EXECUTIVE SUMMARY
- Mandatory Disclosure / US – Organizations domiciled and operating only in the United States currently have no mandatory climate reporting obligations. That will change if the US Securities and Exchange Commission adopts a Final Rule as the result of the rulemaking process it began in 2022, which is expected to mandate certain climate related disclosures for companies publicly listed in the US.
- Mandatory Disclosure / EU and UK – Certain organizations domiciled in the EU, with subsidiaries organized in the EU or with material operations in the EU, are subject to the mandatory frameworks in the European Union Corporate Sustainability Reporting Directive (CSRD) and Non-Financial Reporting Directive (NFRD). Similarly, certain organizations incorporated in the UK with more than 500 employees are subject to the UK Climate-Related Financial Disclosure Regulations (2022).
- Voluntary Disclosure – Of the numerous voluntary frameworks, the Greenhouse Gas Protocol (GHGP) is the oldest and most widely used carbon accounting framework, which has enjoyed broad adoption and acceptance around the globe. In recent years, the framework created by the Task Force on Climate-Related Financial Disclosures (TCFD) has seen significant adoption and has emerged as one of the predominant voluntary reporting frameworks for climate risks. In addition, the Global Reporting Initiative (GRI) has become the most widely used Environmental, Social and Governance (ESG) reporting standard globally.
MANDATORY DISCLOSURE FRAMEWORKS
Over 93% of S&P 500 companies that produce climate disclosures are currently using voluntary frameworks like those discussed in detail below. However, recent years have seen an increase in rules and proposed rules for mandatory or regulated climate disclosures. Since 2016, more than 100 new mandatory ESG reporting rules have been introduced globally, signaling a shift from voluntary to involuntary reporting, and a need for all companies to have increased board oversight of how climate initiatives are managed within their companies.
SEC Proposed Climate Disclosure Rules
The U.S. Security and Exchange Commission (SEC) proposed new rules in March 2022 as part of a wider global trend of climate disclosure requirements across many jurisdictions around the globe. The SEC proposal is another step in the evolution of the ESG and climate-disclosure landscape, and further acknowledgment of climate risk being financial risk. It was created in response to increased demand for climate-change information and to ensure investors are informed on climate risks material to businesses. The proposed SEC rules closely align with the GHGP and recommendations put forth in the TCFD Framework, which comprises four areas of disclosure: (i) governance, (ii) strategy, (iii) risk management, and (iv) metrics and targets. The SEC’s alignment with the GHGP and TCFD is consistent with other global disclosure mandates, many of which are also closely aligned with the GHGP and TCFD Framework.
The proposed rules would require public companies to disclose information about (i) the registrant’s governance of climate-related risks and relevant risk management processes; (ii) how any climate-related risks identified by the registrant have had or are likely to have a material impact on its business and consolidated financial statements, which may manifest over the short-, medium-, or long-term; (iii) how any identified climate-related risks have affected or are likely to affect the registrant’s strategy, business model, and outlook; and (iv) the impact of climate-related events and transition activities on the line items of a registrant’s consolidated financial statements, as well as on the financial estimates and assumptions used in the financial statements.
The proposed rules also would require public companies to disclose information about their direct GHG emissions (Scope 1) and indirect emissions from purchased electricity or other forms of energy (Scope 2). In addition, a registrant would be required to disclose GHG emissions from upstream and downstream activities in its value chain (Scope 3), if material or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions. The proposed rules would provide a safe harbor for liability from Scope 3 emissions disclosure and an exemption from the Scope 3 emissions disclosure requirement for smaller reporting companies.
The disclosures for public companies included in the SEC proposal vary in substance and timing across four registrant types: (i) Large Accelerated Filers (public float of more than $700 million); (ii) Accelerated Filers (public float of more than $250 million, but less than $700 million, and annual revenue of more than $100 million); (iii) Non-Accelerated Filers (public float of less than $75 million, or public float of more than $75 million but less than $100 million in revenue); and (iv) Smaller Reporting Companies (public float of $75 million to $250 million and annual revenue of less the $100 million).
