Narrowing the Scope: The SEC Finalized its Climate-Related Disclosure Rule

March 15, 2024 Update

On March 15, 2024, the U.S. Court of Appeals for the Fifth Circuit (the “Fifth Circuit”) issued an unpublished order granting an “administrative stay” of the Final Rule, meaning that the rule will not go into effect until the Fifth Circuit takes further action. The Fifth Circuit’s order did not elaborate on reasons for granting the stay.

While the Fifth Circuit has not yet made a final determination on the legality of the Final Rule, this decision indicates that the Judges who ruled on the challengers’ stay motion believe that the challengers are likely to succeed on at least one of their claims. The Fifth Circuit is one of at least five courts of appeals where the Final Rule is currently being challenged by state attorneys general, industry groups and members, or environmental groups. We expect these cases to be consolidated in the upcoming weeks, although it has yet to be determined which court of appeals will ultimately hear the challenges. If the cases are ultimately transferred to a court of appeals other than the Fifth Circuit, that court of appeals could lift the administrative stay that has been imposed by the Fifth Circuit.

While it is difficult to predict how the litigation will unfold in the coming weeks and months, we will continue to monitor cases and developments with respect to climate disclosure requirements generally. Please contact Vinson & Elkins to discuss these matters and their implications on the timing of any Final Rule implementation and the impacts on your company.

Below we set forth 5 key takeaways from the Final Rule. We additionally provide a comprehensive overview of the requirements of the Final Rule as compared to the requirements of the proposed rule in the attached appendix. V&E intends to publish a more comprehensive analysis of the Final Rule in the coming days, and will discuss the Final Rule in more detail at a CLE hybrid event on Tuesday, March 19, 2024—Please register for SEC Climate Disclosure Rule: A Discussion with Vinson & Elkins, EY and Other Stakeholders on What You Need to Know here.

Key Takeaways

(1) Scope 3 GHG Emissions Are Out

The most hotly contested issue arising out of the proposed rule was the requirement for certain issuers to disclose Scope 3 GHG emissions.² Perhaps unsurprisingly, that requirement has been dropped from the Final Rule, with the Commission citing the “potential burdens” that this requirement could impose upon registrants (including costs and other difficulties) as well as concerns regarding the reliability and robustness of Scope 3 GHG emissions data.³ Disclosure of Scope 3 GHG emissions in securities filings made with the SEC will, therefore, remain voluntary at this time. However, many registrants may still be obligated to report Scope 3 GHG emissions in other jurisdictions, such as California and the European Union (“EU”) under their respective impending mandatory disclosure reporting regimes.⁴

(2) Scope 1 and 2 GHG Emissions Disclosure is Required ONLY for Large Accelerated Filers and Accelerated Filers and Materiality Thresholds Apply for the Disclosure of Scope 1 & 2 Emissions and “Disclose if You Have It” Items

Whereas the proposed rule required disclosure of Scope 1 and Scope 2 GHG emissions by all registrants regardless of materiality, the Final Rule just requires disclosure of Scope 1⁵ and Scope 2⁶ GHG emissions by large accelerated filers beginning no sooner than 2026 and accelerated filers beginning no sooner than 2028, as indicated in Section (4) below. Additionally, the Final Rule only requires disclosure by such registrants if their Scope 1 and Scope 2 GHG emissions are “material.” Further, only disclosure of Scope 1 and Scope 2 in the aggregate is required under the Final Rule (a change from the requirement under the proposed rule to disclose such emissions in both the aggregate and disaggregate by each constituent GHG), although if any constituent gas of the disclosed emissions is individually material, a registrant must disclose such constituent gas disaggregated from other gases.⁷ Registrants required to report their GHG emissions metrics may do so in their annual report on Form 10-K or incorporate such information by reference in their quarterly report on Form 10-Q for the second fiscal quarter following the end of their fiscal year in which the GHG emissions metrics disclosure relates. Foreign private issuers will likewise be required to disclose their GHG emissions metrics, if appliable, in an amendment to their annual report on Form 20-F within 225 days following the end of the fiscal year to which the GHG emissions metrics disclosure relates.⁸

