The Securities and Exchange Commission recently announced its intention to review all corporate climate-related financial disclosures, with plans to update its current guidance on the subject. The update is primarily driven by the commission’s foresight in anticipating the need for change, given the critical goal outlined by the current White House — to cut greenhouse gas emissions in the United States in half by 2030.
The push was likely inevitable, as some investors consider climate-related issues before making their investment decisions to minimize their exposure to the risk of stranded assets and the risks related to physical assets. The SEC’s call for updated disclosures is consistent with its proactive approach of listening to investors and adjusting requirements to meet the ever-changing disclosure environment.
The SEC’s review has far-reaching implications for finance departments. Companies will, among other things, be judged not only on how they manage climate-related risks but also on how they disclose them.
Because changes in reporting requirements can confuse investors and other stakeholders, it is essential that CFOs start planning their communications strategies and assessing climate-related business risks as soon as possible. That’s true even though the SEC is still collecting public input on climate disclosure rules. (The deadline for comments is June 15.)
The impact of the yet-to-be-determined SEC guideline changes will vary, depending on the nature of an organization’s operations and how it currently reports environmental risks. Some industries like manufacturing, energy, and steel are likely ahead of the curve, given the nature of their businesses. Whether a company thinks it is ahead of the curve or not, disclosure is clearly at the forefront of regulators’ and investors’ concerns.
As CFOs think about how to instruct their departments to prepare to comply with the SEC’s requirement for “consistent, comparable, and reliable” climate-related disclosures, here are some key questions for them to consider.
How will these standards be defined, and how long will that take?
It took several decades for generally accepted accounting principles (GAAP) to be finalized. With about 360 global metrics for environmental reporting, the standardization process will take some time to complete. When the standards are published, CFOs need to fully understand them and be prepared to operationalize and report on them.
How in-depth will disclosures need to be?
The specifics are not available yet. But CFOs will need to produce fulsome, transparent disclosures that provide the user the necessary information to understand where the company stands in its progress to “go green.” The company will also need to set expectations for the future. Although companies will evaluate materiality, they will also need to assess whether they give the investor the complete picture of where the organization is today and where it is going. The better the disclosure, the more confidence investors will have in the company’s commitment to battling climate change.
What detailed planning will CFOs need to undertake with their teams to be ready?
When appropriate, early dry runs of the reporting process will be essential to ensure teams can access the data, assemble draft reports, pressure test results, and understand levels and trends. At first, the reports won’t be familiar. But understanding what the numbers mean and how they behave under different circumstances will be critical to confident reporting. To ensure compliance, CFOs will want their teams to stress test the data before the first report is ever submitted so that they are confident of how the numbers will look in future reporting periods.
No substantive change in financial reporting rules comes without risk, and modifications to climate-related financial disclosures are no exception. These risks are varied. There can be economic, legal, and reputational risks if disclosures do not meet the required standards.
The change in the SEC’s guidance on climate-related disclosures cannot be underestimated. When the time comes, all eyes will be on CFOs to comply and, through new reporting requirements, demonstrate their businesses are best positioned to transition to low-carbon business models.
However, there is a long road ahead, and standardization and agreement on the particular reporting mechanisms will not happen overnight. Given the importance of the new disclosures, it is in the best interests of CFOs to start preparing now so that they have a voice in the new standards’ development.
Joe Euteneuer is a board member and a former CFO at some of the largest publicly traded technology, telecom, and cable corporations. He has held CFO roles at Mattel, Sprint, XM Satellite Radio, and Comcast.
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