United States: SEC Adopts Climate Risk Disclosure Rules

On March 6, the SEC adopted long-awaited rules requiring registrants to provide certain climate-related information in their registration statements and annual reports.¹ Although the final rules include more relaxed disclosure requirements than originally proposed, they still require extensive disclosure of (1) information about a registrant's material climate-related risks; (2) the governance and management of such risks; (3) disclosure, when material, of a registrant's greenhouse gas (GHG) emissions for accelerated filers (AF) and large accelerated filers (LAFs); and (4) specified disclosures related to severe weather events and other natural conditions in a note to a registrant's audited financial statements. The adopting release notes that the new requirements will provide "more complete and decision-useful information about the impacts of climate-related risks on registrants, improving the consistency, comparability, and reliability of climate-related information for investors." The new rules are meant to augment the SEC's 2010 interpretative guidance on climate-related disclosures, which directs registrants to consider whether climate-related risks must be disclosed in the Description of Business, Risk Factors, Legal Proceedings, and/or MD&A portions of their filings. The rules are modeled in part on the Task Force on Climate Related Financial Disclosures framework and the GHG Protocol's concepts of scopes and related methodology, and are summarized below.

Applicability

The rules, which create new subpart 1500 of Regulation S-K and Article 14 of Regulation S-X, apply to registrants with Exchange Act Section 13(a) or Section 15(d) reporting obligations (including foreign private issuers using Form 20-F), and companies filing a Securities Act or Exchange Act registration statement. However, the rules do not apply to Canadian 40-F filers under the Multijurisdictional Disclosure System or asset-backed issuers, and the section of the rules on emissions disclosures described below do not apply to smaller reporting companies (SRCs) or emerging growth companies (EGCs). The new disclosures will be treated as "filed," and are therefore subject to potential liability under Exchange Act Section 18 (other than disclosures furnished on Form 6-K), as well as potential Securities Act Section 11 liability if included in, or incorporated by reference into, a Securities Act registration statement.

Key Modifications From the Proposal

The final rules reflect a number of significant modifications from the original proposal, including the following:

• Generally adopting a less prescriptive approach to certain of the mandated disclosures
• Including materiality qualifiers for certain climate-related disclosures, including disclosures regarding the impacts of climate-related risks, use of scenario analysis, and maintained internal carbon price
• Eliminating the proposed requirement to describe board members' climate expertise
• Eliminating the proposed requirement to provide Scope 3 emissions disclosure
• Requiring Scope 1 and Scope 2 emissions disclosure only for LAFs and AFs, and only when those emissions are material, permitting such disclosure on a delayed basis, and exempting SRCs and EGCs from these disclosure requirements
• Modifying the proposed assurance requirement for AFs and LAFs by extending the reasonable assurance phase-in period for LAFs and requiring only limited assurance for AFs
• Removing the proposed requirement to disclose the impact of severe weather events and other natural conditions and transition activities on each line item of a registrant's consolidated financial statements
• Narrowing the required financial statement note disclosure
• Extending a safe harbor from private liability for forward-looking disclosures pertaining to a registrant's transition plan, scenario analysis, internal carbon pricing, and targets and goals
• Eliminating the proposal to require a private company that is a party to a business combination transaction registered on Forms S-4 or F-4 to provide the subpart 1500 and Article 14 disclosures
• Eliminating the proposed requirement to disclose any material change to the climate-related disclosures provided in a registration statement or annual report in a Form 10-Q (or, in certain circumstances, Form 6-K for foreign private issuers)
• Extending certain phase in periods

Climate-Related Disclosure

Definitions

Climate-related risks are the actual or potential negative impacts of climate-related conditions and events on a registrant's business, results of operations, or financial condition. Climate-related risks include physical risks, acute risks, chronic risks, and transition risks. Physical risks include both acute risks and chronic risks to the registrant's business operations. Acute risks are event-driven and may relate to shorter-term severe weather events, such as hurricanes, floods, tornadoes, and wildfires, among other events. Chronic risks relate to longer-term weather patterns, such as sustained higher temperatures, sea level rise, and drought, as well as related effects such as decreased arability of farmland, decreased habitability of land, and decreased availability of fresh water. Transition risks are the actual or potential negative impacts on a registrant's business, results of operations, or financial condition attributable to regulatory, technological, and market changes to address the mitigation of, or adaptation to, climate-related risks, including such nonexclusive examples as increased costs attributable to changes in law or policy, reduced market demand for carbon-intensive products leading to decreased prices or profits for such products, the devaluation or abandonment of assets, risk of legal liability and litigation defense costs, competitive pressures associated with the adoption of new technologies, and reputational impacts (including those stemming from a registrant's customers or business counterparties) that might trigger changes to market behavior, consumer preferences or behavior, and registrant behavior.