The SEC received nearly 15,000 comments on the proposed rules, so at this time it remains unclear how the final rules will differ from the proposed rules. However, the SEC is generally expected to issue the final rules sometime in 2023. However, legal challenges will likely follow based on assertions that the requirements are not necessary or appropriate and/or exceed the SEC’s rule-making authority.
European Union Corporate Sustainability Reporting Directive (CSRD) and Non-Financial Reporting Directive (NFRD)
In 2014, the European Union (EU) adopted the Non-Financial Reporting Directive (NFRD), which required certain companies to report on a range of topics, including GHG emissions, energy use, and climate-related risks and opportunities. In 2022, the EU adopted the Corporate Sustainability Reporting Directive (CSRD), which amended and updated the NFRD by expanding the scope of covered companies and also broadening the reporting requirements to include environmental considerations.
Currently, the NFRD applies to companies incorporated in the EU that are (a) traded on an EU-regulated market, (b) banking companies, or (c) authorized insurance companies, provided that they meet at least two of the following three criteria: (i) a net turnover of more than €40 million; (ii) balance sheet total assets greater than €20 million; and/or (iii) more than 500 employees. However, the CSRD will apply to:
(a) all large companies incorporated the EU (including EU subsidiaries of non-EU companies), which are defined as any entity that meets two of the following three criteria: (i) a net turnover of more than €40 million; (ii) balance sheet total assets greater than €20 million; and/or (iii) more than 250 employees;
(b) parent companies incorporated in the EU, where the group of companies collectively meet the large company criteria;
(c) non-EU incorporated companies if (i) the company carries on substantial activity in the EU (meaning the company’s net turnover in the EU in two consecutive financial years was over €150 million per annum), and (ii) the company has at least one branch in the EU that has a net turnover of at least €40 million or subsidiary in the EU that meets at least two of the large company requirements;
(d) companies listed on an EU-regulated market, including small and medium-sized companies (SMEs) but excluding micro companies; and
(e) captive insurance and reinsurance undertakings, as well as small and noncomplex institutions, provided they also qualify as large companies or SMEs.
EU member states will phase in the CSRD from January 2024 through January 2026, applying the directive first to companies most likely to be able to comply.
Under the CSRD, a company will need to include in a dedicated section of its management report the information necessary to understand the company’s impacts on sustainability matters as well as how sustainability matters affect the company’s own development, performance and position. The CSRD also emphasizes “double materiality”, which means that companies will have to detail both their impacts on the environment and the climate-related risks they face. The information that a company is required to provide under the CSRD must include information about the company’s own operations and about its value chain.
UK Climate-Related Financial Disclosure Regulations
In 2022, the United Kingdom (UK) adopted the Companies (Strategic Report) (Climate-Related Financial Disclosure) Regulations 2022 (the Climate Regulations). The Climate Regulations amended the Companies Act 2006 and require many large and/or listed UK companies, as part of their strategic reporting, to provide information in accordance with the recommendations of the TCFD. The Company Regulations require mandatory disclosure of material information in all four of the TCFD’s core categories: Governance, Strategy, Risk Management, and Metrics and Targets.
The Climate Regulations apply to the following companies incorporated in the UK that have more than 500 employees: (i) companies whose shares are admitted to trading on a UK-regulated market; (ii) banking companies; (iii) authorized insurance companies; and (iv) companies that have a turnover of more than £500 million in a fiscal year.
VOLUNTARY DISCLOSURE FRAMEWORKS
Voluntary climate-related disclosure frameworks are implemented by many businesses, non-governmental organizations (NGOs), governments, and others organizations to help them determine which issues to disclose, how to measure and calculate the information to be disclosed, and the form that the disclosure should take. These frameworks may also facilitate the verification of information contained in an organization’s report.
