Disclosure. Disclosure. Disclosure. In early March, the SEC issued final climate-related disclosure rules for U.S. public companies. Designed to enhance standardization and in response to increasing investor demand, the new rules mandate companies disclose material climate risks they face and greenhouse gas emissions they generate as well as other material climate-related information. While not as comprehensive as existing mandatory climate disclosure regimes in the European Union or California, the rules represent a groundbreaking step forward in climate disclosure across the United States. In this episode, Chad Reed discusses the new rules, their implications and their detractors with Steven Rothstein, managing director at the Ceres Accelerator for Sustainable Capital Markets. Steven and his colleagues at Ceres over two decades have been instrumental in building a large and powerful investor coalition in support of greater climate disclosure and provide crucial insights on this complex and significant public policy issue.
Disclosure. Disclosure. Disclosure. In early March, the SEC issued final climate-related disclosure rules for U.S. public companies. Designed to enhance standardization and in response to increasing investor demand, the new rules mandate companies disclose material climate risks they face and greenhouse gas emissions they generate as well as other material climate-related information. While not as comprehensive as existing mandatory climate disclosure regimes in the European Union or California, the rules represent a groundbreaking step forward in climate disclosure across the United States.
In this episode, Chad Reed discusses the new rules, their implications and their detractors with Steven Rothstein, managing director at the Ceres Accelerator for Sustainable Capital Markets. Steven and his colleagues at Ceres over two decades have been instrumental in building a large and powerful investor coalition in support of greater climate disclosure and provide crucial insights on this complex and significant public policy issue.
Links:
SEC Adopts Rules to Enhance and Standardize Climate-Related Disclosures for Investors
Letter from Jeffrey W. Eckel (then CEO and now Executive Chair of HASI) to U.S. SEC (June 15, 2021)
Ceres: Get ready for standardized climate disclosure
Episode recorded March 29, 2024
Chad Reed: I'm Chad Reed.
Hillary Langer: I'm Hillary Langer.
Gil Jenkins: I'm Gil Jenkins.
Chad: This is Climate Positive.
Steven Rothstein It doesn't tell them what to do. It doesn't mean they can't use oil or they have to do this or that. It doesn't require any actions of them except for disclosure. Then with the theory is the market will decide. If investors, customers, employees have good information, they'll make decisions.
Chad: Disclosure. Disclosure. Disclosure. In early March, the SEC issued final climate-related disclosure rules for U.S. public companies. Designed to enhance standardization and in response to increasing investor demand, the new rules mandate companies disclose material climate risks they face and greenhouse gas emissions they generate as well as other material climate-related information. While not as comprehensive as existing mandatory climate disclosure regimes in the European Union or California, the rules represent a groundbreaking step forward in climate disclosure across the United States. In this episode, I discuss the new rules, their implications, and their detractors with Steven Rothstein, managing director at the Ceres Accelerator for Sustainable Capital Markets. Steven and his colleagues at Ceres over two decades have been instrumental in building a large and powerful investor coalition in support of greater climate disclosure and provide crucial insights on this complex and significant public policy issue.
Chad: Steven, thank you for joining us today. It's a real pleasure to have you.
Steven: Thank you for the invitation. It's a pleasure to be with you.
Chad: Before we jump into our topic du jour, as I was reading your bio, I was struck by your lifelong commitment to causes greater than yourself, importantly but not exclusively climate action. Where do you think this drive comes from?
Steven: It's really from my family that we've been very privileged, white, upper middle class, and the expression that those that much is given, much is expected, and the values of my parents who have both since passed. I've met so many remarkable people who I've learned from, mostly in the nonprofit sector that I work with, but also obviously people in the corporate sector and government as well, that it's been very rewarding and stimulating.
Chad: Tell us how you found your way to Ceres. You're now a managing director for the Ceres Sustainable Capital Markets program. How did you find your way there? What do you focus on at Ceres?
Steven: I spent over 20 years on energy environmental issues and 20 years on a variety of other issues. In 2019, the board, and Mindy, and the senior people at Ceres wanted to do more with financial sector and more with regulators. I was recruited. I am the founding managing director of Ceres Accelerator. We work with all kinds of sectors, Ceres does, but I tend to focus both on the financial sector – banks, insurance, accounting, investors – and with all of their regulatory bodies, which the United States is a lot of them, and with corporate governance. With the theory of change is that if those entities, if they changed their rules for capital, that it will affect the entire economy.