GHG emissions are direct and indirect emissions of greenhouse gases expressed in metric tons of carbon dioxide equivalent (CO₂e). Direct emissions are GHG emissions from sources that are owned or controlled by a registrant. Indirect emissions are GHG emissions that result from the activities of the registrant but occur at sources not owned or controlled by the registrant.

Greenhouse gases are carbon dioxide (CO₂); methane (CH₄); nitrous oxide (N₂O); nitrogen trifluoride (NF₃); hydrofluorocarbons (HFCs); perfluorocarbons (PFCs); and sulfur hexafluoride (SF₆).

RECs are renewable energy credits or certificates representing each megawatt-hour (1 MWh or 1,000 kilowatt-hours) of renewable electricity generated and delivered to a power grid.

Scope 1 emissions are direct GHG emissions from operations owned or controlled by a registrant; Scope 2 emissions are indirect GHG emissions from the generation of purchased or acquired electricity, steam, heat, or cooling that is consumed by operations owned or controlled by a registrant.

Transition plan is a registrant's strategy and implementation plan to reduce climate-related risks, which may include a plan to reduce its GHG emissions in line with its own commitments or commitments of jurisdictions within which it has significant operations.

Governance — S-K Item 1501 requires descriptions of:

• (1) The board's oversight of climate-related risks; (2) any applicable board committee/subcommittee responsible for such oversight; (3) the processes by which the board or such committee/subcommittee is informed about such risks; and (4) if there is a disclosed climate-related target, goal, or transition plan, whether and how the board oversees progress against the target, goal, or transition plan
• Management's role in assessing and managing the registrant's material climate-related risks (including responsible positions or committees and relevant expertise, and assessment and management processes)

Strategy — S-K Item 1502 requires descriptions of:

• Any climate-related risks that have materially impacted or are reasonably likely to have a material impact on the registrant, including on its strategy, results of operations, or financial condition,² and whether such risks are reasonably likely to manifest in the short term (12 months) and separately in the long term (beyond 12 months)
  
  • Disclosure must include whether the identified risk is a physical (acute or chronic) or transition risk.
  • For physical risks, registrants must disclose the geographic location and nature of the properties, processes, or operations subject to the risk.
  • For transition risks, registrants must disclose whether they relate to regulatory, technological, market, or other transition-related factors, and how those factors impact the registrant.³
• The actual and potential material impacts of any identified climate-related risk on the registrant's strategy, business model, and outlook, including any material impacts on the following non-exclusive list of items: business operations; products and services; contract counterparties; activities to mitigate or adapt to climate-related risks; research and development expenditures; and any other significant changes or impacts
  
  • Disclosure must include whether and how the registrant considers any such impacts as part of its strategy, financial planning, and capital allocation.
  • Disclosure must include how any identified climate-related risks have materially impacted or are reasonably likely to materially impact the registrant's business, results of operations, or financial condition.
  • Quantitative and qualitative material expenditures incurred and material impacts on financial estimates and assumptions that, in management's assessment, directly result from disclosed activities to mitigate or adapt to climate-related risks are required to be disclosed (Item 1502(d)(2)).⁴
• Any transition plan adopted to manage a material transition risk
  
  • Registrants must update their annual report disclosure each fiscal year by describing any actions taken during the year under the plan, including how such actions have impacted the registrant's business, results of operations, or financial condition.
  • Registrants must include quantitative and qualitative disclosure of material expenditures incurred and material impacts on financial estimates and assumptions as a direct result of the transition plan (1502(e)(2)).⁵
• If a scenario analysis is used, and based on the results the registrant determines that a climate-related risk is reasonably likely to have a material impact on its business, results of operations, or financial condition, the registrant must provide specified details with respect to each such scenario (including parameters, assumptions, and analytical choices used).
• If a registrant's use of an internal carbon price is material to how it evaluates and manages an identified climate-related risk, specified details must be provided (including price information).

Risk Management — S-K Item 1503 requires descriptions of:

• The registrant's processes for identifying, assessing, and managing material climate-related risks and whether any such processes are integrated into its overall risk management system or processes
• How the registrant decides whether to mitigate, accept, or adapt to the particular risk, and how it prioritizes whether to address the climate-related risk

Targets and Goals — S-K Item 1504

• This item requires disclosure of any climate-related target or goal if such target or goal has materially affected or is reasonably likely to materially affect the registrant's business, results of operations, or financial condition, including (1) the scope of activities included; (2) the unit of measurement; (3) the defined time horizon for intended achievement of the target, and whether the time horizon is consistent with one or more goals established by a climate-related treaty, law, regulation, policy, or organization; (4) the defined baseline time period (if established) and how progress will be tracked; and (5) how the registrant intends to meet its climate-related targets or goals. This is intended to help investors understand the costs associated with pursuing these objectives as well as the benefits associated with achieving them.
  