Like the proposed rule, the Final Rule also requires disclosure of Scope 1 and Scope 2 GHG emissions in gross terms, excluding the impact of any purchased or generated offsets.⁹ Moreover, registrants are required to describe the methodology, significant inputs, and significant assumptions used to calculate their disclosed Scope 1 and Scope 2 GHG emissions,¹⁰ although with some degree of flexibility to determine the same: the Final Rule allows companies to calculate GHG emissions according to the methodology that best matches their particular facts and circumstances, such as utilization of the GHG Protocol or certain ISO standards.¹¹

One of the most significant changes from the proposed rule is the addition of a materiality threshold to the Scope 1 and Scope 2 GHG emissions reporting requirements. The Commission does not explicitly provide a definition of “materiality” in the Final Rule but explains that it intends for a registrant to “apply traditional notions of materiality under the Federal securities law” in determining whether such GHG emissions are material.¹² Moreover, “the guiding principle for this determination is whether a reasonable investor would consider the disclosure of an item of information . . . important when making an investment or voting decision or such a reasonable investor would view omission of the disclosure as having significantly altered the total mix of information made available.”¹³ Thus, the amount of a registrant’s Scope 1 and Scope 2 GHG emissions does not determine materiality.

Whether the inclusion of a materiality threshold provides relief from GHG emissions reporting for a large number of registrants remains to be seen. It is an open question as to whether, and under what circumstances, a registrant’s Scope 1 and 2 GHG emissions could be deemed material to a “reasonable investor.” Commissioners dissenting to the Final Rule have noted that the Commission labeling asset managers “investors” is potentially a problematic characterization, perhaps opening the door to future arguments where the prerogatives of asset managers (and their proxy voting teams), who have largely been driving the demand for GHG emissions disclosures from public companies, do not necessarily reflect “reasonable investor” interests.¹⁴

The SEC also added materiality thresholds to a number of other requirements in the Final Rule. Registrants will only need to consider climate-related risks that materially impact or are reasonably likely to materially have an impact on their strategy, results of operation or financial condition. Registrants also need only disclose information on transition plans, scenario analyses and internal carbon pricing to the extent such disclosures have or are reasonably likely to have a material impact on how the registrant identifies, assesses, evaluates and manages climate-related risks.¹⁵ Additionally, under the Final Rule, information relating to transition plans, scenario analyses, internal carbon prices and climate-related targets or goals, other than historical facts, are considered to be forward-looking statements for the purposes of the Private Securities Litigation Reform Act safe harbors from private liability for disclosure.

With respect to transition plans—which the Commission placed particular emphasis on during the open meeting—registrants will only be required to disclose such plans if adopted to manage a material transition risk. Transition plans are defined as “a registrant’s strategy and implementation plan to reduce climate-related risks, which may include a plan to reduce its GHG emissions in line with its own commitments or commitments of jurisdictions within which it has significant operations.”¹⁶ Registrants are also required to update their annual report disclosure about such plans each fiscal year by detailing the actions taken that year pursuant to the plan and how such actions have impacted their business, results of operations, or financial condition. Importantly, the Final Rule provides that such disclosure should include quantitative and qualitative information on the material expenditures incurred and the material impacts on financial estimates and assumptions directly resulting from any actions taken under the plan.

(3) Regulation S-X Amendments are Largely Cut, Leaving Only Disclosures Related to Severe Weather Events and Other Natural Conditions and Carbon Offsets and RECs

Registrants are required to disclose, in a note to financial statements, the capitalized costs, expenditures expended, charges and losses incurred as a result of severe weather events and other natural conditions. Regulation 14-02 under Regulation S-X does not define either “severe weather events” or “natural conditions.” However, the SEC notes in the Final Rule that both the final amendments to Regulation S-X and Regulation S-K use the phrase “severe weather events” to reflect the Commission’s expectations that there is “significant overlap” between severe weather events and natural conditions with the types of physical risks (acute and chronic) required to be identified and disclosed by a registrant pursuant to the new requirements under Regulation S-K. Thus, for Regulation S-X, “severe weather events” includes hurricanes, tornadoes, flooding, drought, wildfires, extreme temperatures and sea level rise.

