SEC Chair Gary Gensler would prefer that climate change disclosures be placed in the annual reports on Form 10-K.
This means that a higher standard of scrutiny will apply to the information.
But Gensler emphasized that this is only his view. There are four other commissioners, and it is likely that Republican Commissioners Hester Peirce and Elad Roisman will disagree.
Companies prefer to have environmental, social, and governance (ESG) matters, including climate change, outside regulatory filings with the SEC. This is because if the information is filed, not furnished, investors will be able to bring suits more easily for faulty or misleading information.
The chair’s remarks come as the commission staff is currently preparing a proposed recommendation for the five commissioners to consider. While the timing of a proposal is not clear, Gensler previously expressed interest in getting a proposal done by the end of the year.
He shared his views while he was answering a question by former SEC Commissioner Robert Jackson during an October 19, 2021, webinar about whether the market regulator will work with the PCAOB or another audit standard-setter to make sure climate risk information is assessed and audited consistently across the capital markets.
“I wouldn’t want to get ahead of the process, but as we put something out to proposal, the investing public, the issuing companies can all weigh in. I would hope also, as you mentioned, accountants and auditors to the extent they have good advice for the commission,” Gensler said during a fireside chat hosted virtually by New York Law School where Jackson is currently a professor.
“The key part of the question, about accounting auditing, we have been discussing with and thinking about in this space where such disclosures would be appropriate,” Gensler said.
In response to then-Acting Chair Allison Herren Lee’s request for comment on climate change and other ESG rules, many of the 550 comment letters supported Form 10-K filings. But some said they should not be in annual reports while others said the sustainability information should be just kept on the company’s website. Currently, sustainability reports are voluntary.
“But one of those things that you just phrased was about auditor assurance or attestation. That’s why I would like to not get in front of the commissioners,” Gensler said. “My resting foot is more towards mandatory than voluntary and more towards being inside the annual reports where you have some assurance, there’s a control environment. And we have really for decades a certain rigor that goes into the management’s discussion and analysis or the risk factors that are inside of an annual report.”
Too Focused on External Reporting?
In the meantime, the ESG conversation has mainly been on external reporting for public consumption. And the Institute of Management Accountants (IMA) believes that other aspects of the ESG question can get lost in the dialogue.
“There’s a lot of external reporting, a lot of it is compliance-oriented, SEC-mandated reporting; that’s an important aspect, important component of accounting. But we can, as an ecosystem, emphasize external reporting so much that we are too focused and driven by that mindset rather than [on] the question of what we are calling actionability, particularly when we are talking about ESG reporting,” Shari Littan, director of corporate reporting research and policy at IMA said in a recent interview.
In particular, Littan said that in this new ecosystem, we must understand that the resources of an accounting and finance departments are not limitless.
“So, in order for the department itself to be sustainable, the information that is getting produced…[and] be acted upon by the company, the demand for more and more and different types of ESG externally reported information not take away so much of our resources,” she said, so that “we [can keep] discovering new ways to respond in a sustainable way, in a more efficient way, in a more responsible way. We have the opportunity to use our talent, resources in accounting and finance to do just that.”
She explained that the market rightfully wants the ESG information, but there is more to what creates a high-performing company than what is being captured by conventional accounting today.
“I think everyone would generally agree that there are things that are not being captured, particularly intangible value, relationships that bring us cash flows in the future, loyal customers bring cash flows in the future, committed employees are part of how we generate value for the business,” she said. “And those things have yet to be captured by conventional mainstream accounting and reporting.”
However, today, the market and the demand are fragmented. And fragmentation brings on burden. Information is requested by multiple parties—from investors to ESG data aggregators to scorers who all want different types of information. There are also multiple disclosure frameworks set up by standard-setters.
This is happening because the system is not yet mature, in Littan’s view. “In order to get to that maturity, less fragmentation would be better,” she said.
When asked whether the SEC stepping in would provide more clarity and consistency in the ESG ecosystem, Littan said that that is an ongoing debate.
“On the one hand, there are members of our profession who tend to dislike regulation, mandated reporting. And for some reason, it can create an ecosystem of compliance mindset,” she said. “On the other hand, what it can do is reduce fragmentation in saying ‘ok, we are not going to have all these standards; here’s what we are going to do with at the moment.’”
SEC Ready to Step In
At least for SEC Commissioner Lee, the agency has a clear role to play.
“One important role the SEC serves is to help ensure that decision useful information gets into the markets in a timely manner by, among other things, setting public company disclosure standards,” Lee said during a webinar hosted by the Principles for Responsible Investment (PRI) and London Stock Exchange Group on October 20.
Because there has been a lot of work done by private sector organizations and others around the world, she said that the SEC does not have to start from scratch.
“The quantity and quality of climate disclosure has increased significantly in the last decades or so in large part because of the efforts by investors seeking that disclosure, issuers in responding to investor demand and voluntary framework and standard-setters like PRI and others, and their efforts to facilitate that interchange,” she said.
This means the SEC can now build its work from the work that has already been done. And in her view, it is at a point where regulatory involvement can optimize results.
“Because of this work, regulation can now pick up the baton to help achieve what a voluntary system cannot. That is consistent, comparable, and reliable disclosure: disclosure that works for investors, provides certainty for issuers, and provides fundamentally important transparency around the systemic risk posed by climate change,” she said. “As we move forward with regulatory efforts, it’s important that we continue to hear from market participants and the public and continue to leverage the expertise and the hard work that’s already been done.”
This article originally appeared in the October 21, 2021 edition of Accounting & Compliance Alert, available on Checkpoint.
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