United States: SEC Issues Final Climate Disclosure Rules: Rule's Future Subject To Challenge

After a 3-2 vote on March 6, 2024, the Securities and Exchange Commission (SEC) adopted final rules for public companies requiring disclosure of climate risk and greenhouse gas emissions. Although scaled back substantially from the SEC's March 21, 2022, proposed rules, the final rules will require almost all SEC-reporting companies to provide significant new disclosures in SEC filings and adopt new internal controls and procedures. However, large, multinational corporations that are covered by the California climate reporting regime in Senate Bills 253 and 261 and the European Corporate Sustainability Reporting Directive (CSRD) in addition to the SEC's final rules could be subject to overlapping but sometimes inconsistent reporting requirements. The final rules are subject to challenges that, if successful, could ultimately prevent covered companies from having to comply with final rule requirements. Congress has been preparing a resolution to repeal the rules under the Congressional Review Act (CRA). Both the California program and the SEC climate reporting rules are the subject of active litigation and could be stayed or ultimately overturned.

The SEC's Final Rule

The SEC adopted new provisions of both Regulation S-K (adding a new Item 1500) and Regulation S-X (adding a new Article 14) to require public company disclosure of climate risks, including climate impacts on its business strategy, business model and outlook, governance of climate-related risk management, some greenhouse gas (GHG) emissions metrics, and climate-related targets and goals, if it has adopted any targets or goals. Placement of the new disclosures within a registration statement or annual report on Form 10-K is largely left to the discretion of each registrant and can be placed in a separate identified section of the filing or included in other sections, such as Risk Factors or Management's Discussion and Analysis, as appropriate.

Regulation S-K, Item 1500

Key provisions of new Regulation S-K Item 1500 will require the following disclosures in registration statements and annual reports on Form 10-K.

• Climate-related risks that have materially impacted or are likely to materially impact the registrant, including the registrant's business strategy, results of operations or financial condition must be disclosed. Climate-related risks are defined to include actual or potential negative impacts of climate-related conditions on the registrant's business, results of operations, financial conditions, strategy, business model or outlook. The final rule removed references in the proposed rule to impacts on the registrant's consolidated financial statements or value chain but did add language requiring disclosure of impacts to suppliers, purchasers or counterparties to the extent known or reasonably available.
  
  
• Materiality defined according to traditional definition of materiality to the registrant including whether there is a substantial likelihood that a reasonable investor in the registrant's securities would consider it important when determining whether to buy or sell such securities or how to vote or if such reasonable investor would view the omission as significantly altering the mix of information available with respect to such securities. This approach differs significantly from the "double materiality" approach under the CSRD wherein companies are required not only to consider the impact of climate risks and related developments on the reporting entity but also to consider the impact that the reporting company has on the people and the environment.
  
  
• A transition plan must be disclosed if such a plan has been adopted to manage a material climate risk. The final rule does not require adoption of a transition plan and, in a deviation from the proposed rule, does not describe various types of possible transition plans, but does require disclosure of the steps the registrant proposes to take under any transition plan to address material climate risk.
  
  
• Any scenario analysis used to plan for climate-related risks if the registrant determines, based on the results of the scenario analysis, that a climate-related risk is reasonably likely to have a material impact on its business, results of operations or financial condition, and the disclosure of any internal carbon price if the use of such price is material to how the registrant evaluated and managed a disclosable climate-related risk.
  
  
• Various governance matters, including board oversight of climate-related risks and the process by which the board is informed of such risks, management's role in assessing and managing climate-related risks, and any management process the registrant has for identifying, assessing and managing material climate-related risks.
  
  
• Any climate-related target or goal, including emissions reduction goals that are reasonably likely to materially affect the registrant's business, results of operations or financial condition. Registrants will also be required to disclose the degree to which GHG offsets and renewable energy credits (RECs) are used to achieve such targets to the extent that they make up a material component of the registrant's plan to achieve the target or goal.
  
  
• Aggregate Scope 1 and Scope 2 GHG emissions only and only from large accelerated filers and accelerated filers that are not emerging growth companies or smaller reporting companies. Reporting of emissions is phased in as described in the table below. Smaller reporting companies and emerging growth companies are not required to report Scope 1 and 2 GHG emissions, and no registrant is required to report Scope 3 GHG emissions.¹This is a significant change from the proposed rule and a deviation from the California and European regimes that require reporting of Scope 3 GHG emissions. The final rule also deviates from the proposed rule in that it allows filers to disclose aggregate GHG emissions rather than emissions of each individual GHG. To the extent required, Scope 1 and 2 GHG emissions disclosure can be included in a registrant's Form 10-K, may be incorporated by reference from a registrant's Form 10-Q for the second fiscal quarter in the fiscal year immediately following the year to which the GHG emissions disclosure relates or may be included in an amended annual report on Form 10-K no later than the due date for such Form 10-Q.
  
  
• Large accelerated filers and accelerated filers that are not emerging growth companies or smaller reporting companies will require attestation reports from experts in GHG emissions, phased in at the limited assurance level and the reasonable assurance level as indicated in the table below, covering the Scope 1 and 2 GHG emissions disclosure. The provider of an attestation report must be an expert in GHG emissions by virtue of having significant experience in measuring, analyzing, reporting or attesting to GHG emissions and be independent with respect to the registrant, and any of its affiliates, for whom it is providing the attestation report, during the attestation and professional engagement period. The form and content of attestation reports must follow the requirements set forth in the attestation standards used by the attestation provider, are subject to the same extended deadlines described above with respect to the Scope 1 and 2 GHG emissions disclosure and should accompany the report in which the Scope 1 and 2 GHG emissions disclosure is included.

