Publicly traded companies in the U.S. would have to annually report the greenhouse gas emissions for which they are directly responsible — known as Scope 1 and 2 emissions — under sweeping climate-risk disclosure regulations the SEC proposed March 21. The rule would also apply to international companies with operations in the U.S.

In addition, companies would be required to report so-called Scope 3 emissions if deemed "material" to their business and if they have a goal to reduce carbon pollution or take similar action. Some small companies will be exempted from the Scope 3 provisions, which would also come with safe harbor protections to shield companies from liabilities.

Scope 3 carbon pollution, for which companies are not directly responsible, is the most difficult type of emissions to account for and reduce but also tends to make up the largest share of corporate carbon footprints.

"This is a watershed moment for investors and financial markets," SEC Commissioner Allison Herren Lee said before the commission voted 3-1 to advance the rulemaking. "The science is clear and alarming and the links to capital markets are direct. Maintaining an effective disclosure regime for public companies is amongst the most important and foundational roles of the commission."

Lee suggested the final rule could propose to phase in the Scope 3 reporting requirements and welcomed public comment on how to bring more clarity to the greenhouse gas disclosures and how they should be implemented.

The SEC's lone Republican commissioner, Hester Peirce, warned the proposed rule would turn the agency's disclosure regime "on its head." Companies would need to rely on third-party climate experts to assess their emissions and climate vulnerabilities, Peirce predicted, inviting inconsistent models and potentially flawed data.

"Score another one for the climate industrial complex," Peirce said in a lengthy statement ahead of the vote. "The farther afield we are from financial materiality, the more probable it is that we have exceeded our statutory authority."

The much-anticipated SEC rule has been in the works since early in the Biden administration, when the agency requested public input on how to give shareholders "more consistent, comparable and reliable" information on how climate change is affecting the businesses in which they invest.

Investors have demanded more transparency in financial filings on how companies contribute to rising greenhouse gas emissions and what climate change means to their bottom line.

More companies captured with Scope 3

The historic rulemaking would be the first effort by U.S. financial regulators to standardize climate change reporting in annual reports and other public documents. Unlike regulatory requirements in Europe, the new disclosure rule would apply only to publicly traded companies — leaving a large segment of the U.S. economy untouched by the regulations.

But some observers said that by extending the greenhouse gas reporting requirements to Scope 3 emissions, which can include carbon pollution from third-party supply chains or end-users of the products that companies sell, the proposed rule could reach much farther.

"That's where you start to really capture the private enterprises," said Joe Schloesser, a senior director at ISN, a Dallas-based company helping Fortune 200 and 500 companies manage contractors and suppliers worldwide. "It's why Scope 3 makes sense."

Scope 3 pollution accounts for 70% to 90% of corporate emissions depending on the business, so "the supply chain really is the most important thing to be focusing on," Schloesser said in an interview.

Whether and how companies should report on emissions for which they are not directly responsible has been one of several key issues raised in 600-plus comments filed with the SEC over the past year.

"Scope 3 data is the highest source of emissions for critical industries to investors and the economy, such as banking (financed emissions) and oil and gas (used of sold products)," wrote Ceres, a climate-focused investor network. "The commission and the investors protected within its mandate cannot adequately evaluate issuers' climate-related financial risk exposure without accurate, comparable, consistent, complete and mandatory Scope 3 disclosure in these and other industries with significant Scope 3 emissions."

A common reporting framework

Another issue is whether the SEC should impose existing and globally accepted third-party reporting mechanisms on all publicly traded companies, regardless of industry and whether they already employ other methods.

The EU and the United Kingdom already use standards developed by the Financial Stability Board's Task Force on Climate-related Financial Disclosure, as do a number of large U.S. companies seeking to meet investor demand for greater transparency. SEC staff concluded that basing the rule on the TCFD framework would bring consistency and lower compliance costs.

As the SEC moves forward with the new climate-risk reporting requirements, opponents of the plan are gearing up for a fight.

The influential lobby group American Legislative Exchange Council earlier this year offered model legislation for Republican-led states willing to challenge a "forced imposition" of the SEC's environmental, social and governance policies. And 16 Republican attorneys general warned the SEC in June 2021 that it is "hard to see how it can legally, constitutionally and reasonably assume a leading role when it comes to climate change."

Some legal experts believe that the proposed SEC mandates will be litigated, potentially delaying implementation for several years.

Weather disasters, some of which have already been attributed to climate change, cost the U.S. economy $145 billion in damage in 2021, NOAA's National Centers for Environmental Information reported in January.

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