Following nearly two years of heated debate, the SEC opted to significantly narrow its final climate risk disclosure rule for publicly traded companies — a decision reflecting the controversy surrounding the agency's proposal.

The commission voted March 6 to eliminate Scope 3 emissions reporting requirements from the rule and to exempt several thousand smaller and emerging growth companies from reporting. Under the finalized rule, nearly 60% of US companies registered with the SEC will not have to track or report their greenhouse gases to investors, agency officials said in a call with reporters ahead of the commission vote.

The commission's three Democratic members voted for the rule, while its two Republican commissioners were against it.

West Virginia Attorney General Patrick Morrisey announced within hours that a coalition of nine Republican-led states filed a petition in the US Court of Appeals for the 11th District to block the rule. While acknowledging that the SEC had rolled back some provisions in the proposed rule, Morrisey accused the Biden administration of using a "back door to undermine the energy industry."

"Certainly the SEC has nothing to do with climate change or energy," Morrisey said in announcing the state's legal action.

New reporting mandates for companies

Under the final rule, it will be up to large companies to determine whether Scope 1 and 2 emissions are "material" to investors and should be included in public filings, SEC officials told reporters. How many will report emissions is uncertain, which makes the ultimate reach of the rule unknown, they said.

Several hundred foreign companies with operations in the US will also be affected by the greenhouse gas reporting mandate, the agency estimated.

Any company registered with the SEC will be required to disclose to investors efforts taken to mitigate climate-related risks along with "transition plans, scenario analysis, or internal carbon prices," according to an agency fact sheet. The companies must also disclose how their board and management oversee and assess material climate risks, even though the final rule is "less prescriptive" than what the agency originally proposed, SEC officials said.

Other reporting provisions under the final rule include information about companies' climate-related targets and goals and how those could affect their business and finances.

In notes to their financial statements, companies will also be required to, among other things, report on costs and losses associated with severe weather events often attributed to climate change, including hurricane damage, drought, wildfires, sea level rise and extreme heat, the SEC said. The final rule clarifies that companies do not have to assess whether such events were linked to climate change.

By contrast, the proposed rule released in March 2022 required all publicly traded companies to disclose emissions within their control, known as Scope 1, along with Scope 2 emissions associated with corporate energy purchases. The SEC's initial proposal also tasked larger companies with disclosing Scope 3 emissions in their registration statements and annual reports if that information is material to investors or if they had set reduction targets for such emissions.

Mixed reviews

Indirect Scope 3 emissions make up the bulk — and for some sectors as much as 90% — of corporate carbon footprints. Under pressure from investors, 77% of S&P 500 companies already disclosed such emissions in some fashion in 2023, according to The Conference Board, a think tank.

The new disclosure mandates will be phased in over the next several years, starting with large companies in 2025, the SEC said, noting that the final rule gives companies more time to comply. Despite such changes, supporters of the rule said it will bring investors more clarity.

"The requirements, among others laid out in the rule, move a haphazard potpourri of public company disclosures into the commission's well-developed and standardized filing ecosystem," SEC Commissioner Caroline Crenshaw (D) told her colleagues. "Commission filings come with a greater disclosure review process, heightened liabilities for material misstatements ... a level of reliability and year-over-year reporting that is conspicuously absent from climate risk reporting today."

Investor advocacy groups had for years been pushing for a full and consistent accounting of corporate emissions and welcomed the SEC's action. The final rule, while imperfect, is a step in the right direction, said Steven Rothstein, managing director of Ceres' Accelerator for Sustainable Capital Markets, long a vocal proponent of climate risk disclosures.

"Investors understand that climate risk is financial risk, so clearly we would have liked to have Scope 3 included," Rothstein said in an interview before the commission's vote. "But if they include the [rule's] many, many other provisions … it will still be progress."

Critics of the agency's original proposal had warned that the Scope 3 provision would affect suppliers throughout company supply and value chains and create billions of dollars in compliance costs. Republican attorneys general and members of Congress also questioned the legality of the broader rule.

Commissioner Hester Peirce (R) asked why companies that already report material risks should be burdened by new mandates, which she said would raise their cost of SEC filings by 21%.

"Wading into noneconomic issues involves trade-offs that only our nation's elected representatives have the authority and expertise to make," Peirce told her colleagues. "If we lose our focus on objectively reasonable investors, special interest groups will turn to us to achieve what they cannot accomplish through normal political channels."

Inconsistent mandates across jurisdictions

The final rule had been delayed several times as SEC staff sifted through thousands of public comments and wrestled with the political backlash against the Scope 3 reporting provision. As of March 6, the agency had received 24,000 comments, including a flurry submitted over the past three days, SEC Chair Gary Gensler told the commission.

The uncertainty and the dragged-out regulatory process have been the biggest source of frustration for publicly traded companies over the past two years, said Hortense Viard Guerin, a director at the management consultancy Baringa Partners.

"I think the other frustration has been the inconsistency across the major regulations," Guerin said in an interview. "When every kind of government, every regulatory body goes with its own version of climate and sustainability disclosures, it causes a lot of implementation challenges."

Guerin, who focuses on climate risk and decarbonization strategies for the banking sector, also predicted that some mid-tier regional banks with no operations in California or the EU will now slow down any efforts to account for Scope 3 financed emissions from clients they support. Such emissions make up most bank carbon footprints.

The SEC's final rule comes five months after California enacted two laws requiring more than 15,000 companies with business in the state to publish climate risk assessments and publicly report all three scopes of emissions. New reporting regulations are also going into effect in the European Union, which will affect several thousand US companies with subsidiaries in Europe.

Such mandates have prompted a recent surge in company requests for help with implementing or strengthening their data collection and reporting programs.