  • Registrants must disclose any progress made toward meeting the target or goal and how any such progress has been achieved.
  • Registrants must describe any material impacts to their business, results of operations, or financial condition as a direct result of the target or goal or the actions taken to make progress toward achievement.
  • Registrants must include quantitative and qualitative disclosure of material expenditures and impacts on financial estimates and assumptions as a direct result of the target or goal, or the actions taken to make progress toward achievement (1504(c)(2)).⁶
• If carbon offsets or RECs are a material component of a registrant's plan to achieve climate-related targets or goals, specified disclosure is required, including the amount of carbon avoidance, reduction or removal represented by the offsets or the amount of generated renewable energy represented by the RECs, the nature and source of the offsets or RECs, a description and location of the underlying projects, any registries or other authentication of the offsets or RECs, and their cost.

GHG Emissions Metrics — S-K Item 1505 requires:

⁷

• For LAFs and AFs, separate disclosure of Scope 1 and Scope 2 GHG emissions, if such emissions are material, for their most recently-completed fiscal year, and to the extent previously disclosed in an SEC filing, for the historical fiscal year(s) included in their consolidated financial statements in the applicable filing, expressed (1) in the aggregate, in terms of CO₂e; (2) if any constituent gas is individually material, disaggregated from the other gases; and (3) in gross terms by excluding the impact of any purchased or generated offsets
  
  • Registrants must include the methodology, significant inputs, and significant assumptions (including organizational and operational boundaries, and the protocol or standard used).
  • Reasonable estimates may be used as long as underlying assumptions and rationale are disclosed.
  • GHG emissions metrics required to be disclosed in a registrant's annual report on Form 10-K may instead be included in, and incorporated by reference from, the registrant's Form 10-Q for the second fiscal quarter in the fiscal year immediately following the year to which the GHG emissions metrics disclosure relates, or may be included in an amended Form 10-K no later than the due date for such Form 10-Q (for foreign private issuers, such information may be disclosed in an amendment to its annual report on Form 20-F due no later than 225 days after the end of the fiscal year to which the GHG emissions metrics disclosure relates). In the case of registration statements, any GHG emissions metrics required to be disclosed must be provided as of the most recently completed fiscal year that is at least 225 days prior to the date of effectiveness of the registration statement.

Attestation for Scope 1 and Scope 2 Emissions Disclosure — S-K Item 1506

⁸

• Registrants that are required to provide Scope 1 and/or Scope 2 emissions disclosure must include, in the relevant filing, an independent third-party attestation report.
  For filings made by LAFs and AFs beginning the third fiscal year after the relevant compliance date for disclosure of GHG emissions (described below), the attestation engagement must, at a minimum, be at a limited assurance level.
• For filings made by an LAF beginning the seventh fiscal year after the compliance date for disclosure of GHG emissions, the attestation engagement must be at a reasonable assurance level.⁹
• The rules provide minimum attestation report requirements, minimum standards for acceptable attestation frameworks, and that the attestation service provider meet certain minimum qualifications.
• The attestation service provider is not required to be a registered public accounting firm.
• A letter from the attestation provider that acknowledges its awareness of the use in certain registration statements of any of its reports which are not subject to the consent requirement of Securities Act Section 7.1 is required.¹⁰
• LAFs and AFs must include additional specified disclosures, based on relevant information obtained from any GHG emissions attestation provider, including: (1) whether such provider is subject to any oversight inspection program; (2) whether a provider that was previously engaged to provide attestation over the registrant's GHG emissions disclosure for the fiscal year period covered by the attestation report resigned (or indicated that it declined to stand for re-appointment after the completion of the attestation engagement) or was dismissed; and (3) whether there were (and if so, a description of) any disagreements with the former provider.
• The attestation report and related disclosure must be included in the filing that contains the GHG emissions disclosure to which the report and disclosure relate. However, if a registrant elects to incorporate by reference its GHG emissions disclosure from its Form 10-Q for the second fiscal quarter in the fiscal year immediately following the year to which the GHG emissions disclosure relates or to provide this information in an amended Form 10-K or Form 20-F, then the registrant must include an express statement to such effect.

Safe Harbor for Certain Climate-Related Disclosures — S-K Item 1507

The rules provide a safe harbor for specified forward-looking information required by the rules (pertaining to forward-looking statements with respect to a registrant's transition plan, scenario analysis, internal carbon pricing, and targets and goals).