Chad: There have been some pretty big changes to rules finalized just in the last few weeks. As you know very well, the SEC published landmark rules to enhance and standardize climate-related disclosures for investors. As SEC Chair Gary Gensler explained upon the release of the rules, “Our federal securities laws lay out a basic bargain. Investors get to decide which risks they want to take, so long as companies raising money from the public make what Franklin Roosevelt called ‘complete and truthful disclosure’.” First, tell us why these new rules are so significant, or as President Biden once said, a BFD.
Steven: Absolutely. They definitely are. Ceres had its first meeting with investors, with the SEC in 2003 because investors are saying they want good information. For them to invest, they're not just looking at the next quarter, they're looking at the next quarter century and beyond. A lot's going to change. What will happen with fires, floods, tornadoes? What about new technologies, EVs? You can go through the long list. A lot's changing. The one thing we know about our society is the pace of change is just getting quicker. Some of those are good and some of those are bad.
Investors say they want more information on a variety of those risks, climate being one of them. Not the only one, of course, and inflation, recession, pandemic, there's a long list. Then in 2010, the SEC issued climate disclosure guidelines, not requirements, guidelines. There have been a variety of conversations since. In the last two years, there have been a lot of comments. Why is it important? So investors can make good decisions.
The SEC is not, I repeat, not an environmental agency. That's not their job. Their job is to provide transparency and disclosure for investors so they can fuel the capital markets. The United States is a very robust capital market. We punch above our weight, so to speak, in terms of what's happening around the world. Having that disclosure is critical. It's also part of the worldwide trend.
Chad: We'll get into that trend momentarily, but first, focusing still here on the U.S., what specifically do the rules mandate?
Steven: First, we're talking about for public companies. Out of the hundreds of thousands of companies in the United States, there are about 7,000, maybe 8,000 public companies. Even within that, the smallest ones have less requirements than the largest ones. It's a small number, but it's a big brands that people know, publicly traded companies, and that they're also because of the size, they also the largest emitters because they buy more whatever it might be, products and services. That it doesn't tell them, let me first say what it doesn't do and then tell you what they do.
It doesn't tell them what to do. It doesn't mean they can't use oil or they have to do this or that. It doesn't require any actions of them except for disclosure. Then with the theory is the market will decide. If investors, customers, employees have good information, they'll make decisions. It's part of the financial statements to have climate information just as right now if there is an audited statement. If three years ago, I haven't looked, but I'll bet every company in their audited statement listed something about the pandemic because it was a big financial either risk, or in some companies, upside. That was a societal issue, a science-based issue that had a financial impact. Now today, whether it'd be if your company or your supply chain is an area where there's fires, floods, tornadoes, droughts, or transition because of the economy, it's important to list it. If its a list like the key areas and there's a variety of criteria, both as financial information and greenhouse gas emission data should be listed.
Chad: Every year public companies like HASI, we issue an annual report. In that annual report, we obviously provide a lot of detail on the financial performance of the company over the last year and the condition of our balance sheet. There are a lot of risk factors that are required to consider and discuss in the report, a number of factors that could impact our business going forward, not just ones that we've already faced in the previous year. Now, with these new rules, if the company isn't already talking about climate-related risks in its disclosures, it is required to do so, right?
Steven: Correct, if they’re what is called material, if there's significance. Again, it's not like right now for HASI or any other company, you do financial reports, but you don't include every receipt where you buy pizza or whatever it is, that's not material, it's a significant decision. Same on climate, it's the significant areas where it would make an impact to the company or investors.
Chad: Give us one example of a climate-related risk a company might face that they'll now definitely have to disclose if they weren't doing so before.
Steven: Let me just give you two because they're very different. One is if your company directly or indirectly gets parts that go through the Panama Canal and enormous number of parts for all kinds of equipment goes through the Panama Canal, there's a drought there. That means 40% less ships are going through. If you are counting on your ship to come by X day to sell by a certain holiday, that might be late. If you can't get your component, you're not selling your product. That is a business risk. It's driven from a climate factor, but it's a business financial risk.
