Taking Stock of the SEC’s Ambitious Climate Agenda

Now that the financial services industry has had some time to digest the 500-plus pages of proposed rulemaking text, compliance experts are offering insight about exactly what the SEC’s climate disclosure regulations entail.

Back in March, the U.S. Securities and Exchange Commission voted to propose key rule amendments that would require a domestic or foreign registrant to include certain climate-related information in its registration statements and periodic reports, such as on Form 10-K.

As summarized by SEC Chair Gary Gensler, examples of the information to be disclosed include climate-related risks and their actual or likely material impacts on the registrant’s business, strategy and outlook. Other information to be disclosed includes the registrant’s governance of climate-related risks and relevant risk management processes, as well as the registrant’s greenhouse gas emissions, which, for accelerated and large accelerated filers and with respect to certain emissions, would be subject to assurance.

At the time of their introduction, Gensler said the proposed disclosures are similar to those that many companies already provide. He noted that they are based on “broadly accepted disclosure frameworks,” such as the Task Force on Climate-Related Financial Disclosures and the Greenhouse Gas Protocol.

Now that the financial services industry has had some time to digest the hundreds of pages of rulemaking text, compliance experts are offering their insights about exactly what the ambitious regulatory package entails. Included among them is Ethan Corey, senior counsel in Eversheds Sutherland’s investment services practice. He recently sat down with PLANADVISER for a discussion, recounted in Q&A form below, about the most important parts of the SEC’s climate-related rulemaking, and his expectations for what comes next in the at-times complicated rule promulgation process.

PLANADVISER: To kick off the conversation, can you tell us about the pace and tenor of the SEC’s rulemaking activity under the Biden administration?

Corey: What I can say is that it truly has been a busy time for those of us who follow and track the SEC and the other regulators. We have had a lot of regulatory text to read across different topics, from cybersecurity to the climate-related issues. The most recent climate proposal that came out is alone more than 500 pages, so that gives you a sense of the amount of regulatory action that has been taking place.

One month after it issued proposed regulations related to the cybersecurity policies of registered investment advisers and fund companies, the SEC issued a second proposal related to the cybersecurity standards and disclosures of publicly traded companies. These come after a busy 2021, as well, which saw proposed regulations issued on topics such as securities lending and money market funds.  

So, as a team, we have put out various client alerts on these topics, and we have been speaking with a lot of our clients, answering their initial questions and helping them with their own comments for regulators. It has been very busy.

PLANADVISER: What is your initial impression of the latest climate-related disclosure regulations? Is this one of the most ambitions regulations the SEC is working on?

Corey: Overall, I think this proposal is a really big deal. Not only does the actual rule text itself include many new requirements for registered entities, but the list of ancillary questions that the SEC included in the package is also expansive. I think this demonstrates that a final version of the proposal, if and when it comes out, could include even more than what is already in the proposal.

If we assume that this package gets adopted in something like the current form, then it will be a major change for the marketplace. We can expect there will be lawsuits challenging the viability of the regulations on various grounds, but for the sake of discussion, let’s assume it survives the legal challenges.

I think it is fair to say that the proposal would, if enacted, deliver more information about investors’ current and future climate risk exposure, but there would also be potential unintended consequences, from my point of view. One of these is that some companies in sectors that are most exposed to climate-related risk, for example energy companies or heavy manufacturers, may actually decide that it would be better for them to transition from public to private ownership.

This may sound a bit extreme, but I do believe it is likely. We could see the types of leveraged buyouts that were popular in the 1980s and 1990s becoming popular again, especially in these industries. As a general matter, this trend would be likelier to hit energy suppliers, manufacturers and goods companies more than it would service industries.

PLANADVISER: What do you make of the SEC’s strategy of requiring companies to disclose certain information related to climate-focused risk assessments, as opposed to the idea of mandating that they collect such information in the first place?

Corey: It is hard to get inside the mind of the commissioners and to make statements about exactly what their intentions are or why they have followed a certain strategy. In terms of why they are not somehow seeking to mandate the collection of climate-risk information, perhaps the SEC expects organic market forces to push firms to generate such information on their own. It’s hard to say; it’s just speculation at this point.

It very well may be that there is already critical mass of registrants who are already doing this and collecting such information, and that the SEC feels it is unlikely that they would merely stop doing this data collection in response to the idea that it will now have to be made public. I think there is some truth to that.

Of course, if you are a firm that has been on the fence about adopting some of these practices for your business, you might see this proposal and just decide it is not worth the hassle. Especially if you work in an industry that faces significant climate-related challenges in the long-term future, if your reward for going ahead and doing this analysis is to have to put negative data into your registration statements and disclosure documents, you might just skip the whole process. In that sense, paradoxically, the proposal may discourage some people from engaging in these climate-risk assessment practices.

PLANADVISER: What did you make of the SEC’s own internal debate about the proposal, which was put on full display during the public vote on the proposal?

Corey: That’s an interesting question, and it makes me think of the history of the SEC and how the regulator has changed over the decades. Though it was always a part of the SEC’s process, I think the current elevated level of public dissent is something that first started to develop during the leadership of former SEC Chair Jay Clayton, under former President Trump, and it has continued now that the ideological makeup of the majority of commissioners has again flipped under President Biden.

It used to be that the SEC was much more of a collaborative body, and generally we would see 5-0 or 4-1 votes on almost every proposal. Since the Clayton era, it has become a 3-2 body, and on both sides there appears to be less of an effort made towards finding middle-ground policies that can be supported by both sides. Frankly, it’s another sign of how so many things in Washington, D.C., have broken down on partisan lines.

PLANADVISER: I imagine you expect a significant number of public comments? Any predictions about what they will say?

Corey: It is going to be a large and mixed bag of comments. I think we can, for obvious reasons, expect that manufacturers and energy companies are going to give a lot of push back. The U.S. Chamber of Commerce, as a collective entity, will likely push back. The environmentalist community will obviously be in favor. What will be more subtle and interesting will be the responses of the investment and finance community, and I think those may be mixed.

Interestingly, we have seen the Investment Company Institute already file a statement that is broadly in favor of the proposal. Overall, I think investor groups are largely going to be positive about this, because right now, they are very dependent on third-party information and surveys when they are trying to assess things like the climate risk of a given stock issuer or industry.

I should say, however, that I still don’t think this proposal, as ambitious as it is, will truly allow the industry to reach a point of complete comparability in terms of climate-related data and disclosures. This is just such a complex area, and I suspect you could see situations where you have two similarly situated businesses where, say, one is vertically integrated and the other isn’t. It appears that the vertically integrated business will be reporting more scope 1 and scope 2 emissions that are generated directly by the company, while the other may be reporting a lot more scope 3 emissions generated by a supplier. This could cause the companies to appear to be different from a climate-risk perspective while they are in reality using the same equipment and putting off the same emissions. How would you handle that as an investor?