Experts flag 3 concerns with proposed SEC climate disclosure rule

As the dangers of climate change continue to mount, the pressure on companies to get to net zero emissions — and document their progress for investors — is increasing.

The Securities and Exchange Commission is proposing a rule that would require public companies to:

Critics of the rule say that these requirements shouldn’t fall under the jurisdiction of the SEC, while advocates of the rule say it gives investors more transparency and holds companies accountable to their public promises.

“Mandatory disclosures might induce investors, employees, people in the communities in which [companies] operate, and perhaps even their managers, to take this more seriously and find a way to deploy their capital,” said MIT Sloan professor John Sterman.

The disclosure rule could also combat an “enormous amount of greenwashing” as well as bring the climate issue to the attention of companies that are concentrating on more immediate challenges, such as staffing shortages and the COVID-19 pandemic, added Sterman, co-faculty director of the MIT Sloan Sustainability Initiative.

Sterman was one of several panelists who spoke at “Mandating Climate Disclosures,” a symposium sponsored by the MIT Golub Center for Finance and Policy.

Here are three key takeaways from the panel.

When companies prepare to document their emissions, one roadblock they often run into is accessing sustainability and emissions data for business operations that don’t fall directly within their own company. Known as Scope 3 emissions, much of this external data from suppliers or end users is often out of a firm's reach.

“The question I think all of us have to grapple with is: What’s a useful and feasible way to approach Scope 3?” said Robert Pozen,a senior lecturer of technological innovation, entrepreneurship, and strategic management. “A lot of companies don’t have much control over what their customers are doing. Some of them may not have the ability to even get the information, but they probably will over time."

The SEC rule will require companies to report their Scope 3 emissions if they are considered “material” — that is, the would affect a company’s performance or viability.

Most agree that this won’t be easy, but having this information will be valuable to investors.

“The tsunami of information and requests that are coming from investors demanding information today — and this has been a buildup for years — is tremendous,” said Carol Geremia, president of MFS Investment Management and head of global distribution. “The fact that there’s potential to have clarity and consistency as everybody’s talked about would be incredibly welcome because right now it is a tsunami at every level you can imagine.”

Requiring public companies to report is a good first step, but it’s not enough if private companies are exempt from the SEC rule.

“It doesn't cover private companies,” said Robert Eccles, the chair of KKR’s Sustainability Expert Advisory Council and a professor at the University of Oxford’s Saïd Business School. “There’s a lot of private companies out there, and some of them are really large.”

However, if a public company buys products or services from a private business, those emissions will have to be reported by the public company.

Jason Jay, director of the Sustainability Initiative, said some companies may forgo going public to avoid the added complexity of reporting their emissions or sell off their dirty assets so that their business looks cleaner.

“Companies might not choose to go public because [they think], ‘I'm going to be subject to so much complexity of reporting, so I'm just going to stay in the private markets and be opaque to the world in terms of this kind of transparency,’" he said.

“The other piece of the puzzle is — if I'm going to have to show my emissions, maybe what I do is sell off my most emitting business units into the private companies. And then we can hide all the emissions in the private markets, and not have them see the light of the day in public.”

From an investor’s perspective, being able to assess a company’s climate risk is “getting a lot better because data’s getting better,” said Michelle Hanlon,an MIT Sloan professor of accounting.

However, while many companies track their carbon emissions and use this data to take action, there’s still a lot of other factors at play.

“It’s not all about the data,” Hanlon said. “It is judgment and a lot of qualitative assessment and evaluation of how well a company is going to change and then factoring that into your analysis.”

As part of the SEC rule, businesses will have to disclose how climate risk will affect their strategy, outlook, financial statements and business from the near-term to the long-term. “It’s an astronomical amount of disclosure and estimates that these firms are required to make,” she said.

While many companies are trying to do the right thing, greenwashing still remains a problem. A recent report from the New Climate Institute gave 25 multinational companies low marks on curbing emissions, noting how difficult it is to identify dubious claims.

Jay said that the new SEC legislation would be a great step in the right direction and bring much needed transparency.

“For those of us who think a lot about climate change, this is an exciting move, because it potentially sheds light on the emissions that exist in the private sector, and that light may actually make its way into the corners and shadows of the private markets through some of these Scope 3 type mechanisms,” Jay said.

“These cost/benefit considerations and the implementation challenges are very significant, as are the legal challenges of how this fits into the scope of the SEC.”

This article was first published by MIT Sloan.