SEC’s draft climate disclosure rule and ongoing regulatory activities by states

April 20, 2023
The ESG App
In March 2022, the US Securities and Exchange Commission (SEC) released draft rules intended to enhance climate-related disclosures. These rules would require all registrants of SEC to include certain climate-related disclosures in their periodic reports, including the annual report.

In March 2022, the US Securities and Exchange Commission (SEC) released draft rules intended to enhance climate-related disclosures. These rules would require all registrants of the SEC to include certain climate-related disclosures in their periodic reports, including the annual report (Form 10-K). These new rules would affect over 7,500 entities that file annual reporting forms, as these forms are required for all companies with more than $10 million in assets and more than 2000 owners holding equity securities. The SEC's objective is to make climate-related disclosures “consistent, comparable, and reliable - and therefore decision-useful” for investors and the capital community. As one of the countries that contributes a large share of global carbon emissions, this regulation, aimed at enhancing the transparency of carbon-related disclosures and transition plans, is a major step toward mitigating climate risks.

The published draft rules require companies to include information about climate-related risks that are reasonably likely to impact their business operations and financials. This includes its direct greenhouse gas (GHG) emissions (Scope 1) and indirect emissions from purchased electricity or other forms of energy (Scope 2). It also includes the disclosure of GHG emissions from upstream and downstream activities in its value chain (Scope 3), if they are material, or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions. A final ruling was expected in November 2022, and it was delayed to some time in the first quarter of 2023 since over 6,000 public comments were received by the SEC in the public commenting period. As of March 2023, the SEC has yet to issue the final rule.

Meanwhile, state legislators have enacted a number of regulations related to ESG investments made with state resources. These state regulations are pro and against ESG. On the side against ESG, at least seven states have enacted laws or adopted regulatory action that prohibits or discourages public entities from considering ESG factors when investing state resources. Lawmakers in at least 13 states have introduced bills since the beginning of 2023 which are in the process of passing through various stages of the legislative process.  An example of such a law is from Idaho, in effect since July 2022, which prohibits public entities from considering ESG characteristics in investment decisions that could override the “prudent investor” rule. Another example is the policy statement from Florida issued in January 2023 that prohibits asset managers from investing income of Florida’s deferred compensation program participants in financial products associated with ESG standards (source).

On the pro-ESG side, at least two states have laws requiring public entities to develop ESG policies or standards that apply to state investments, particularly concerning public pension fund investment decisions. The measures differ in scope, but they all seek to promote the use of ESG factors in investment decisions to capture both financial and non-financial considerations. At least four states have introduced bills since the beginning of 2023 that require or encourage the consideration of ESG factors in state investment decisions. An example of such an action is the approval of an amendment to the state investment policy of the Oregon Investment Council, which seeks to formally integrate ESG factors into fund management policy. Another example is Maine, which requires the public employee retirement system to divest from the fossil fuel industry by a specified date. Finally, lawmakers in California and New York have introduced bills that would require corporations to track and disclose regularly the GHG emissions they generate through their business activities, similar in principle to the proposed SEC climate disclosure draft rule.

Regulations relating to ESG investments are an area of active debate and frequent regulatory activity at both the federal and state levels. The states disagree on whether the incorporation of ESG factors in investment decisions with state resources should be endorsed or prohibited, and this debate is likely to continue at least until the election of 2024 and possibly beyond. Through this process of active debate and legislation, we want to see the definition, scope, and enforcement of ESG and sustainable finance become more concrete, specific, and clear in goals and outcomes that benefit inclusive stakeholders.

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