks.

Physical risks pertain to the effects of climate change on a company's operations, such as the potential for increased natural disasters like wildfires or hurricanes.

Transition risks involve the potential impact on a company's profits from increasingly stringent climate change regulations. In response, the SEC rule would require companies to disclose their business operations' pollution, categorized as scope 1, 2, and 3.

Scope 1 and 2 encompass the direct and indirect greenhouse gas emissions generated through a company's activities, including waste from manufacturing processes and the use of air conditioning in office buildings.

Scope 3 emissions are those that a company is not directly responsible for, but are generated as a result of its products. For example, an oil company may have low scope 1 and 2 emissions, but it would still be accountable for the large amount of carbon dioxide produced by gas-powered vehicles due to its products, even though the company does not manufacture cars.

Rob Fisher, KPMG's US ESG leader, mentioned the difficulty of gathering scope 3 emissions data due to it occurring outside of a company's control. SEC Chair Gary Gensler also acknowledged businesses' uncertainties about measuring scope 3 emissions during a recent fireside chat hosted by the US Chamber of Commerce.

Separate rules from Europe and California

Despite the SEC's delay, other regulators are still moving forward with pollution disclosures. Governor Gavin Newsom signed a climate disclosure bill in October, which mandates that both private and public companies operating in California disclose their scope 1, 2, and 3 emissions starting in 2026.

California's bill follows Europe's Corporate Sustainability Reporting Directive, which requires certain companies doing business in Europe to disclose information on environmental and social issues. This directive came into effect in January 2023. Consequently, many large US companies are expected to disclose their climate emissions, regardless of the SEC's rules, according to Fisher. He added, "The mandatory reporting wave is already underway."

A contentious proposal

The SECs proposed rule has elicited strong reactions - both positive and negative ­- from lawmakers, business leaders and academics.

Critics contend that the rule will have unforeseen impacts on the economy as a whole. Matthew Winden, an associate dean of the University of Wisconsin Whitewater's College of Business, expressed in a comment to the SEC that the expense of measuring emissions will surpass the SEC's expectations. Winden suggested that companies may offset these cost increases by raising prices for customers or reducing raises and wages for employees.

Three GOP members of the House have contended that the rule falls outside of the SEC's mission and would prove detrimental to consumers, workers, and the U.S. economy if implemented in any form.

In contrast, Democratic officials, including Senator Elizabeth Warren and Representative Jamie Raskin, have strongly endorsed the rule. In a letter from March, these lawmakers urged the SEC to promptly finalize a robust climate disclosure rule in order to fulfill its obligation to investors.

Gensler responded to criticism during the fireside chat, stating that despite the SEC not being a climate regulator, many companies are already disclosing some of their climate emissions and commitments to reducing emissions and waste. He emphasized the need for a standardized method for investors to analyze these reports, noting that a significant number of companies (81% of the Russell 1000 index) are making climate disclosures and that investors are actively using this information to make decisions. Gensler concluded by stating that investors are eager for some form of regulation in this area.

Fisher of KPMG said the rule would help rein in companies who "write their own rubric and grade their own papers" regarding environmental promises and disclosures.