Mandatory climate risk disclosures are coming - what US companies need to know

Managing climate-related risk exposure has been on the rise as the impacts of climate change are increasingly recognized as having real and present financial consequences. Some of the world’s largest investors and asset managers are responding to climate-related investment risks by setting net zero greenhouse gas (GHG) targets for their portfolios. As one example of this trend, the Net Zero Asset Managers initiative, founded in December 2020, already has over 273 signatories collectively representing $61.3 trillion in assets under management. Signatories have committed to work toward net zero GHG emissions in their own organizations and the assets they managed by 2050 or sooner, with interim targets for 2030. Similarly, the Net-Zero Asset Owner Alliance has 73 asset owners representing $10.6 trillion among its members committed to achieving net-zero GHG emissions in their investment portfolios by 2050, with intermediate targets every 5 years. But investors have run into the same problem raised by other stakeholders in recent years: voluntary climate-related disclosures by companies, where they exist, can be inconsistent, incomparable, and unreliable. The US Securities and Exchange Commission (SEC) recently responded to this problem by issuing a proposed rule to mandate a sweeping set of climate-related disclosures. When finalized this year, companies may need to act as soon as next year, collecting the relevant data in FY23 for filing in FY24 (with a one-year phase-in period for compliance for smaller companies).

Under the SEC’s proposed rule, climate change must be explicitly considered within a variety of sections across a company’s annual filings, and climate-related disclosures will be both qualitative and quantitative in nature. All registrants must annually disclose: - Actual or likely material impacts of climate change on business, strategy, and outlook; - Board and management’s climate-related risk management processes; - Impact of climate-related events on the line items of financial statements; - Targets and metrics used to manage climate-related risks and transition plan, if any; and - GHG emissions within the company’s own operations (“Scope 1” and “Scope 2”, per the GHG Protocol); and - Indirect GHG emissions from upstream and downstream activities in the registrant’s value chain (“Scope 3”), if material or if the registrant has set a GHG emissions target that includes Scope 3.

The SEC’s proposal is part of a global trend towards mandatory climate-related disclosures. Singapore was ahead of the curve, establishing a requirement back in 2016 for companies on the Singapore Exchange to develop annual sustainability reports in line with the Task Force on Climate-related Financial Disclosures (TCFD).

In the past few years, the number of jurisdictions enacting similar requirements has continued to rise. Notably, the EU has new legislation under the Corporate Sustainability Reporting Directive that requires all large companies to publish regular reports on their environmental impact including contribution to climate goals.

Recognizing the need for standardization globally, in 2021, the International Financial Reporting Standards board (IFRS), the standard-setter for financial accounting in more than 144 countries, created the International Sustainability Standards Board (ISSB). ISSB published draft standards for general sustainability-related and specific climate-related disclosure requirements in March 2022 with final versions expected by the end of this year. Once finalized, any country may choose to require the ISSB’s standard. All of these enacted and proposed disclosure rules, albeit with slight differentiation in the details, address the same topics of climate risk identification, impact, governance, and GHG emissions. The takeaway is that companies in the US and their subsidiaries globally have fast-approaching requirements to demonstrate to investors that they are managing climate risk, if not actively contributing to the transition to a low-carbon economy.

The implications of these new disclosure requirements are significant and raise many questions for companies globally.

For focus, let’s consider 4 areas where you would need to address key questions. 1. How have you assessed your physical and transition climate risks? What impact do they have on your financials? You will need to perform a preliminary analysis and, under best practices, apply various applicable climate scenarios to determine the implications of possible future scenarios on corporate strategy.

2. Does your governance structure adequately oversee and manage climate risks?

You will need to determine your internal capabilities for long-term tracking and reporting of climate risks in line with regulatory requirements – and assure investors that these risks are properly managed.

3. Have you determined your technical capacity to measure and report GHG emissions, subject to external assurance?

You will need to integrate auditable GHG emissions measurement and quantification into annual reporting processes.

4. Have you set future-proof climate targets?

Do you have a strategy and roadmap to reach them? While optional under the SEC rule, a GHG reduction target and strategy positions the company for success and sends the best signal to investors. The target defines the company’s ambition, and the strategy lays out the initiatives that can be used to meet the target and prioritizes those initiatives based on return and feasibility. > Join webinar on the SEC requirements and learn more. The specifics of the proposed disclosures are subject to change before final language is published, but companies can expect to need to be able to discuss identified climate-related risks, the impact of those risks, risk governance, GHG emissions, and corporate strategy in a robust way year over year. Even privately held companies should be preparing for data and information requests along these lines, as lenders, investors, and listed customers seek to prepare their own thorough disclosures.

Preparing for the proposed disclosure rules can promote value creation. We know that good disclosure lowers the cost of doing business because the market values transparency and access to information. When it comes to long-standing financial disclosure rules and expectations, better financial tracking and analysis has also led to more informed financial decisions within companies. Similarly, if done correctly, performing the assessments necessary to provide the required climate disclosures will create better forecasts of and identify potential reductions in CapEx/OpEx costs, reduce unexpected future costs associated with climate policies or physical events, and improve understanding of opportunities for growth into new markets, among other benefits. For example, as demand grows for low-carbon options, shifting focus in your product development process now to invest in a more resource-efficient, sustainable offering can capture greater market share through differentiation and/or allow you to be the leader in new markets, while bringing your own input costs down. To add further benefits, identifying strategic opportunities and then communicating how your company is pursuing them can impact external sustainability ratings, leading to inclusion in major sustainability-oriented indices and improved capital market perception and access across the board. Ramboll Management Consulting is actively monitoring how the details develop in the final SEC rule and disclosure regimes globally; in the meantime, we are helping our clients prepare by proactively managing climate-related risks and pursuing the opportunities presented by the transition.