Changing tides? Moving from voluntary to mandatory climate disclosures
New TCFD aligned sustainability reporting standards emerging
Starting in March of this year, we’ve had a few fruitful months of making progress in reporting on climate metrics. Starting out, the US Securities and Exchange Commission (SEC) published rule amendments that, if adopted, would require companies listed in the United States to disclose climate-related risks in their registration statements and periodic reports. Then, the Swiss Federal Council opened a consultation on a proposed ordinance that would require large companies to institute climate reporting, and the International Sustainability Standards Board (ISSB) published two draft reporting standards for public consultation.
All three regulations align with the recommendations of the Financial Stability Board’s Task Force on Climate-Related Financial Disclosures (TCFD). Their actions are all following a global trend that has clearly emerged — climate disclosures are moving from a voluntary act to a mandatory requirement. However, as with most things, the devil is in the details.
Even though regulators are using the TCFD recommendations as a blueprint, they appear to be emphasizing different elements of the TCFD and not embracing the recommendations as a package. One significant difference that keeps popping up is that regulators are approaching double materiality differently. We therefore advise all firms to carefully review the obligations they are expected to meet in the specific jurisdictions where they operate.
US Securities and Exchange Commission proposed rules
The US SEC regulates disclosures for listed companies via Regulation S-K. This regulation requires issuers to disclose information that is material to investors’ decision-making about a security. Regulation S-K and its guidance documents outline qualitative reporting requirements for public companies’ SEC filings that include information on environmental, social, and governance (ESG) issues.
The SEC’s proposed amendments introduce mandatory climate-related reporting based on the recommendations and guidelines issued by the TCFD. The SEC is looking for issuers to disclose a range of climate-related risks and their greenhouse gas (GHG) emission data. Companies would also be required to disclose the “actual or potential material effects” that climate-related risks will have on their business, strategy, and prospects, including the impacts of potential new regulations such as a carbon tax.
Published in the Federal Register in March 2022, the proposed rules were under public consultation between March 21 and May 20, 2022. There were conflicting viewpoints being expressed: US government officials and institutions are either in favor of or oppose financial and non-financial institutions enhancing their disclosure of ESG and climate risks for different reasons.
Proposed ordinance under the Swiss Code of Obligations
In Switzerland, the proposed ordinance would require publicly traded companies and large financial institutions to annually report on non-financial issues, such as climate, if they have an annual average of 500 full-time employees and met at least one of the following two parameters: total assets of CHF 20 million or turnover of CHF 40 million.
If adopted, the ordinance would require companies to report the impact of climate change on their operations as well as their impact on the climate (double materiality). The reporting would be expected to align with the four pillars of the TCFD recommendations (Governance, Strategy, Risk Management, and Metrics and Targets) as well as the taskforce’s implementation guidance from October 2021. This includes the following expectations: provide a transition plan that supports national climate targets, define quantitative targets, and disclose all GHG emissions.
Reporting would be on a “comply or explain basis.” This means that if a company does not provide a clear strategy for climate risk management in any of the pillars mentioned above, it must explain why in its report.
The consultation on the proposed ordinance closed on July 7, 2022.
International Sustainability Standards Board
The International Financial Reporting Standard (IFRS), overseen by the IFRS Foundation, is a global framework for financial reporting used extensively across developed and developing economies. The IFRS is used by companies listed on stock exchanges as well as by financial institutions. The ISSB was set up under the IFRS Foundation and tasked with developing global baseline sustainability disclosure standards.
The ISSB’s first two exposure drafts of sustainability disclosure standards were published in March 2022: Exposure Draft IFRS S1 – General Requirements for Disclosure of Sustainability-related Financial Information and Exposure Draft IFRS S2 – Climate-related Disclosures.
Similar to the TCFD recommendations, the ISSB is focusing on disclosing information on climate-related risks (physical and transition) as well as opportunities. And just like the proposed Swiss ordinance, reporting under the ISSB standard would be aligned with the four pillars of the TCFD recommendations (Governance, Strategy, Risk Management, and Metrics and Targets).
However, the ISSB has put forward more detailed reporting requirements, which is a substantial difference from the TCFD’s less-specific guidance. The ISSB’s first two draft standards ask for detailed information about governance, and they include requirements for transition planning, specifically referencing emission reduction targets and the use of carbon offsets.
The consultation on these documents will close on July 29, 2022. The ISSB expects to issue the final versions by the end of 2022.
Monitoring the trends
At ECOFACT and Clarity AI, we closely follow ESG and climate-related regulatory developments. We are monitoring regulators’ signals and tracking the steps they are taking. The three developments discussed above exemplify the profusion of climate-related disclosure requirements that are based on the TCFD’s recommendations.