Another one is if you make spark plugs or something that is in an internal combustion engine and 10 years from now, there are not going to be a lot of new internal combustion engines sold, there'll be more and more EVs. That line of business might stop, might go down. There could be lost opportunities, or a flip side, it could be growth opportunities, depending what your business is. It could be based on physical risks, a drought, a fire, or a flood.
It's not just your company, it's your supply chain. We all learned during the pandemic, whether you think about from diapers to microchips, at some point, there were all kinds of shortages and delays in the marketplace. The supply chain is very interwoven and a fire in one state or a drought in another state could affect your company in a completely different area.
Chad: In terms of the risks, you have to discuss both physical risks, things that are happening in the climate that have an impact on your business operations, your supply chain, et cetera, and transitional risks, which basically as the economy changes to either adapt to climate change and/or mitigate climate change, there are going to be changes to the business environment that will impact your company likely as well. You need to report both of those sorts of risks. There was an existing framework called the Task Force for Climate-Related Disclosures or TCFD upon which this part of the regulation is based. Can you just talk a little bit about that and how that interplays with this part of the regulation?
Steven: 30 years ago, there was not a lot of climate disclosure, then there were a variety of systems built up. They were voluntary. In 2017, under the auspice of the United Nations, Mike Bloomberg and others set up the TCFD, the Task Force for Climate-Related Disclosure, and it is principles-based. This gets into what are your key governance elements? What is risk management? What is scenario analysis?
Understanding your thinking, since that time, thousands of companies have started to use it. Hundreds of insurers, for example, 80% of the insurance companies in the United States are using it, but it's used around the world. It's becoming very much the standard. It's now being built into what is called the International Sustainability Standard Board and it's also being built into the SEC and many others. It's becoming more and more the standard. Again, I want to be clear, the SEC is not delegating to TCFD, but they're incorporating many of the key provisions that are in there. Without getting too technical, the way that the SEC rule deals with physical risk and transition risk is slightly different. They cover more elements in physical risk. Transition risk, it really depends on the materiality and other factors, which again, I'm happy, but it's probably too technical for this conversation.
Chad: Right. We might get into materiality a little bit, but let's talk about it. It's not just climate risk. Climate risk is one aspect of the new regulations. Another big aspect of these regulations are greenhouse gas emissions. Companies like HASI, we've actually been reporting there's Scope 1, Scope 2, and Scope 3 greenhouse gas operations from our company for several years now, actually.
The standard is the greenhouse gas protocol that WRI and other NGOs helped develop years ago. A lot of companies already voluntarily report these emissions. Now, the SEC is saying, actually, if emissions are material, there's this materially standard again, as far as I understand it, you need to report Scope 1 and 2 emissions. Is that how it works?
Steven: Correct. Again, for your listeners, and HASI deserves enormous credit for doing this in a leadership way and voluntary. Really that's very important for you, your customers, your investors, suppliers, but it's also a great sign of leadership. Scope 1 is, again, for those who are not in the weeds on this, is a description of the greenhouse gas emissions from making your widget, your part, your supply, whatever it is, your manufacturing process, your office process, et cetera.
Scope 2 is the energy you purchase from others, gas, electricity, coal, whatever it might be to run your buildings or plants. Scope 3 is your supply chain and everything else. They do as you say. If it's material, require Scope 1 and Scope 2, and Scope 3 is voluntary.
Chad: We may get into that a little bit later. A couple of other aspects of the new regulations are you have to disclose if you've made climate targets. You said we're a company and we want to be a green company, a good company, and we want to be net zero in terms of our emissions by whatever year, 2050, 2030, if you're very aggressive. If you set such a climate target, you need to disclose it and you disclose the progress you're making towards it. Is that right?
Steven: Yes, and again just to go back as I said earlier, the SEC is not an environmental agency. It's not that they're judging the environmental. What they're saying is if you've made a target, that affects your significant decisions and that companies, your investors want to know that. I'll give you an example. If a car company says, "I'm going to go all electric by 2035," and that's tens or hundreds of billions of dollars of capital to retool, it affects their employees, their unions, their contracts.
It's a big strategic decision and investors want to know how they're going to get there and where they'll be by say 2030 or whatever the right milestones are. The key thing is what will investors want to know. In some cases, these are massive investments to either look for opportunities and/or to protect for downside risk.
Chad: The final aspects that we'll talk here at least are the rules is board and management oversight of climate-related risks and emissions. Talk a little bit about that in the rule.
