Why Disclosure Matters

Right now, Wall Street firms are allowed to conceal their exposure to climate-related financial risks, leaving investors in the dark about a significant threat to the long term security of their assets. One analysis from Ceres found that more than 10% of the portfolios of some major US banks are vulnerable to physical climate risks like fire, flooding, and diminished agricultural productivity. As the climate crisis worsens, the significance of the financial risks associated with both its direct and indirect impacts will only increase.

In response to investor demand for more information on climate risk, some companies have opted for voluntary disclosure. But without a rule in place, there’s no standard for how companies measure or report that information, so investors are still left with inconsistent and unreliable data.

As SEC Chair Gary Gensler recently put it, the SEC is talking about climate risk because investors are talking about it. The commission has a mandate to protect investors and maintain orderly and efficient markets, and climate-risk disclosure will help them do both. The rule is a smart, necessary step to increase transparency and investor knowledge, but what remains to be seen is how well the rule itself is designed.

What To Watch For

According to the latest reporting, the SEC’s new rule is expected to require companies to disclose the greenhouse gas pollution generated directly by sources they control and indirectly through things like electricity purchased by the company. These types of emissions are typically referred to as Scope 1 and Scope 2 respectively. When the draft rule is released on Monday, experts and advocates will be reading to see how the rule handles the disclosure of what are known as Scope 3 emissions, which include any indirect emissions that occur in a company’s supply chain, including from the end consumer of a company’s product.

Understanding the extent of a company’s Scope 3 emissions is essential for investors to see the full picture of a company’s climate impact. Leaving out Scope 3 would mean missing upwards of three quarters of the overall carbon emissions, once again leaving investors to fend for themselves without a full account of information. The details of how Scope 3 emissions are included in the rule will also be closely watched – it may apply to only large filers or companies who meet a certain emissions threshold, or it may include phase-ins, delays, caveats, carve outs, etc. 

There have also been reports that the SEC’s commissioners debated basing Scope 3 disclosure requirements on a somewhat open-ended standard for materiality, which would essentially leave it up to a company to decide which Scope 3 emissions are relevant to disclose to investors. Such a standard would not only limit the information available to investors, but could leave businesses open to legal challenges from shareholders who disagree with their standard for relevance.