Everything you need to know about the new SEC rules

The Securities and Exchange Commission, US financial watchdog,  is about to implement a new regulation apparatus on climate-related risk disclosure. The new rules are set to come into force by the end of 2022. Companies listed in the US – including foreign companies – will be required to disclose information on their climate-related risks and impacts, to help responsible investors navigate. This major regulatory breakthrough illustrates the return of the American government into the Paris Agreement. Codo summarizes what you should know about it. 

Where does this new rule come from? 

Already in 2010, the Securities and Exchange Commission (SEC) guidance already included issues related to climate change in its disclosure protocols. Onwards, Europe took the lead in terms of non-financial reporting directives including environmental matters (2014), closely followed up by the Task Force on Climate-Related Financial Disclosures (TCFD) established in 2015 by the International Financial Stability Board. More recently, the EU came up with new initiatives, such as the Green Taxonomy, a milestone in bringing more transparency to corporate environmental claims. 

The SEC’s proposal on climate-related risk (CRR) disclosure also represents a significant rule change: after years of limited ambitions under the Trump administration, the world’s largest economy’s financial regulator is finally tackling climate change, including the fight against greenwashing. The agency started in early 2021 to highlight climate action as a hot topic, among other ESG issues. This administration-led initiative also came at a time when companies were ready to accept it: more than 75% of companies involved in the consultations supported the final proposal. 

Why is it a big rule change? 

The purpose of the SEC’s proposal is to make ESG reporting more formalized, with a focus on the “E” part and more specifically climate. Investors will be able to access consistent and comparable information and better evaluate a registrant’s vulnerability to climate change, as well as its contribution to it. 

In concrete terms, the SEC will require all listed companies in the US to measure and disclose their climate-related risks, covering both the impacts of the company on climate change and the financial risks that climate change represents for the company. This “double materiality” principle is also adopted by the EU in its upcoming Corporate Sustainability Reporting Directive (CSRD). 

Such requirements are in many aspects different from classic financial reporting. Firms will be required to care for things that are arguably beyond their immediate control scope: while, unfortunately, no company can by its sole actions stop climate change, all can be expected to be taking action to limit their contribution. Beyond quantitative data provision, firms will also be expected to follow a qualitative narrative, including programs and commitments. Beyond financial stability metrics, firms will also be asked to think about their resilience in a prospective manner and to position themselves accordingly. 

What companies, what timeline? 

• All US-listed companies, domestic and foreign, will have to comply. This represents around 7000 companies belonging to the largest stock market in the world ( $34 trillion, about 40% of global capitalization) 

• Each year, reporting will be required for the current fiscal year and two prior years 
• Greenhouse gases reporting shall cover all emissions – Scopes 1, 2, and 3. 

• Smaller companies may be exempted from Scope 3 reporting 

• Reporting shall be done from January 2023, with a transition period (around 1-2 years) for more complex data such as Scope 3 information. 

How will Japanese companies be impacted? 

The 17 major Japanese companies registered with the SEC, such as Canon, Hitachi, and Honda Motor, will be directly impacted by the new requirements. They will have to disclose climate-related information on their global activities. Investors will be able to compare them with any other US-listed company. 

In addition, indirectly impacted will be Japanese suppliers of US-listed companies, who will be asked to provide information about their own emissions, as their US-listed clients will need it for their own scope 3 reporting. Besides these companies, Japanese investors and asset managers dealing with US securities will be able to use the disclosed information to better align their investment decisions with their own climate goals. 

More generally, this new regulation in the US is part of a global trend towards more transparency from firms on climate impacts and risks. A growing number of markets will have similar rules in the future, thus raising the level of exposure of Japanese companies operating globally. 

What shall be disclosed?  

• Financial statement: climate-related events or transition activities financial impact metrics (quantitative), expenditure metrics (quantitative), financial estimates and assumptions (quantitative), financial statement audit  

• GHG emissions disclosure (quantitative): scopes 1 and 2 (progressively after 2 years of implementation) disclosed by disaggregated constituent GHG and aggregated in absolute and intensity terms excluding offsets, scope 3 (if “material or part of targets” is under a phased transition), methodologies and significant assumptions, data gaps  
• Other disclosures: governance and risk management processes (qualitative), physical and transition risks (qualitative), targets and any transition plan (qualitative), scenario analysis if used (qualitative), carbon offsets if used, and internal carbon pricing if established. 

The latter point should not be overlooked. Boards are already strongly questioned on their integration of climate-related risks in the company’s business strategy, and managers’ decision-making is increasingly scrutinized on the significance of these risks. Whether or not a company has a proper transition plan, supported in its implementation by solid governance, will be a key indicator of its credibility towards its climate goals. 

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