Navigating a New Era of Climate Disclosure: A Strategic Imperative for Board Directors
Understanding regulatory trends in climate disclosure begins with lessons learned from significant past regulatory changes. Consider the transformative impact of regulations such as the Sarbanes–Oxley Act (SOX), enacted to protect investors by enhancing the accuracy and reliability of corporate financial disclosures; the Dodd-Frank Act, aimed at improving financial transparency; and the General Data Protection Regulation (GDPR), which compelled businesses worldwide to bolster data privacy policies. One of the most significant regulatory trends today centers around carbon emissions and climate change. Existing and emerging climate disclosure regulations are fundamentally reshaping businesses globally. It's not just a matter of regulatory compliance or meeting stakeholder demands; it's an opportunity for companies to gain a competitive edge through climate reporting and action, much like how the GDPR turned data privacy into a differentiator.
Importantly, akin to the GDPR, many existing and emerging climate disclosure requirements have extraterritorial jurisdiction, impacting companies beyond their immediate jurisdiction. The following offer examples:
- The European Union’s Corporate Sustainability Reporting Directive will apply to nearly 50,000 European companies and an estimated 10,000 non-EU companies, including approximately 3,000 US companies with significant operations in Europe. This directive will globally impact companies due to its demand for emissions reporting throughout corporate value chains.
- California’s new climate laws, and in particular the landmark Climate Corporate Data Accountability Act, will require more than 5,000 US companies operating in California with revenues exceeding $1 billion to, among other things, annually report their scopes 1, 2, and 3 emissions and obtain independent third-party verification of their emissions reports.
- Effective Jan. 1, 2024, California’s Voluntary Carbon Market Disclosures Business Regulation Act applies to US businesses operating in California that market or sell voluntary carbon offsets or make claims regarding the achievement of net-zero emissions, carbon neutral status, or significant carbon emissions reductions.
- The proposed SEC climate disclosure rule will apply to US public companies, and its effects might extend beyond that, especially if scope 3 emissions disclosure requirements are included. This might prompt companies to request that their suppliers—both public and private—disclose their own carbon emissions data.
The Board’s Role
Boards are responsible for overseeing long-term value creation and risk mitigation. Each company has its own profile of climate-related risks and opportunities, and boards must continually work to understand those and optimize outcomes. Long gone are the days when it was acceptable for a board to take a largely passive approach, such as listening to an annual sustainability presentation from management. The governance concept of “nose in, fingers out” is compelling directors to understand and oversee an increasingly large array of sustainability areas, including carbon accounting and disclosure.
The stakes are higher than ever for many sustainability-related choices, such as those related to science-based targets, net-zero emissions targets, climate pledges, and carbon credits and offsets. Boards are tasked to oversee management’s decisions in these areas in part to mitigate risks such as greenwashing litigation but also to help drive value creation. There is a growing intersection between business choices with a strong financial return on investment (ROI) and a compelling sustainability ROI, including long-term capital and other financial decisions involving procurement of electricity from renewable sources, the electrification of fleets, energy efficiency initiatives, and other energy transition workstreams. By tracking and understanding their carbon emissions, companies can identify ways to reduce their environmental impact and expenses and increase profit. Additionally, carbon accounting and disclosure can help companies attract and retain valuable “sticky” investors and customers who are committed to sustainability, opening new pathways for business success.
Director Liability Considerations
Although the application of a director’s Caremark duties to environmental, social, and governance (ESG) matters is evolving, a board would be wise to take steps to oversee the company's climate risk management systems and controls, monitor compliance with applicable climate laws and regulations, identify and address emerging climate risks and opportunities, and oversee the company's carbon accounting and disclosure practices.
Where Climate Disclosure Oversight Lives
Should climate disclosure be an agenda item for discussion at the full-board level, committee level, or both? There is currently a variety of observed practices in this area. Boards should craft agendas and assign responsibilities, leveraging their directors’ particular skill sets and rhythms, while considering the following:
- Full Board: There is an argument for full-board consideration of multiple sustainability-related issues, especially those that are core to a company’s strategy and risk focus areas.
- Audit Committee: Carbon accounting is like financial accounting in many ways. A company should maintain the underlying data in a secure, traceable, and transparent system of record that can show its carbon accounting work. There should be a robust system of internal controls over sustainability reporting, and the calculated emissions should be subject to third-party audit or assurance. The audit committee's experience in overseeing financial accounting makes it suited for these responsibilities.
- Compensation Committee: A compensation committee is uniquely qualified to drive corporate change by tying a portion of executive compensation (be it for the CEO or other executive officers) to the achievement of certain ESG metrics, such as carbon intensity metrics or diversity, equity, and inclusion metrics, that are relevant to the company’s business.
- Nominating and Governance Committee (or an Additional Committee): Sustainability focus areas can sometimes reside with the nominating and governance committee or an additional committee that many companies have covering one or more topics of concern to the company such as sustainability, risk, strategy, technology, or safety.
Climate Data Should be Treated Like Financial Data
We are witnessing a seismic shift in the corporate governance landscape driven by climate change and climate risk, mirroring the years-long transformative impact of past regulatory milestones, such as SOX and GDPR. With climate disclosure regulations already reshaping operations and value chains, the imperative for transparent, reliable carbon reporting is clear. Effective governance, robust internal controls, and the right technology to ensure traceable, transparent, and reliable carbon data will best position a company to manage risks, secure capital, and excel in the evolving business landscape.
Persefoni is a NACD partner, providing directors with critical and timely information, and perspectives. Persefoni is a financial supporter of the NACD.
Jason Offerman is cofounder, president, and chief operating officer of Persefoni.
Peter Bartolino, NACD.DC, is chief legal officer of Persefoni.