If either carbon offsets or renewable energy certificates (“RECs”) are used as a material component to a registrant’s plan to achieve its climate-related targets or goals, then disclosure of the capital costs, expenditures expended, and losses related to carbon offsets and RECs is required in a note to the financial statements.

The Regulation S-X amendments to the Final Rule are significantly less burdensome than those contained within the proposed rule. However, the Final Rule retains the one percent (1%) quantitative disclosure threshold for reporting total expenditures expensed or total capitalized costs and charges incurred as a result of severe weather events and other natural conditions, with the Commission asserting this simplifies compliance compared to a more principles-based standard, promotes comparability and consistency (both within a registrant’s own filings and across different registrants), and reduces the risk of underreporting.¹⁷ More specifically, disclosure of expenditures expensed as incurred and losses is required if this amount equals or exceeds one percent (1%) of the absolute value of income or loss before income tax expense or benefit for the relevant fiscal year; disclosure of capitalized costs and charges (in the aggregate amount) is required if the amount equals or exceeds one percent (1%) of the absolute value of stockholders’ equity or deficit at the end of the relevant fiscal year.

(4) Compliance Deadlines Have Been Pushed Back with Several Phase-Ins Adopted

The Final Rule adopts delayed and staggered compliance dates which vary according to the registrant’s filing status. As noted above, disclosure of Scope 1 and Scope 2 GHG emissions is only required for large accelerated filers and accelerated filers where material, with smaller reporting companies, emerging growth companies and non-accelerated filers being exempt. All disclosures are required to be electronically tagged.

Below are the compliance deadlines as set forth by the Final Rule:

(5) The Final Rule Has Already Been Challenged

Although the Final Rule was only released by the Commission yesterday, it is already subject to challenges: two companies have already filed a petition for review in the United States Court of Appeals for the Fifth Circuit and a coalition of ten states filed a petition for review in the United States Court of Appeals for the Eleventh Circuit. It is likely that there will be a number of other legal challenges to the Final Rule brought in both district and circuit courts around the country. The cases filed in the Courts of Appeals will be consolidated into a single circuit court challenge based on a lottery system, the outcome of which could take weeks or even months to determine.

Whether the Final Rule is allowed to go into effect while these lawsuits are ongoing will depend on whether the court hearing the case(s) agrees to preliminarily stay the Final Rule while the challenges are pending. To receive this relief, challenges to the Final Rule will have to demonstrate that they are likely to succeed in their substantive legal challenge suit, they will suffer an irreparable harm without an injunction that outweighs the harms of an injunction, and that the injunction is in the public interest. If a court does grant a preliminary stay, then the Final Rule will not go into effect unless and until the court ends the stay or the Commission ultimately prevails in the case. Otherwise, the Final Rule will be allowed to go into effect and compliance will be required in accordance with the compliance scheduled provided in Section (4) above. It is worth noting that, regardless of whether a court grants or denies a preliminary injunction, any such decision will likely be appealed all the way up to the Supreme Court.

Questions regarding the timing of litigation against the Final Rule and such litigation’s impact on the timing of the Final Rule will likely become clearer in the coming weeks, although we may not know with a high degree of certainty what is likely to happen for some time. Substantive challenges of the Final Rule could take between twelve to twenty-four months, but this timeline can be influenced by a number of factors.

What’s Next?

Until a court grants a preliminary stay, and such a stay is no longer subject to further appeals, registrants should assume that they will need to comply with the Final Rule in accordance with the schedule noted above. Thus, registrants are advised to begin planning for, or continuing to plan for, compliance with the requirements of the Final Rule now. If registrants have not already done so, it is also advised that enhanced disclosure controls and policies relating to climate-related disclosures be established. With regard to the quantitative disclosures—and in particular, for large accelerated filers and accelerated filers with respect to Scope 1 and Scope 2 GHG emissions—registrants should begin collecting the requisite data now. Large accelerated filers and accelerated filers should also begin preparing for compliance with the attestation requirements. Furthermore, for registrants that may also find themselves subject to other impending climate-related regulatory requirements, such as under the EU’s CSRD or California’s climate disclosure laws, active preparation may be necessary no matter the ultimate fate of the Final Rule.