Steven: The rule says, again, based on the TCFD, the Task Force for Climate-Related Disclosure, that they want to understand how the board is involved. They don't prescribe. The SEC doesn't say to the board, "Oh, you have to have a climate committee or you have to do something else," but just describe how the board gets information. If you have a committee, share that, but if you don't, that's okay. What information do you get? Then the structure of the senior management in terms of climate reporting as well.
It's based on this principle that if you understand how decisions are made, that'll help you understand moving forward and you being investors. For example, if someone says, "Our board never talks about climate or our board talks about it at every meeting," I'm just using those as examples, that might give an investor more or less confidence irrespective of whatever the specific answer might be.
Gil: Climate Positive is produced by HASI, a leading climate investment firm that actively partners with clients to deploy real assets that facilitate the energy transition. To learn more please visit HASI.com
Chad: Let's jump in because all of these pillars basically are subject to the materiality concept or threshold. We don't have to get too in the weeds in it, but I think it's a very important part of this rule. I do want to touch on it in a little bit more detail than we already have. That is what does materiality mean broadly? Let's say outside of the climate perspective, just financial materiality. Then how is it applicable to the rules themselves? How will it shape how companies respond to these rules?
Steven: It's a great question. I'm not a lawyer, so don't take this as my legal opinion. Supreme Court has ruled on this issue of materiality, again, not climate, but overall. What they've said is there's not a bright line, but it's what a reasonable investor would want to know to buy or sell stock or to vote on a shareholder resolution. In some cases, it could be if 5% it affects revenue, in some cases, that could be material, in some cases, it's not. In some cases, it could be a very small number, management structure or compensation. It's understanding what is material to investors and then sharing that. There will be some time where the society will go through a process to learn that.
Some companies like yours are already being very forward-thinking. In fact today, 92% of Fortune 500 companies share some kind of climate information on their website or sustainability report, but it's in different methodologies. The SEC will ensure that it's consistent. Materiality, we have recommended against adding materiality standard. We understand why they picked it. You don't have to worry of the small things. Again, to the person who delivers your pizza, did he or she come on a bicycle or a car? What's the admissions? That's not material, it's not relevant. It's really the big decisions that will affect the strategy for the company.
Chad: There was a bit of chatter about this rule when it came out obviously a few weeks ago, criticizing from both sides really, from the more left-leaning side or very pro-environmentalist side, there were some folks concerned that certain things were left out of these rules. Let's talk about that a little bit right now. What are the primary concerns of those who feel like maybe the rules haven't gone far enough?
Steven: Just as context before I answer that specifically, the rule came out on March 6th. Since then, there have been nine separate lawsuits, two from environmental groups that say it didn't go far enough and seven from either business associations, oil industry, Republican Attorneys General, or others. Of those that didn't say it'd go far enough, a lot had to do with Scope 3, that Scope 3 is voluntary and thinking it should be mandatory. We would have advocated that as well, but then there are other concerns about adding the materiality threshold and some other things. If you had to boil it down to one issue is Scope 3.
Chad: Got it. Why do you think the SEC didn't include Scope 3? Scope 3, again, is the emissions from one’s supply chain. From HASI's perspective, it's not necessarily always easy to measure and there aren't necessarily well-developed standards for each type of supply chain emission that a company could encounter. Why do you think the SEC right now said, "Do you know what, we're not going to require Scope 3 if you deem it material even?"
Steven: Right. I would never say what somebody else thought, but I can give you my perspective, is that this rule generated 24,000 comments, more than any time to the best of our knowledge, since the SEC was established 91 years ago. 80% were supportive, but 20% were opposed. Of the investors, 95% were supportive including of Scope 3, 96% actually. If you read the comment file and we read thousands of the letters, the most controversial element was Scope 3. There were also a number of elected officials that were very strong on both sides of that issue. Part of it was, and there are some parties who have said, "Oh, they're going to sue," which, again, they already have done that.
I think it's a combination of what you said that while Scope 3 has been used for 20 years, and there are many companies doing it, it's growing every year, it is more complicated than Scope 1 and Scope 2 to measure. There are 15 different criteria, I won't go through all the details now, but there's a variety of elements. Part of it is, it's harder to measure. Part of it is they want to have a rule, and we understand this, that's sustainable. Meaning that when the court looks at it, it's going to seem the most reasonable. The SEC, their jurisdiction is over publicly traded companies.
