In late March 2022, the US Securities Exchange Commission (SEC) announced a proposal for heightened regulation for emissions reporting.
This follows the request for public input, which ran from March to June 2021, to help evaluate current measures, which found that 75% of respondents favor mandatory climate disclosure rules.
This groundbreaking proposal for the US marks a victory for the Biden environmental agenda but could force adjustments for businesses.
Dubbed complex and unnecessary by critics, many predict threats of litigation should the proposal be implemented.
Regardless of the outcome, it is a talking point and has already sparked conversations regarding the role of business transparency regarding climate change.
“I think it has already had a significant impact in terms of awareness,” said Alex Lempka, CEO, and Co-founder of Connect Earth. “As regulation becomes more of a topic in the news, businesses tend to respond through adjustments to marketing and announcements of environmental pledges. This is what has happened and continues to happen in Europe. Through that, there’s more transparency towards other businesses and consumers.”
Proposing standardized climate reporting
Currently, climate reporting standards within the US are principle-based and voluntary, resulting in reports which vary wildly.
Many have clung to Environmental Social Governance (ESG) scores (which are also not standardized) to market their sustainability agenda, failing to determine where exactly they score highly. Created as a risk assessment tool, ESGs, for the most part, fail to grasp the actual environmental impact of businesses and instead focus on the sustainability of the company within changing external factors. The scores are also not standardized and can vary according to the assessment board.
The proposed SEC regulations outline extensive disclosure rules required from all US businesses. Narratives will be included in annual reports and new disclosures in the audited notes to annual financial statements. For some companies, a new attestation report will also be required, conducted by an independent expert outlining greenhouse gas (GHG) emissions.
The regulations would be phased between 2023 and 2026, initially applying only to large enterprises, followed by smaller registrants two years later, which are exempt from disclosing scope 3 GHG emissions.
With the new regulations comes added investment. The SEC predicts costs could be as high as $490,000 (smaller reporting companies) to $640,000 (non-smaller reporting companies) in the first year and $420,000 to $530,000 in subsequent years. Additional workload is also predicted, amounting to more than 2,000 hours extra for annual reports.
Higher costs but potentially higher return
The added costs are high, and many are struggling to understand how there could be an upside to the investment for the company. Laura Corb, a Senior Partner, leading Sustainability Practice at McKinsey & Company, said, “Costs can be offset by opportunities for growth given the shifting value pools. In terms of portfolio strategy, consider Danish power company Ørsted. It was a classic utility focused on fossil fuels before the management pivoted the portfolio to become a world leader in offshore wind energy.”
“Incumbents in most sectors have opportunities to build green businesses with new business models. They can also gain market share through product redesign and repositioning and by finding high-growth subsegments to pursue with a green focus.”
“Opportunities exist in green operations that not only help you advance your environmental goals but also reduce costs.”
Europe is slightly further ahead in addressing climate change objectives. Directives for non-financial disclosure requirements, including environmental matters aimed at large businesses, were filed in 2014. This has since been elaborated to create the Proposal for a Corporate Sustainability Reporting Directive (CSRD), with a proposed adoption date of October 2022.
“I think what will hit the US harder than people think is the fact that Europe is going to be so far ahead,” said Lemkpa. “There’s obviously trade happening between the US and Europe. But if US companies aren’t as environmentally aligned as European companies, there will be less of an inclination for European companies to trade with US companies. Goods from outside, genuinely speaking, would have to comply with the EU carbon border standards.
“Because of that, I think companies in the US are going to increase disclosure and comply with environmental standards anyway.”
Fintech is key player in the proposed regulatory environment
In Europe, fintech has proven to play a vital role in creating positive outcomes for environmental objectives. Sitting at the intersection of financial services, which drive the capital to enable and accelerate change, and technology, which drives innovation, many governments have pushed fintech to the top of their agenda in meeting net-zero goals.
A fundamental part of fintech’s role has been positioned in awareness. Multiple innovation initiatives and APIs have been implemented, improving consumer awareness of their carbon footprint, influencing changes in behavior, and driving demand.
“Fintech will drive awareness that the market needs,” said Lempka. “We need the cooperation of the carbon accounting firms, the rating agencies, and environmentally focused projects to make a difference. Fintech is a great sector to combine everything.”
His company, Connect Earth, has taken a decentralized approach, providing solutions that can be embedded into financial products. Currently, their global reach is 60 million people, the equivalent of almost a fifth of the US population.
He explains through this reach. They have the potential to reduce emissions on average by 6% per person through instigating behavioral changes of consumers changing to businesses that are more aligned with net-zero objectives. These changes are driven by increased awareness.
For Lempka, the proposal bodes well for fintech opportunities. “The regulator’s focus on more reporting will lead to more awareness and increased transparency, which will lead to more questions and, eventually, more innovation.”
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