California has long been at the forefront of environmental and climate-related regulation, and the battle against climate change. With the adoption on October 7, 2023 of three new climate laws, California has taken a leadership role in the area of enterprise climate disclosures, with the stated objective of inspiring global change.
Given their broad reach, these new laws will cause a seismic shift in enterprise climate-related activities, merely with their requirements for the public reporting of emissions inventories. Additionally, these laws require public disclosure of climate-related financial risks and corporate actions taken to reduce climate risks, which together can be reasonably expected to drive enterprise emissions reduction activities. Furthermore, these laws aim to address concerns about the voluntary carbon offset markets by requiring disclosures about the sale or use of voluntary carbon offsets, and they also attempt to reduce “greenwashing” by requiring disclosures about certain emissions marketing claims.
Enacting this legislation is an extraordinary step, but the path forward from here may not be easy or linear. There are numerous potential issues and problems that could diminish the promise of this legislation, which will be addressed below. Pitfalls aside, some regulatory body in the United States needed to take action in this field, and California has now squarely assumed a leadership role.
Emissions Inventory and Reporting (SB 253)
Formally titled the Climate Corporate Data Accountability Act, SB 253 addresses emissions inventory and reporting.
Affected Entities. Any entity (1) organized in the state of California or another state or the District of Columbia, or under the laws of the United States or an act of Congress, (2) with total annual revenues exceeding $1 billion in the preceding year, and (3) that does business in California (“Reporting Entities”)
Required Disclosures. Reporting Entities are required to annually prepare a detailed report of corporate emissions in accordance with the Greenhouse Gas Protocol, including the Corporate Standard and Corporate Value Chain. These reports are submitted to an emissions reporting organization designated by the California Air Resources Board (“CARB”) by means of a digital platform accessible to the public. Beginning in 2026, only Scope 1 (direct) and 2 (power generation) emissions must be reported. Beginning in 2027, Scope 3 (supply chain) emissions must be reported within 180 days of reporting Scope 1 and 2. As part of these disclosures, Reporting Entities are required to engage independent third parties to provide assurance engagements relating to the reports. Beginning in 2026, limited assurance is required for Scope 1 and 2 emissions. Beginning in 2030, reasonable assurance is required for Scope 1 and 2 emissions, and limited assurance for Scope 3 emissions.
Penalties for Noncompliance. CARB may seek administrative penalties for non-filing, late filing or other failures to meet the law’s requirements, in an amount not to exceed $500,000 in a reporting year. However, Reporting Entitles shall not be subject to a penalty relating to a Scope 3 disclosure made in good faith and with a reasonable basis, and before 2030 can only be subject to a penalty for non-filing.
Climate Related Financial Risk (SB 261)
Formally titled Greenhouse Gases, Climate Related Financial Risk, SB 261 addresses reporting and disclosure of climate related financial risk.
Affected Entities. Any entity (1) organized in the state of California or another state or the District of Columbia, or under the laws of the United States or an act of Congress, (2) with total annual revenues exceeding $500 million in the preceding year, and (3) that does business in California (“Covered Entities”)
Required Disclosures. Beginning in 2026, Covered Entities are required to biennially prepare a report on climate related financial risks in accordance with the framework published by the Task Force on Climate-related Financial Disclosures (TCFD) or similar framework, including the International Financial Reporting Standards (IFRS) Sustainability Disclosure Standards, as issued by the International Sustainability Standards Board (ISSB). This report must also include a statement of what actions the Covered Entity has taken to reduce or adapt to the disclosed climate related financial risks, and must be submitted to the California Climate-Related Risk Disclosure Advisory Group and posted on the Covered Entity’s public website.
Penalties for Noncompliance. CARB may seek administrative penalties for non-filing, late filing or other failures to meet the law’s requirements, in an amount not to exceed $50,000 in a reporting year.
Voluntary Carbon Market Disclosures (AB 1305)
Formally titled Voluntary Carbon Market Disclosures, AB 1305 requires certain disclosures relating to the sale or use of voluntary carbon offsets, and public decarbonization claims relating thereto.
This legislation defines “Voluntary Carbon Offset” to mean “…any product…that claims to be a “greenhouse gas emissions offset”, a “voluntary emissions reduction”, a “retail offset” or any like term that connotes…a reduction in the amount of greenhouse gases present in the atmosphere or that …would have otherwise been emitted.” This definition does not include carbon offsets sold or purchased in the mandatory or compliance markets.
- Sell Side – A business entity (regardless of size) that is marketing or selling voluntary carbon offsets within the state of California (“Sell Side Entities”).