Organizations may elect to use more than one disclosure framework, as many of the voluntary disclosure frameworks emphasize that they may be used cooperatively and in conjunction with one another. For example, many reports from large public companies will be created and verified in alignment with the Task Force on Climate-Related Financial Disclosures (TCFD) or the Global Reporting Initiative (GRI), but may also include specific sections that may reference the Greenhouse Gas Protocol’s (GHGP) inventories of emissions and/or the Sustainability Accounting Standards Board’s (SASB) materiality determinations, and may also identify the particular United Nations Sustainable Development Goals (SDGs) that the company is intending to support through its sustainability activities.
For most companies, the key to determining an appropriate framework or frameworks to use is determined by aligning the company’s individual ESG objectives with the framework’s purpose and the desired audience for their disclosures.
Greenhouse Gas Protocol (GHGP)
The Greenhouse Gas Protocol (GHGP) initiative is a multi-stakeholder partnership of businesses, non-governmental organizations (NGOs), governments, and others convened by the World Resources Institute (WRI), a U.S.-based environmental NGO, and the World Business Council for Sustainable Development (WBCSD), a Geneva-based coalition of 170 international companies. Launched in 1998, the initiative’s mission is to develop internationally accepted greenhouse gas (GHG) accounting and reporting standards for business and to promote their broad adoption.
The GHGP is the most widely used carbon accounting framework and has enjoyed broad adoption and acceptance around the globe by businesses, NGOs, and governments. Many industry, NGO and government GHG programs have used the GHGP as a basis for their accounting and reporting systems.
The GHGP Initiative is comprised of two separate but linked standards: (1) the GHG Protocol Corporate Accounting and Reporting Standard (published in 2001 and updated in 2004), and (2) the GHG Protocol for Project Accounting (published in 2005). The GHG Protocol Corporate Accounting and Reporting Standard provides standards and guidance for companies and other types of organizations to develop inventories for GHG emissions and to report on those emissions. It covers the accounting and reporting of the six GHGs covered by the Kyoto Protocol—carbon dioxide (CO2), methane (CH4), nitrous oxide (N2O), hydrofluorocarbons (HFCs), perfluorocarbons (PFCs), and sulphur hexafluoride (SF6). Under the GHGP, all emissions are broken down into Scope 1 (direct GHG emissions from sources that are owned or controlled by the organization), Scope 2 (emissions associated with the generation of electricity, heating/cooling or steam purchased for consumption by the organization), and Scope 3 (indirect emissions that are a consequence of the organization’s activities other than those covered in Scope 2). Scope 1 and 2 are required to be measured, whereas Scope 3 is currently optional.
Task Force on Climate-Related Financial Disclosures (TCFD)
The Financial Stability Board established the Task Force on Climate-Related Financial Disclosures (TCFD) in 2015 to develop recommendations for more effective climate disclosures. In principle, these recommendations are intended to enable stakeholders to better understand the exposure of the financial system and the broader economy to climate-related risks. The TCFD provides a common global approach for reporting on the risks and financial impacts of climate change and helps companies align with the goals of the Paris Agreement. The TCFD recommendations are designed to help organizations comply with existing mainstream reporting requirements, rather than impose additional reporting standards.
The TCFD’s initial recommendations for climate-related disclosures were released in a 2017 report. These recommendations were designed to apply to all organizations across all jurisdictions and sectors, regardless of size or industry, and to provide investors with reliable, comparable, and forward-looking information on which to base decisions. The TCFD’s disclosure recommendations are structured around four thematic areas representing the core operating components of a company: governance, strategy, risk management, and metrics & targets for assessing climate-related risks and opportunities. These components, further supported by 11 recommended disclosures, build out a framework that is intended to help investors and other stakeholders understand how an organization is assessing, incorporating, and addressing climate-related risks and opportunities.
Within the last few years, the TCFD has emerged as one of the predominant voluntary reporting frameworks for climate risks.