Scope 3 would have required non-public companies, non-registered companies. There were lawyers on both sides of that question, whether that was beyond their scope or not. The SEC I think, again, without saying exactly what they were thinking, it would not surprise me if one of their thinking is, they don't want to push that issue, there's so much here. From our perspective, we would rather have a good rule and move it forward than have a great rule and spend more time in court and never get it implemented.
Chad: I think that's a really great point to make. I do think that that's probably part of the SEC's calculation here, is that given the legal environment, they were concerned that the rule itself would be fully or mostly struck down if this more difficult disclosure requirement were included. Even though it wasn't, as you noted, there are already, at least, seven lawsuits filed by those who are opposed to the rule.
It's actually, I believe, still the rule has been temporarily postponed, basically, until, I believe, announced the Eighth Circuit of the Court of Appeals hears challenges to the rule. I don't want to get too much into the legal weeds here, but what are the primary objections to the rule, just broadly from those who are not supportive of it? Let's do that first and then we'll talk legal.
Steven: Again, these are what the other side says. I don't believe these arguments, but some would say it goes beyond the scope of the SEC. That's one. Second is there's this concept of Major Questions that says if there is a big policy issue, that that has to be decided by Congress, not regulators. Some would say this is a big policy issue. It's very significant, I don't want to underestimate that. The reality is, if you go back in the records, starting in the 1970s, it may have been even earlier, but we've been aware since the 1970s, the SEC has had environmental issues as part of their record. It could be asbestos, it could be other things.
Then obviously the 2010 climate disclosure guideline that has been involved. In fact, there have been fines against that for companies who have not followed, even though it's a guideline, because they don't feel the companies have done enough. There are other issues too about different elements. Some people say, "Oh, the timing, you need more time, both to implement and then to gather information at the end of the year." There are other legal issues too, but those are some of the major ones.
Chad: What's interesting in what you just discussed is that very few people are making the argument that complying with these rules will be too onerous. There obviously will be some compliance costs. It does cost some amount of money to measure your emissions and report them, and to think about the climate risk and to report that as well. We're not talking about large sums of money here. As you noted, 92% of the Fortune 500 companies in the U.S. today already report some measure of climate risk or greenhouse gas emissions. That's right?
Steven: Yes, it is about 92%. Just on the cost, it is clear that is an argument from the other side, it's too costly, it's too burdensome to get us information, it's too imprecise. One of the things, for example, that the regulation includes is a legal safe harbor. Meaning if somebody files information in good faith and they get better information, which will happen, this is lots of areas, it's an evolving area, that it gives them legal protection against suit. I thought my emissions were X, next year I get a more refined data, so it's really gone up or gone down, it's to protect them against that. It doesn't protect them against lying and things like that. If you're using good faith, that's clearly a part of the intent.
Chad: The materiality thresholds, the safe harbor, which protects companies who act in good faith from unnecessary lawsuits, all those things are designed to make it realistic and not too burdensome for companies to comply with this new rule. What is the timing for implementation? How does that look?
Steven: First, it's either, I think it's just been published in the Federal Register, then there's a 60-day clock to get it official. Then there is a timing, and they've broken it down by the size of the companies. There is something called large accelerated filer, accelerated filer, and then the others. The large accelerated, which I can explain, but really it's the largest companies within the SEC, they have to start collecting their data next year and reporting in '26. It's a round number for the financial information, for the carbon-related information, the greenhouse gas emission, that's a longer period.
Then there's also a phase-in period of assurance, of third-party assurance. When companies do audited statements, they have an accountant look at it, and it's part of our capital markets to think about this. This was actually controversial when it was proposed in the early days of the SEC, without getting too technical, limited assurance. Then over years, for the largest companies, it goes to reasonable, but that's not until 2033. They've been very, some people think too slow, some people think it's still too fast. From our perspective, they they've been more than generous with companies in terms of how long it takes to complete this.
Chad: These rules exist, as we alluded to earlier, in a larger environment, whether internationally or state level in the US where there are other regulatory regimes. In Europe, it's the CSRD. California has also issued climate-related mandatory disclosures for all companies that do business in California. How does this rule fit into, stack up against the other regimes out there?