Financial Statement Requirements (S-X Article 14)

Article 14 of Regulation S-X requires the disclosures described below in any filing that is required to include Regulation S-K 1500 disclosure which also includes audited financial statements; disclosure must be provided for the registrant's most recently completed fiscal year, and to the extent previously disclosed or required to be disclosed, for the historical fiscal years for which audited consolidated financial statements are included in the filing. These disclosures will be required to be included in a note to the financial statements, and therefore will be (1) included in the scope of any required audit, (2) subject to audit by an independent registered public accounting firm, and (3) within the scope of the registrant's internal control over financial reporting.

• The aggregate amount of expenditures expensed as incurred and losses, excluding recoveries, incurred during the fiscal year as a result of severe weather events and other natural conditions, such as hurricanes, tornadoes, flooding, drought, wildfires, extreme temperatures, and sea level rise (separately identifying where the expenditures expensed as incurred and losses are presented in the income statement)
  
  • Disclosure is required if the aggregate amount of expenditures expensed as incurred and losses equals or exceeds 1% of the absolute value of income or loss before income tax expense or benefit for the relevant fiscal year (unless such amount is less than $100,000).
• The aggregate amount of capitalized costs and charges, excluding recoveries, incurred during the fiscal year as a result of severe weather events and other natural conditions, such as hurricanes, tornadoes, flooding, drought, wildfires, extreme temperatures, and sea level rise (separately identifying where the capitalized costs and charges are presented in the balance sheet)
  
  • Disclosure is required if the aggregate amount of the absolute value of capitalized costs and charges equals or exceeds 1% of the absolute value of stockholders' equity or deficit at the end of the relevant fiscal year (unless such amount is less than $500,000).
• If carbon offsets or RECs have been used as a material component of a registrant's plans to achieve its disclosed climate-related targets or goals, registrants must disclose specified information relating thereto.
• If an event or condition is a significant contributing factor in incurring a cost, expenditure, charge, loss, or recovery, then the entire amount must be included in the disclosure.
• The disclosure must include contextual information, describing how each specified financial statement effect disclosed was derived, including significant inputs, assumptions and judgments, other information that is important to understand the financial statement effect, and, if applicable, policy decisions made to calculate the specified disclosures.
• Registrants must state separately the aggregate amount of any recoveries recognized during the fiscal year as a result of severe weather events and other natural conditions for which capitalized costs, expenditures expensed, charges, or losses are disclosed.
• Registrants must disclose whether the estimates and assumptions used to produce the consolidated financial statements were materially impacted by exposures to risks and uncertainties associated with, or known impacts from, severe weather events and other natural conditions, such as hurricanes, tornadoes, flooding, drought, wildfires, extreme temperatures, and sea level rise, or any climate-related targets or transition plans disclosed by the registrant.

Presentation of the Required Disclosures

• The climate-related disclosures (except for emissions disclosures which are described above) must be presented in the body of the registration statement or annual report, in a separately captioned "Climate-Related Disclosure" section.
• Registrants are permitted to incorporate the required disclosures by reference from other parts of the registration statement or annual report, or other filed documents (subject to applicable incorporation by reference requirements).
• Registrants are not required to include the attestation report in the separately captioned "Climate-Related Disclosure" section, but may do so.
• Disclosures must be tagged in Inline XBRL.

Phase-In Periods

The rules become effective 60 days after publication in the Federal Register, and include a phase-in for all registrants, with the compliance date dependent on the registrant's filer status.

The following table summarizes the phased in compliance dates of the final rules, both for subpart 1500 of Regulation S-K and Article 14 of Regulation S-X. The compliance dates in the table apply to both annual reports and registration statements; in the case of registration statements, compliance would be required beginning in any registration statement that is required to include financial information for the full fiscal year indicated in the table below.

For example, an LAF with a January 1 fiscal-year start and a December 31 fiscal year-end date will not be required to comply with the climate disclosure rules (other than those pertaining to GHG emissions and those related to Item 1502(d)(2), Item 1502(e)(2), and Item 1504(c)(2), if applicable) until its Form 10-K for fiscal year ended December 31, 2025, due in March 2026. If required to disclose its Scope 1 and/or Scope 2 emissions, such a filer will not be required to disclose those emissions until its Form 10-K for fiscal year ended December 31, 2026, due in March 2027, or in a registration statement that is required to include financial information for fiscal year 2026. Such emissions disclosures would not be subject to the requirement to obtain limited assurance until its Form 10-K for fiscal year ended December 31, 2029, due in March 2030, or in a registration statement that is required to include financial information for fiscal year 2029. The registrant would be required to obtain reasonable assurance over such emissions disclosure beginning with its Form 10-K for fiscal year ended December 31, 2033, due in March 2034, or in a registration statement that is required to include financial information for fiscal year 2033. If required to make disclosures pursuant to Item 1502(d)(2), Item 1502(e)(2), or Item 1504(c)(2), such a filer will not be required to make such disclosures until its Form 10-K for fiscal year ended December 31, 2026, due in March 2027, or in a registration statement that is required to include financial information for fiscal year 2026.