Global Reporting Initiative (GRI)
Established in 1997, the Global Reporting Initiative (GRI) is an international independent standards organization that helps businesses, governments and other organizations understand and communicate their impacts on a wide range of ESG issues, such as climate change, human rights, anti-corruption, biodiversity, employment, tax and forced labor. Climate-related disclosures include topics such as GHG emissions, climate-related risks and opportunities, and management approaches to address climate change. Organizations choose from among these issues to report on their significant impacts.
The GRI has helped businesses, governments and other organizations take responsibility for their ESG impacts by providing a common reporting framework for ESG reporting. Any organization – large or small, private or public, regardless of sector, location, and reporting experience – can use the GRI Standards to report in a standardized, comparable way. More than 100,000 companies in 100 countries use this framework as part of their ESG reporting, making GRI the most widely used ESG reporting standard globally.
The GRI Standards are comprised of three series of standards: the Universal Standards, the Sector Standards, and the Topic Standards. The Universal Standards support the organization in identifying its material topics by laying out important principles when preparing a report. They also contain disclosures on the organization’s specific context, such as its size, activities, governance and stakeholder engagement. The Sector Standards support organizations within sectors to determine their material topics and what to report for each topic. The Topic Standards contain disclosures that organizations use to report their impacts in relation to a topic and how it manages these impacts. The approach of identifying and reporting on material topics helps organizations create reports that focus on the impacts of their activities and operations and meet the information demands of their stakeholders.
Sustainability Accounting Standards Board (SASB) & International Sustainability Standards Board (ISSB)
Another prominent voluntary climate disclosure approach has been put forth by the Sustainability Accounting Standards Board (SASB), which was founded as a nonprofit organization in 2011. The SASB aims to establish and improve disclosure standards for ESG topics by providing guidance on the identification of financially material sustainability information for disclosure purposes.
The SASB is a sector-based, industry specific guidance framework used primarily to help publicly traded companies determine the financial materiality of sustainability-related information for disclosure to the public. The SASB standards are broken down by industry, making SASB metrics comparable from company to company within an identified peer group. There are 77 identified industries in the SASB Standards, across 11 different sectors. The SASB identifies the subset of ESG issues most relevant to financial performance through industry-specific “materiality maps.”
In 2021, the SASB and the International Integrated Reporting Council (IIRC) merged into the Value Reporting Foundation (VRF). In 2022, the VRF and the Climate Disclosure Standards Board (CDSB) consolidated into the International Financial Reporting Standards (IFRS) Foundation,which established the International Sustainability Standards Board (ISSB). The SASB Standards are now under the oversight of the ISSB.
The ISSB was created by the IFRS Foundation to develop standards that will result in a high-quality, comprehensive global baseline of sustainability disclosures focused on the needs of investors and the financial markets. The ISSB has set out the following key objectives: (1) to develop standards for a global baseline of sustainability disclosures; (2) to meet the information needs of investors; (3) to enable companies to provide comprehensive sustainability information to global capital markets; and (4) to facilitate interoperability with disclosures that are jurisdiction-specific and/or aimed at broader stakeholder groups.
The ISSB plans to build on the SASB Standards in its development of its own standards. In March 2022, the ISSB published Exposure Draft IFRS S2 Climate-related Disclosures, building on the recommendations of the TCFD and incorporating industry-based disclosure requirements derived from SASB Standards. The ISSB expects to issue an IFRS Sustainability Disclosure Standard around the end of Q2 2023.
Carbon Disclosure Project (CDP)
Created in 2000, CDP (formerly known as the Carbon Disclosure Project) is a not-for-profit charity that runs a global disclosure system that helps companies, cities, states, regions and investors manage and report on their climate, deforestation and water security impacts. The CDP provides guidance on how to measure and report on carbon emissions, climate risks, and opportunities. The CDP holds the world’s most comprehensive dataset on how companies, cities, states and regions measure, understand and address their environmental impacts, and also provides benchmarking tools to help organizations compare their performance to their peers.
The CDP also gives customers, investors, and other stakeholders a path to request environmental information from companies, cities, states, countries, and public authorities. With more than 18,700 organizations disclosing in 2022, it has become the primary method for investors to request climate disclosures from their portfolio companies.