Steven: Like many of your great questions, this is one that I could spend just an hour on this alone, but at a very high level. The Europeans, what they're calling CSRD, the European rule is much more expansive. It covers more companies and it asks for more information. I'll give you one example. There are several, but one example is in the U.S., you really look at the climate risks that will affect the business of the company, so the financial impact of the company because that's what investors are focusing on. In Europe, in addition to the climate impact affecting the company, you're also looking at the company's impact on society.
If the company is having a negative impact on climate, but it won't affect their financials, then it's not something you have to report to the SEC. That's called single versus double materiality. That's an example. California, on the other hand, is broader in that it covers public and private companies. It is just a revenue threshold for their two laws. 253 is $1 billion or more of revenue. 261 is 500 million or more of revenue.
That includes, it's projected that over half of that will be private companies as well. Their SEC covers a lot and it's important because it is the SEC and from a worldwide standard, but the Europeans do go further. If a company has already filled out or working to fill out the European CSRD, they're going to come in. Most of their work for the SEC will be done. They have to do a separate report, but it's a portion of that CSRD that'll go to the SEC.
Chad: The European rules, more expensive, more companies are roped into them, they require double materiality, whereas the U.S. SEC rules that we're just talking about are single materiality. Then in California, covers public and private companies and also includes Scope 3. If you are doing business in California, you do have to report Scope 3 if you meet the revenue thresholds of that rule.
The SEC seems like it's struck a good balance in many respects in my view, and getting a rule that's meaningful, that's impactful, but that's also reasonable in terms of who has to comply, and the timeline by which they have to comply, and the burdens of complying itself. Any other thoughts you have, Steven, that you want to share on the rule?
Steven: Think about the next step of a ladder. If you haven't done any reporting, start to gather the information. If you don't have a company-wide task force, because this affects purchasing, and human resources, and capital planning, and every group, put that together. If you've done Scope 1, work on Scope 2. If you've done Scope 2, work on Scope 3. Just at a meeting recently with a number of CFOs and now this can be built more into the financial statements. There's a deeper connection with the CFOs and those partners.
Wherever you are in that process, think of what's the next step to get ready. It's not just, "Oh, I want to be ready exactly when the SEC tells me." If you can think about it as HASI has done to show leadership because your investors want to know, your employees want to know, there's a real upside. The way I think about it is don't think about collecting this information as just a cost center, but as a marketing and revenue opportunity.
Chad: To bring it back into, again, why this is all important, it empowers investors, including retail investors, small investors like you and me. Steven, I'm sure we have each some shares and it's a retirement account or whatever of some company and we want to know whether that company is responding to climate-related risks and taking this issue seriously. It empowers us to make better decisions and simply through the act of requiring disclosure and not requiring companies to do anything in particular just to disclose what they're doing on these issues.
It's a great summation, Steven, thank you. First, we're almost done, but now we have the hot seat. I ask for your quick reactions to the following statements, one thing I've changed my mind on is?
Steven: That I am more optimistic despite the challenges we are facing in our political system.
Chad: The key ingredient to my productivity is?
Steven: Being associated with good, smart, honest, hardworking people.
Chad: That's a great one. To recharge, I?
Steven: Spend time with family and exercise.
Chad: The book that has influenced me most is?
Steven: There are several, but there is this one on leadership written by Marty Linsky that had a big impact.
Chad: I want the next generation to know?
Chad: That my generation screwed things up, but at least we tried to make it a little better. I have a new granddaughter and I'm very excited. When she's 10 years from now, 30 years from now, I'm worried about the world and so that we're trying to address some of the problems we've created.
Chad: To me, climate positive means?
Steven: That there is good information, transparent information, and that we are working to reduce emissions. That's not limiting economic growth, we are growing our economy while we're reducing emissions. Again, that what the world 50 years from now will be better than where it is right now.
Chad: Thank you very much, Steven. It's been a great discussion. I really appreciate your time.
Steven: Thank you. Thank you for the leadership of your company. Thanks for your time today.
Chad: If you enjoyed this week’s episode, please leave us a leave a rating and review on Apple and Spotify. This really helps us reach more listeners.
You can also let us know what you thought via Twitter @ClimatePosiPod or email us at climatepositive@hasi.com
I'm Chad Reed.
And this is Climate Positive.