The Securities and Exchange Commission (SEC) voted 3 to 2 to approve the publication of an interpretative release to provide disclosure guidance to public companies concerning climate change. Signed on February 2, 2010, the Guidance is not a new rule and does not change the Commission’s existing disclosure requirements, but it does suggest that the SEC is going to take a hard look at companies’ public disclosures related to the controversial topic of climate change. SEC Commissioner Walter confirmed this approach at the meeting approving the guidance when she said, “I strongly request that across the board our filers step up their disclosure efforts immediately in light of our most recent guidance.” The Guidance, however, leaves companies wondering what to do. Determining the appropriate disclosures will require careful analysis of existing and pending laws and regulations, up-to-date modeling of climate change, and whether those factors may have a material affect on the company.

SEC Considers Climate Change

The Guidance does not define climate change but uses the phrase as shorthand for an array of environmental factors that currently garner public attention. These factors include the emissions of greenhouse gases such as carbon dioxide and methane, the impact of those emissions on the environment, including global warming, that may cause changes in the distribution of rainfall and crop production as well as the increase in global ocean levels.

The SEC studiously avoided making an official finding about the facts of climate change. In introducing the topic, SEC Chairman Mary Schapiro said, “the Commission is not making any kind of statement regarding the facts as they relate to climate change or global warming.” Nonetheless, Commissioners Kathleen Casey and Troy Paredes expressed concern that the SEC was taking a position on the climate change debate outside the Commission’s area of expertise and that the Guidance did not give a balanced picture of the debate over the fact and causes of global warming. Given the variety of other potential factors that affect businesses, Commissioner Casey observed that there was “no credible reason to single out climate change” and that the purpose of the Guidance was more to “drive environmental policy objectives” than to improve protection of investors.

Guidance Describes Disclosure Requirements

Public companies should carefully consider the issues discussed in the Guidance in connection with the requirements of Regulation S-K and Exchange Act Rule 12b-20, which requires, in addition to information expressly required by Commission regulation, disclosure of “such further material information, if any, as may be necessary to make the required statement, in light of the circumstances under which they are made, not misleading.” Exactly what a company is supposed to disclose, however, is an open question since the impacts of climate change on business are still highly speculative.

Considering Impact of Legislation

Items 101 and 103 of Regulation S-K refer to costs associated with compliance or litigation regarding federal, state and local laws and regulations “which have been enacted or adopted.” At this time there is a limited number of laws and regulations that have been formally enacted or adopted regarding climate change. Last fall the United States Environmental Protection Agency issued a final rule on “Mandatory Reporting of Greenhouse Gases” (74 Fed. Reg. 56,260, October 30, 2009). This final rule requires many emitters of greenhouse gases to monitor and report their emissions beginning in January 1, 2010. Cost of compliance with this greenhouse gas reporting rule may come within the requirements of Item 101.

Several regions of the country have adopted climate initiatives that may impose their own limitations and obligations and so require disclosure under Item 101. These initiatives include the northeastern Regional Greenhouse Initiative, the Western Climate Initiative, and the Midwestern Greenhouse Gas Reduction Accord. At this time, however, major climate change legislation involving either reductions of greenhouse gases or the “cap and trade” system is stalled in Congress. The fate of that legislation is uncertain. Until a clear picture of the legislation forms, it is difficult to predict its impact on businesses.

Disclosing Risks and Trends

Also uncertain are the long-term affects, if any, that greenhouse gases may have on climate and the physical environment of our planet. The Guidance refers to steps taken by the insurance industry and regulators to begin to assess risks attributable to climate change, but the National Association of Insurance Commissioners acknowledges that detailed climate modeling and its ability to predict specific risks are still evolving.

Item 503(3) requires disclosures of certain risks that affect an investment in the company. Uncertainties concerning climate change, both about legislation and about the physical results, make it difficult for companies to determine an appropriate disclosure.

Item 303 of the Regulation S-K presents an even more perplexing dilemma. Item 303 requires businesses to “disclose known trends, events, demands, commitments and uncertainties that are reasonably likely to have a material affect on financial condition or operating performance.”

According to the Guidance the obligations under 303 require a two step analysis. First, unless management determines that legislation relating to the broad application of climate change is not reasonably likely to be enacted, then management must assume that it will be. Second, assuming that the legislation will be enacted, unless management determines that the legislation is not reasonably likely to have a material effect then disclosure of the potential impacts is required. The Guidance’s position on Item 303 is consistent with Commissioner Walter’s opening remarks and suggests that companies need to invest the time and money to investigate the potential impact of climate change and carefully consider the appropriate disclosures.

For information about how climate change may affect your company contact W. Blaine Early, III, Ph.D., at [email protected].