Click here to view the appendix.

¹ Note that the Final Rule, unlike the proposed rule, does not require climate-related disclosures to be made by private companies that become party to a business combination transaction involving securities registered on Form S-4 or F-4.

² Defined by the proposed rule as “All indirect GHG emissions not otherwise included in a registrant’s Scope 2 emissions, which occur in the upstream and downstream activities of a registrant’s value chain. Upstream emissions include emissions attributable to goods and services that the registrant acquires, the transportation of goods (for example, to the registrant), and employee business travel and commuting. Downstream emissions include the use of a registrant’s products, transportation of products (for example, to the registrant’s customers), end of life treatment of sold products, and investments made by the registrant.”

³ Final Release, p. 256.

⁴ In October 2023, California Governor Newsom signed into law the Climate Corporate Data Accountability Act (“CCDAA”), which requires annual disclosure of Scope 1, Scope 2, and Scope 3 GHG emissions, in accordance with the GHG Protocol, by public and private U.S. companies that are “doing business in California” and have total annual revenues exceeding $1 billion. For more information about the requirements and applicability of the CCDAA, see our October 2023 Insight. Note that the CCDAA and California’s Climate-Related Financial Risk Act (passed on the same day) are subject to legal challenge, with the Chamber of Commerce, along with the American Farm Bureau Federation and several other business groups filing suit in Los Angeles federal court. Further, the EU’s Corporate Sustainability Reporting Directive (“CSRD”), effective January 5, 2023, includes reporting obligations for large companies and listed companies, including EU subsidiaries of non-EU companies with a “large undertaking” and non-EU companies with “substantial activity” and a subsidiary in the EU with at least €40 million or that is a large or listed subsidiary. Companies subject to the CSRD must use the European Sustainability Reporting Standards, which require companies to report their full portfolio of GHG emissions, including Scope 3 GHG emissions.

⁵ Defined by the Final Rule as “direct GHG emissions from operations that are owned or controlled by a registrant.” See § 229.1500.

⁶ Defined by the Final Rule as “indirect GHG emissions from the generation of purchased or acquired electricity, steam, heat, or cooling that is consumed by operations owned or controlled be a registrant.” See § 229.1500.

⁷ Final Release, p. 249.

⁸ Id., pp. 860-861.

⁹ Id., p. 250.

¹⁰ Id., p. 251.

¹¹ Note however, that the Final Rule differs from both the goals and requirements of the EPA’s GHG Reporting Protocol in that it is not limited to U.S. facilities and requires reporting of Scope 2 GHG emissions.

¹² Final Release, p. 246.

¹³ Id.

¹⁴ Commissioner Hester M. Peirce, Green Regs and Spam: Statement on the Enhancement and Standardization of Climate-Related Disclosures for Investors (Mar. 6, 2023), https://www.sec.gov/news/statement/peirce-statement-mandatory-climate-risk-disclosures-030624.

¹⁵ Id., pp. 853-857.

¹⁶ §229.1500.

¹⁷ Final Release, p. 468.

¹⁸ Item 1502(d)(2) requires the disclosure, quantitatively and qualitatively, of “the material expenditures incurred and material impacts on financial estimates and assumptions that, in management’s assessment, directly result from activities disclosed” concerning mitigation or adaptation to climate-related risks.

¹⁹ Item 1502(e)(2) requires the “quantitative and qualitative disclosure of material expenditures incurred and material impacts on financial estimates and assumptions as a direct result of the transition plan” disclosed pursuant to Item 1502.

²⁰ Item 1504(c)(2) requires the “quantitative and qualitative disclosure of any material expenditures and material impacts on financial estimates and assumptions as a direct result of the target or goal or the actions taken to make progress toward meeting the target or goal.”