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ESG materiality ranges beyond ‘bottom line’: SEC official

Nov. 15, 2022

Dive Brief:

  • The Securities Exchange Commission (SEC) will look beyond the figures that underlie net income when determining whether a company is in compliance with the agency’s proposed climate risk disclosure rule, an SEC enforcement official said Tuesday.
  • “If the company has really put a lot of emphasis in its marketing around, for example, what it’s doing in the climate space, those are ways that I think it can become material even if you don’t necessarily see that translate to the bottom line,” according to Carolyn Welshhans, associate director of the SEC’s Enforcement Division.
  • “Something can be material to a company — for example specific to that company’s business or its operations — not just as financial statements,” Welshhans said at Securities Enforcement Forum 2022 after noting that her comments did not necessarily reflect the view of the agency. “It’s not just quantitative — it’s not just ‘does something impact the bottom line.’”

Dive Insight:
The SEC is considering public comments on a rule that it proposed in March requiring publicly traded companies to provide detailed disclosures on carbon emissions and climate risk.

The SEC aims to mandate that companies describe on Form 10-K their strategy toward climate risk, including plans to achieve any targets they have set for curbing such risk.

Companies would also need to disclose data on their greenhouse gas emissions, either from their facilities or through their energy purchases, and obtain independent attestation of their data.

Critics say the SEC rule requires disclosures that are not material to investors’ decisions and efforts to manage risk.

SEC Chair Gary Gensler defends the proposed regulation by saying that investors worldwide with $130 trillion in assets are pressing for uniform and consistent disclosures on climate risk.

By following climate risk reporting standards, businesses would gain detailed insights into potential costs and opportunities, Gensler has said.

“If you’re making a statement about ESG [environmental, social and governance performance], the SEC is going to consider it to be material,” according to Kelly Gibson, a partner at Morgan, Lewis & Bockius and former acting deputy director of the SEC’s Enforcement Division. “I know that’s a blanket generalization, but at least from what I’m seeing that’s not a point to argue with the SEC.”

Companies can reduce risk in compliance with ESG regulation by ensuring “you’re doing what you say you’re doing,” according to Gibson, leader of the SEC’s Climate and ESG Task Force from March 2021 until February. “Misstatements are probably the easiest thing for the SEC to charge.”

Statements about ESG must be accurate, consistent and verifiable, Gibson said at the Securities Enforcement Forum 2022. “You have to be able to show your work.”

Gibson recommended several “best practices” in ESG disclosure, including:

  1. Choose language carefully
    “Because the SEC views materiality through this broad lens, it’s important to be careful of the language you’re using in these disclosures,” Gibson said. Companies should clearly define ESG statements within the organization before making any public comments.
     
    Clarity of language is especially crucial in “pronouncements that are definitive or categorical in nature,” such as comments using “green,” “sustainable” or similar terms, she said. “These are things we’re really seeing the SEC drill down on in the investigative side but also the examination side.”
      
  2. Ensure accuracy
    The SEC will vigorously scrutinize comments companies make voluntarily on ESG topics — including sustainability reports and website entries — as well as required disclosures, Gibson said.
     
    “It’s important to keep in mind that voluntary statements need to be true, consistent and accurate,” she said. “There’s a lot of information the SEC is requesting, which means there’s a lot of information they can scrutinize.”
      
  3. Sharpen climate risk oversight
    A company should review its corporate governance structure to ensure adequate oversight of climate-related risks to operations, as well as its goals and transition plans, Gibson said.
     
    The next step is to review climate risk disclosures to ensure consistent communications throughout the company and verify accuracy, she said.

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