- Buy Side – An entity that (1) operates within the state of California (regardless of size), (2) purchases or uses voluntary carbon offsets sold within the state of California and (3) makes decarbonization claims about the achievement of net zero emissions, that the entity or product is carbon neutral or similar claims, or claims to have made significant reductions in their carbon dioxide or greenhouse gas emissions (“Buy Side Entities”).
- Emissions Marketing Claims – An entity that (1) operates within the state of California (regardless of size), and (2) makes decarbonization claims within the state of California about the achievement of net zero emissions, that the entity or product is carbon neutral or similar claims, or claims to have made significant reductions in their carbon dioxide or greenhouse gas emissions (“Emissions Marketing Claims”).
Required Disclosures – Sell Side. Beginning in 2024, Sell Side Entities are required to annually disclose on the entity’s public website the following categories of information (1) detailed information about the carbon offset project, including the protocol used to estimate emissions reductions or removal benefits, (2) details of accountability measures if the project is not completed or does not meet the projected emissions reduction or removal benefits, and (3) data and calculation methods needed to independently reproduce and verify the quantity of emissions reduction or removal credits issued.
Required Disclosures – Buy Side. Beginning in 2024, Buy Side Entities are required to annually disclose on the entity’s public website the following information about each carbon offset project or program they purchase from: (1) seller’s name, (2) registry name, (3) project identification number if applicable, (4) project name if applicable, (5) emissions reduction type (removal, avoidance or a combination) and site location, (6) the specific protocol used to estimate emissions reductions or removal benefits, and (7) whether there is an independent third party verification of entity data an claims.
Required Disclosures – Emissions Marketing Claims. Entities making Emissions Marketing Claims are required to annually disclose on the entity’s public website the following information about the claims: (1) information documenting how any “carbon neutral,” “net zero emission,” or other similar claim was determined to be accurate or actually accomplished, and how interim progress toward that goal is being measured, and (2) whether there is independent third-party verification of the company’s data and claims.
Penalties for Noncompliance. California Attorney General may seek penalties for failure to disclose or inaccurate disclosures, in an amount not to exceed $2,500 per day or $500,000 in the aggregate.
There are numerous potential concerns with these news laws, including those set forth below.
Implementation. Each of these new laws is relatively concise, so they will require the development of extensive implementing regulations to govern their application within California between now and the specified rulemaking deadline for each law. The challenge presented by this large task and tight timeline was recognized by Governor Newsom when he signed SB 253 and said “the implementation deadlines in this bill are likely infeasible” and about SB 261 he said the “deadlines fall short in providing…sufficient time to adequate carry out the requirements of this bill”.
Coordination. SB 253 and SB 261 address related subject matters but impose different requirements. While it is possible that the legislators that prepared these bills contemplated that many entities would be required to comply with the different requirements of each of these new laws, one must assume objections will be raised advocating better coordination between the legislation and elimination of the overlap.
Federal Preemption. In early 2023, the US Securities and Exchange Commission (“SEC”) issued a Proposed Rule on Climate Disclosures. The SEC has been diligently reviewing comments on the Proposed Rule since then, and it is expected that they will issue a Final Rule in 2023. Both the SEC Proposed Rule and the expected Final Rule cover much of the same subject matters as SB 253 and SB 261. For that reason, when the SEC Final Rule is issued, there will likely be significant questions as to whether or how the SEC Final Rule may displace or modify this new California legislation.
Carbon Market Information. The disclosure requirements of AB 1305 applicable to Buy Side Entities are predicated on the assumption that the required information is readily available. In fact, voluntary carbon markets are notoriously opaque, and obtaining the information required to be disclosed will take significant work on the part of the Buy Side Entity.
Extraterritoriality. Given their broad scope, there may be significant legal challenges to these bills by states or entities objecting to California regulating activities that could extend outside of its borders.
This is an exciting time for climate regulation. The three recently enacted California laws discussed here represent the first comprehensive attempts to mandate disclosures relating to emissions inventory, climate related risks, voluntary carbon offsets, and emissions marketing claims.
While they may be delayed or modified in the future, this new legislation is part of a growing trend at both the state and federal level to increase transparency and reporting about enterprise emissions. With this new legislation, California has shown that it intends to be a leader in corporate climate disclosures.
The astute reader should not assume this new legislation will go away. Rather, they would be well served by considering how this new legislation could effect their organization, and how they might begin the process of complying with it.
Chip Horton and Jarret Johnson, October 19, 2023