Internal Control Over Financial Reporting and Disclosure Controls and Procedures

As a result of these mandated climate-related disclosures, both within and outside of the financial statements, registrants will need to ascertain whether their internal controls and disclosure controls and procedures need to be updated (or new controls developed) to comply with the new rules. Companies should coordinate with their internal audit personnel to ensure the implementation of robust controls that govern the collection and verification of required data related to the governance of climate-related risks, risk management and strategy, targets and goals, emissions metrics, and financial statement note requirements.

Dissents

SEC Commissioners Hester M. Peirce and Mark T. Uyeda each issued strongly-worded dissenting statements on the final rule. Commissioner Peirce objected to a rule that "replaces our current principles-based regime with dozens of pages of prescriptive climate-related regulations." Ms. Peirce further stated that the new rules will prove costly to public companies, and that the "resulting flood of climate-related disclosures will overwhelm investors, not inform them." Commissioner Uyeda expressed similar concerns regarding the expense and unnecessary focus of the new rules, stating that "by forcing companies to spend more time and resources on climate discussions, the Commission creates the risk that companies may ignore or not pay enough attention to other matters that could have greater and more immediate impacts." In a pointed criticism of the final rules, he noted that "... not one dime of money spent on compliance will be used for actual reductions in GHG emissions, and that shareholders will be footing this bill." Both Commissioner Peirce and Uyeda also noted concerns over whether the SEC had the authority to adopt the rules, and stated that they should have been re-proposed due to the consequential differences from the original proposal.

Challenges

Notwithstanding that the final rule is less onerous than the proposal, it is already facing legal and legislative challenges, and in an extraordinary twist, the challenges may come from both sides. Ten states are suing the SEC alleging that "the final rule exceeds the agency's statutory authority and otherwise is arbitrary, capricious, an abuse of discretion, and not in accordance with law." In addition, certain congressional Republicans are preparing to challenge the rule under the Congressional Review Act, which, under specified circumstances, enables Congress to disapprove a final rule issued by a federal agency. On the other side, climate groups such as the Sierra Club and Earthjustice are reportedly considering bringing actions against the SEC alleging that the final rule inadequately protects investors.

Interface With California's Climate Disclosure Law and EU Climate Reporting Requirements

Last fall, Governor Gavin Newsom signed the Climate Corporate Data Accountability Act, which requires public and private entities doing business in California with more than US$1 billion in revenue to report Scope 1, Scope 2, and Scope 3 emissions. (For more detail, see our Advisories on the legislation and the Governor's signing messages.) The SEC's adoption of rules, weaker by comparison to the California law, has spurred conversation and activity in California regarding the state's implementation of the law. Many expect the law could be amended in light of the Governor's signing message, which expressed concerns about implementation deadlines and the specified reporting protocol. Proponents of the California law, including State Senator Scott Wiener, Chair of the State Senate Budget Committee and author of the bill, now see timely implementation of the California law as currently written — to include Scope 3 emissions reporting — as even more critical in light of the SEC's adopted rule.

Notably, the Governor's proposed budget for 2024-2025 does not include funding to implement the Climate Corporate Data Accountability Act. Should the final budget package not include funding to implement the California law, the California Air Resources Board is unlikely to meet the January 1, 2025 deadline to adopt implementing regulations. Until the law is amended, however, companies will still be required by law to begin reporting Scope 1 and Scope 2 emissions beginning in 2026, and Scope 3 emissions beginning in 2027. Those disclosures, including the Scope 3 emissions disclosures that are not required by the SEC rule, could expose public companies doing business in California to liability under the federal securities laws if they contain material misstatements or omissions.

Similarly, public companies that are subject to regulation in the EU may be subject to more burdensome climate-related disclosure requirements under EU law, including the Corporate Sustainability Reporting Directive. It will be an ongoing exercise for public companies doing business in California and/or in the EU to navigate the differences in climate-related reporting requirements — more onerous standards in other jurisdictions may put issuers in the tough position of having to disclose more information than would be required under the SEC rules.

Footnotes

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