Canada: 1.5 Trillion Reasons Why Climate Change Impacts Are Material Disclosure

In our previous column we looked at some global examples of how the emergence of Clean Technology (Clean Tech) has changed the way business and industry look to do business. This month we continue our analysis with how this new wave of thinking has influenced corporate governance and accountability.

Representing more than US$1.5 trillion of assets, leading US and European institutional investors have filed a petition asking that the Securities Exchange Commission (SEC) require publicly-traded companies to assess and fully disclose their financial risks from climate change. These institutional investors include dominant mangers like California's Public Employees' Retirement System (CalPERS) and State Teachers' Retirement System (CalSTRS), which collectively manage more than $400 billion in assets.

The petition asserts two key points:

  1. that under existing law, corporations are obligated to consider and disclose the risks and opportunities they face in connection with climate change as they are material to shareholder investment decisions, and
  2. that climate change must be assessed by all companies to determine its business and financial implications and that such current disclosure obligations do not just apply to the energy or carbon intensive industries. For example in the insurance industry, a major US insurer, which insures 1 in 8 homes in the U.S. and reported over $4 billion in losses from Hurricanes Katrina and Rita, did not mention climate change at all in its latest annual filing.

If the assertions of the petition are correct and no new regulation is required, then publicly-traded companies will have less time than had been expected in order to bring their corporate governance procedures and climate change related disclosure into compliance. Additionally, the window for plaintiff and class-action securities litigation maybe opening sooner than had been expected.

A broad coalition of 22 petitioners has formally asked SEC's Division of Corporation Finance to immediately begin "closely scrutinizing the adequacy of registrants' climate disclosures under existing law". This coalition includes US state officials with regulatory and fiscal management responsibility, environmental groups and corporate governance groups. This group of investors appears to have a co-ordinated and aggressive strategy to force enhanced disclosure and corporate governance on these climate change issues. It seems reasonable to expect this expectation of enhanced disclosure to broaden and gain traction in the regulatory and enforcement arenas.

The petition further states that climate change can affect corporate governance and performance in ways ranging from physical damage to facilities and increased costs of regulatory compliance, to opportunities in global markets for climate-friendly products or services that emit little or no carbon. These types of risks, according to the investors’ petition, fall squarely into the category of material information that companies must disclose under existing corporate governance practices and disclosure regulation in order to give shareholders a full and fair picture of corporate performance and operations.

This may require disclosure of the following information:

  1. Physical risks associated with climate change that are material to operations or financial condition;
  2. Legal proceedings relating to climate change;
  3. Financial risks and opportunities associated with present or probable greenhouse gas regulation.

One regulatory impact that deserves consideration is greenhouse gas emission reduction. Regulation may include emission caps and reductions as well as carbon taxes or carbon trading markets. Even companies that do not participate directly in any carbon trading markets will be affected by the price of carbon as it impacts on energy prices and other implications from a carbon-constrained economy. For example under the European Emission Trading Scheme the price of a tonne of carbon has ranged from a high of 31 Euros to a low of 2 Euros, although long term trends are expected to be less volatile. Understanding carbon trading and emission reduction regulatory regimes are expected to be of similar importance as understanding tax implications on a business, as in a carbon-constrained economy it will be a key economic driver of the costs of production.

Business leaders are continuing to appreciate that certain of these changes will be driven by demands from shareholders and the public. For example, in the 2007 proxy season over 45 global warming/climate change resolutions were filed by investors in North America.

For business leaders of companies in carbon-intensive industries such as utilities in regions where coal-fired plants are common place, the implications of this evolving new reality will be realised sooner rather than later. For example the New York AG has recently opened an investigation of five major utility companies regarding whether their plans to build coal-fired power plants pose undisclosed financial risks that should be disclosed to investors. The investigation is based on New York securities law, and appears to be one of the first, if not the first, securities investigation into climate change disclosure by public companies. As part of the investigation, subpoenas were also issued under New York securities laws. The letter stated, "Any one of the several new or likely regulatory initiatives for CO2 emissions from power plants--including state carbon controls, E.P.A.'s regulations under the Clean Air Act, or the enactment of federal global warming legislation--would add significant cost to carbon-intensive coal generation." The letter further stated, "Selective disclosure of favorable information or omission of unfavorable information concerning climate change is misleading."

This petition represents a clear and unambiguous signal from large investors: we consider the analysis of impacts to your business resulting from climate change to be material and we are prepared to engage all of the regulatory tools at our disposal to ensure consistent, timely and appropriate disclosure.

These global examples should be of particular interest to officers and directors of public companies and monitored by Canadian business leaders as a sign of things to come.

Climate change and sustainability have been at the forefront of news over the past year, and pubic pressure for improved environmental stewardship is continuing to mount. The implications of these changes for business and industry are far reaching, and will have a dramatic impact on Canadian business, as legal and regulatory changes related to sustainability and climate are only going to increase.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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