Science-Based Target initiative (SBTi)
The Science-Based Target initiative (SBTi) was created in 2015 as a collaborative initiative between CDP, the World Wild Fund for Nature, the World Resources Institute, and the United Nations Global Compact as a call to action and to guide companies in reducing their GHG emissions in line with the goals of the Paris Agreement. The SBTi defines and promotes best practices in science-based emissions target setting in order to limit global warming and stave-off the worst effects of climate change. Targets are considered “science-based” if they are in line with what the latest climate science deems necessary to meet the goals of the Paris Agreement – limiting global warming to well-below 2°C above pre-industrial levels and pursuing efforts to limit warming to 1.5°C.
The SBTi is available for companies from all sectors and of all sizes. However, the SBTi does not assess targets for cities, local governments, public sector institutions, educational institutions or non-profit organizations. More than 4,000 businesses from around the world are working with the SBTi.
The SBTi aims to show the private sector how to take climate action and build science-based targets which exploit the co-benefits of transitioning to a decarbonized world. The SBTi developed the following five-step process for a company to set a science-based target: (1) submit a letter to SBTi establishing a company’s intent to set a science-based target; (2) work on an emissions reduction target in line with the SBTi’s criteria; (3) present the target to the SBTi for official validation; (4) announce the target and inform stakeholders; and (5) report company-wide emissions and track target progress annually.
Partnership for Carbon Accounting Financials (PCAF)
The Partnership for Carbon Accounting Financials (PCAF), an industry-led initiative created by Dutch banks in 2015, is a global partnership of financial institutions that work together to develop and implement a harmonized approach to assess and disclose the GHG emissions associated with their loans, investments and other financial services. The harmonized accounting approach provides financial institutions with the starting point required to set science-based targets and align their portfolio with the Paris Climate Agreement. PCAF enables transparency and accountability and has developed an open-source global GHG accounting standard for financial institutions, known as the Global GHG Accounting and Reporting Standard for the Financial Industry.
The GHG accounting methodologies developed by PCAF apply to any financial institution. Since banks represent most of the available capital globally and play an important role in the financial ecosystem to drive change and facilitate the transition towards a low-carbon society, PCAF is focused on collaborating with banks worldwide. However, in addition to banks, PCAF also focuses on investors, such as pension funds, asset owners and managers. There are currently over 370 financial institutions, representing over $88 trillion of total assets, participating in PCAF.
United Nations Global Compact (UNGC)
The United Nations Global Compact (UNGC) is a voluntary initiative based on CEO commitments to implement universal sustainability principles and take steps to support UN goals. To support this, the UNGC helps companies to (i) do business responsibly by aligning their strategies and operations with Ten Principles of the UNGC, and (ii) take strategic actions to advance broader societal goals, such as the UN Sustainable Development Goals (SDGs).
The Ten Principles of the UNGC address topics such as human rights, labor, environment and anti-corruption. With respect to the environment, Principle 7 states that businesses should support a precautionary approach to environmental challenges, Principle 8 states that companies should undertake initiatives to promote greater environmental responsibility, and Principle 9 states that companies should encourage the development and diffusion of environmentally friendly technologies.
The SDGs include 17 goals, ranging from ending poverty, to ending hunger, to ensuring equitable quality education. SDGs relating to the environment include goals such as ensuring access to affordable, reliable, sustainable and modern energy, ensuring sustainable consumption and production patterns, and taking urgent action to combat climate change and its impacts.
Companies from any industry sector are eligible to participate in the UNGC, except those companies that (i) are subject to a UN sanction, (ii) are listed on the UN Ineligible Vendors List for ethical reasons, (iii) derive revenue from the production, sale and/or transfer of antipersonnel landmines or cluster bombs, or (iv) derive revenue from the production and/or manufacture of tobacco.
April 14, 2023
Jarret Johnson
Vice President & General Counsel
Tellus Markets Corporation
