New SEC Climate Disclosure Rules Offer ESG Strategy Gut Check for Boards

Recently, the SEC created a stir by releasing a proposal for new climate-related disclosure rules that would require companies to report both their impact on the planet through emissions and the impact of climate risk on their financial outlook. While the 500-plus page proposal would create a new reporting requirement, these new rules, if enacted, represent more than just a compliance exercise. 

 

Business leaders have a unique opportunity to respond to investor demands, unlock value and build trust among their stakeholders using ESG engagement to reduce their carbon footprints, account for climate risks and report their strategy and progress to stakeholders. In fact, by a nearly 2-to-1 margin last fall, U.S. CEOs reported that investors — more than regulators — were driving action on ESG. Likewise, in this red-hot labor market, talent continues to seek companies that lead with purpose.

 

While the devil is in the details and the SEC's rules are only proposed at this stage, to gain an ESG advantage, businesses should prepare now to tell their own ESG story instead of having others tell it for them. In that spirit, boards should be asking a few gut-check questions:

 

Are we aligned with a strategy to reduce our carbon footprint and transition to a low-carbon economy? The SEC's proposal requires disclosure of climate impacts but also stipulates that companies disclose metrics and targets within their transition plans and scenario analyses if those plans and analyses have been developed. In effect, the proposal would reveal whether companies have a plan at all. A lack of disclosure could generate a red flag for investors and other stakeholders demanding action on climate change.  

 

Boards should evaluate the status of their decarbonization strategies now. Aligning with a strategy that fits with the Task Force on Climate-Related Financial Disclosures (TCFD) framework, a model highlighted in the SEC proposal, will be a critical first step for many companies.

 

Is our data organized, and can we connect those insights with technology to operationalize our decarbonization strategy? For decades, companies have invested in better technology to organize, understand and interact with their financial data. Emissions data, on the other hand, comes from disparate sources, requiring various calculations to understand one's carbon footprint. Simply gaining access to and organizing that data is a challenge that will almost certainly require iteration. 

 

The real value, though, lies in applying technology to gain insights to drive strategy, especially as new risks emerge. For example, M&A activity last year reshaped many companies, and thinking about those opportunities through an ESG lens will be critical going forward.

 

Are we prepared to meet reporting requirements, including assurance on Scope 1 and Scope 2 emissions? Until this point, companies have been able to choose what they want to disclose and how they want to disclose it. For example, in KPMG's 2020 Survey of Sustainability Reporting, 58% of the top 100 North American companies reported climate risks. However, only 32% of reporting companies followed the TCFD framework, varying significantly by industry. 

 

If the SEC's proposal is enacted, companies will likely need to analyze their reporting readiness and identify gaps to effectively meet both financial and nonfinancial reporting requirements. Importantly, boards may first want to focus on Scope 1 and Scope 2 greenhouse gas emissions, which would require limited and then reasonable assurance potentially as early as fiscal year 2026.

 

While this proposal does not directly affect private businesses, board directors of private companies may still be impacted. For example, the proposal requires public companies to disclose Scope 3 emissions — emissions from a company value chain — if they are material or if the reporting company has set a reduction target that includes Scope 3 emissions. Private companies are often part of public companies' value chains and may be asked to detail their greenhouse gas emissions to their public customers.

 

Private companies will inevitably need to develop similar data, technology and governance strategies to adequately report emissions to their public customers. They may also be asked about their strategy to reduce their carbon footprint. 

 

It's easy to get lost in the details of the many questions the SEC's proposal has raised. It remains critical to view ESG within the bigger picture as an opportunity to unlock value and not only as a potential reporting requirement. ESG today is very similar to what digital transformation was for the 2010s — a critical way for organizations, public and private, to compete better and disrupt the market. The companies that saw through the initial challenges and invested early continue to reap the financial and operational benefits of digital transformation. With that mindset, businesses that prepare now can shape their own ESG narrative instead of letting others shape it for them.