• The final rule includes a safe harbor provision stating that many disclosures made pursuant to the final rule (other than known historic facts) are "forward looking statements" for purposes of the Private Securities Litigation Reform Act²(PSLRA) and applies PSLRA safe harbors to issuers to which the PSLRA may not otherwise apply, such as IPO registrants or SPACs. Notably, the final rule does not extend the PSLRA safe harbor to Scope 1 and 2 GHG emissions disclosures.

Regulation S-X Article 14

The final rule adds a new Article 14 of Regulation S-X that requires the disclosure in notes to financial statements in any filing that is subject to the requirements under Item 1500 above and required to include audited financial statements (i.e., not Quarterly Reports on Form 10-Q) of (i) the capitalized costs, expenditures expensed, and charges and losses incurred as the result of severe weather events and other natural conditions and (ii) if the registrant has used carbon offsets or RECs as a material part of its transition plan, certain information related to carbon offsets and RECs. Registrants must also disclose where on the balance sheet and income statement these capitalized costs, expenditures expensed, and charges and losses appear. Registrants must disclose expenditures expensed as incurred and losses that exceed 1% of the absolute value of income or loss before income tax expense or benefit and capitalized costs and charges that exceed 1% of the absolute value of stockholders' equity or deficit. Filings subject to Item 1500 must include these financial statement disclosures even if the registrant does not disclose any items under Item 1500.

The final rule does not require registrants to determine if a severe weather event or other natural condition is climate-related; instead, registrants must determine what constitutes a severe weather event or other natural condition. This determination is company-specific and should take into consideration the registrant's location and historical experience and the financial impact of the event on the registrant.

Deviating from the proposed rule, the final rule does not require the disclosure of financial impact metrics due to climate change, including changes in revenue due to disruptions of business operations. However, Article 14 will apply to emerging growth companies and smaller reporting companies.

Effective Date and Compliance Dates

The final rule becomes effective 60 days after publication in the Federal Register, and compliance with the final rule is phased in as reflected in the table below. Dates in the table refer to the year for which disclosure relates. By way of example, the first disclosures for large accelerated filers with a Jan. 1 – Dec. 31 fiscal year will apply to the fiscal year 2025 Form 10-K filed in early 2026:

Challenges

House Republicans began drafting a CRA resolution to repeal the final rule before it was published. Senate Republicans are working on a similar proposal. If both houses of Congress pass and the president signs a joint CRA resolution or if Congress successfully overrides a presidential veto, then not only would the final rule be rescinded but the SEC would be prevented from re-promulgating the rule or any substantially similar rule without specific authorization in a law enacted after approval of the joint resolution.

The SEC significantly scaled back the final rule from the proposed rule in a number of areas in response to commenters and included in the final rule publication an extensive discussion of the legal justification for the rule. The two dissenting commissioners released dissenting statements questioning, among other things, the SEC's authority to adopt the final rule. As of today, Republican state attorney's general, business interests and environmental groups have filed at least nine lawsuits before six different circuit courts of appeal. In an unpublished order dated March 15, 2024, the three-judge panel of the Fifth Circuit Court of Appeals assigned to hear a case brought by energy industry interests and three states granted the plaintiff's request for an administrative order to stay the rule. Because petitions challenging the rule have been filed in multiple circuits, the Judicial Panel on Multidistrict Litigation will randomly designate one court of appeals to hear the challenge. The designated court may then modify, revoke or extend any stay ordered by a prior court. If the litigants ultimately succeed on the merits, the obligation to comply with this ambitious SEC disclosure scheme could be further postponed if not undone entirely.

Conclusion

Although significantly scaled back from the proposed rule, the SEC final rule imposes significant reporting requirements on companies that file reports with the SEC, is likely to impose significant costs on reporting companies and will likely require reporting companies to create and implement new internal controls and procedures to ensure compliance with the final rule. The reporting requirements are in addition to the patchwork for reporting and management requirements in California and Europe. However, because of potential congressional action and ligation challenging the California and SEC rules, it is unclear when or if companies will ultimately be required to comply with these rules.

Footnotes

1. EPA defines Scope 1 emissions as direct GHG emissions from sources owned or controlled by the reporting company. Scope 2 GHG emissions are indirect emissions associated with the purchase of electricity or other utilities such as steam, heat or cooling. Scope 3 emissions are indirect GHG emissions from assets not owned or controlled by a reporting company but that are emitted in a reporting company's value chain, including suppliers and customers. See https://www.epa.gov/climateleadership/scope-1-and-scope-2-inventory-guidance and https://www.epa.gov/climateleadership/scope-3-inventory-guidance.

2. 15 U.S.C. §78u-4.

3. All dates in this table refer to any fiscal year beginning in the listed calendar year. This table is derived from a similar table in "Fact Sheet: The Enhancement and Standardization of Climate-Related Disclosures: Final Rules," published by the SEC.

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