Last week, a House Financial Services subcommittee held a hearing with the ominous title “Oversight of the SEC’s Proposed Climate Disclosure Rule: A Future of Legal Hurdles.” Billed as oversight, the hearing certainly highlighted the gauntlet that the SEC would have to run if the rules were adopted as is. Not that SEC Chair Gary Gensler wasn’t already well aware that the climate proposal is facing a number of legal challenges. Will this gentle “reminder” by the subcommittee, together with recent court decisions, perhaps lead the SEC to moderate some of the most controversial aspects of the proposal, such as the Scope 3 and accounting requirements? The witnesses were a VP of the National Association of Manufacturers, counsel from BigLaw, a farmer and an academic.
[Based on my notes, so standard caveats apply.]
A common theme at the hearing was the issue of the SEC’s legal authority to adopt the proposal. The witness from the law firm contended that the SEC did not have the authority, citing the “major questions” doctrine enunciated by SCOTUS in West Virginia v. EPA. (See this PubCo post.) Not to mention that familiar refrain: that, if adopted, the proposal would, in his view, violate the First Amendment by compelling speech.
What’s more, the counsel contended, Congress delegated authority over climate to the EPA, not the SEC. Besides, the SEC has already issued guidance on the disclosure issue, rendering the rules unnecessary. The proposed rules would effectively require companies to engage outside expertise and would harm investors by requiring disclosure of a lot of useless information, obtained at great expense, with no benefit, he said. Moreover, he argued, the proposal would violate the APA because the SEC’s cost-benefit analysis was inadequate, much like the analysis for SEC’s stock repurchase disclosure rules that were just overturned by the Fifth Circuit (see this PubCo post). Finally, he suggested that, if adopted, the proposal would discourage many companies from going public. Overall, he said, the climate proposal represented an “undemocratic power grab.”
Some of the subcommittee members also chimed in on the issue of legal authority. The subcommittee chair contended that nowhere had Congress delegated the issue of climate to the SEC, and SCOTUS was now in the process of reexamining the boundaries and the balance between agencies, Congress and the judiciary in the recent cases on Chevron deference. (See this PubCo post.) The chair also agreed about the inadequacy of the cost-benefit analysis, noting that the SEC’s analysis had dramatically underestimated the potential costs involved. There may well be a number of SEC rules that are overturned on this basis, he said, consistent with the Fifth Circuit decision to vacate the SEC’s stock repurchase disclosure rules because of an inadequate cost/benefit analysis. Other Republican members agreed that the action by the Fifth Circuit may find parallels here. The simple finding that the rules may provide a benefit is just not enough; the SEC must substantiate that there is a need for the rule. The chair also expressed concern about the privacy of the data provided through the value chain—unintended consequences are often the hardest to address, he warned.
The representative from NAM railed against the cost to businesses of all regulation, giving an aggregate figure of $3 trillion every year and $29,000 per employee annually; the number for smaller companies was even higher. The climate proposal would add more, but much of the information required was immaterial and far exceeded what investors needed to know; it was unclear that it would benefit investors. Much of the cost of Scope 3 would fall on smaller companies, he said, yet the SEC has admitted that it can’t quantify the cost of Scope 3 compliance. While the SEC has purported to quantify the cost of compliance with the proposal’s accounting requirements at $15,000 annually, he contended that there was no way that would be the case.
Republican subcommittee members agreed that the proposal could have a damaging impact on business and that it disregarded the standard for materiality. Moreover, public companies, they said, are already required to disclose material information. One subcommittee member characterized the proposal as a “weapon” that the SEC will use to punish companies with fines. In addition, another member thought that the rules would result in a misallocation of capital. One member said that the TCFD framework, on which the SEC proposal relies in part, was written by activists; while many companies use it voluntarily, the proposal would mandate its use. One member characterized the proposal as “hyper-aggressive,” the most aggressive since Dodd-Frank. He advocated restructuring the SEC so that there would be a 3/3 balance, eliminating the position of Chair. In his view, Gensler was trying to mess up the markets. And in this case, the SEC was definitely acting outside of its lane.
The proposal’s Scope 3 requirement drew a lot of attention. The witness who runs his family farm said that the Scope 3 requirement would adversely affect his farm; even though it is a private company, it is in the value chain for public companies and would, in effect, be indirectly compelled to provide responsive data. While, at the farm, they have taken some actions to support the environment, they do not have the staff to collect and calculate the data responsive to Scope 3. And, farms will, in many cases, he said, be required to absorb the costs, perhaps eventually leading to more consolidation. The subcommittee’s ranking member reminded the group that Gensler had said in prior testimony that it was not the SEC’s intent to subject private farmers to the reporting requirements. The subcommittee chair responded that intent is one thing and actual application is quite another. In his view, a lot of farmers will be scooped up the regulations. A number of subcommittee members declared their farming bona fides, with several Republican members expressing their concerns about the impact of the proposal on farmers. Investors, the chair said, are just one segment of the universe.
The subcommittee’s ranking member characterized these criticisms as an “attack on investor protection.” Businesses have already begun to experience the negative effects of climate change, citing the example of a plant that recently had to close down because of overuse of groundwater. The disclosures that companies make now are very general and vague, and lack standardization. The SEC’s proposal would address those issues. The SEC, he argued, is not seeking to regulate climate. Regulations related to climate itself have been left to the EPA, but the SEC has authority over disclosure. In addition, he observed, the SEC may seek the assistance of experts. When the oil and gas disclosure regulations were codified, the SEC relied on industry experts. Here, the SEC used the technical expertise of bodies such as the Task Force on Climate-Related Financial Disclosures. All agencies will address the issue of climate in different ways. This attack, he said, was just “part of the Republican playbook”; they were offering no constructive solutions.
Other Democratic members contended that the SEC’s authority was clear from the securities laws adopted in the 1930s, as well as from legislative history and rulemaking practices. Congress has relied on the SEC’s expertise, giving the SEC broad discretion to determine what types of rules are required and how to calibrate them. If it had wanted, Congress could certainly have passed restrictions on the SEC, but it hasn’t done so. In addition, one member observed, no court has ever invalidated an SEC disclosure rule on the basis that the SEC had exceeded its authority. In terms of the impact, it was important to keep in mind that thousands of companies would already be required to comply with climate disclosure requirements, including Scope 3, that have been adopted in Europe and in California. In those cases, the marginal cost of complying with the proposal would likely be zero. Others reiterated that climate change information is warranted because it is material. Climate change has led to irreversible damage, with major insurers pulling out of several states because of the financial risk. Even under Basic v. Levinson, one subcommittee member argued, a reasonable investor would view it as important. Further, one member also pointed out that the SEC has gone to great lengths seeking feedback; so far there have been 372 meetings with staff and 178 with the Chair.
The witness from academia concurred that the SEC’s rules were much needed; they were not concerned with regulating climate change, but instead were designed to provide valuable information to investors, particularly about transition and other climate risks that companies face, such as the water crisis. Many companies want to see new rules, he said, because they want legal certainty. The problem with voluntary disclosure, he said, in addition to lack of comparability, was that companies were often reluctant to disclose negative information. Rules would mandate that disclosure, including information regarding risk management. In addition, he argued, the rules would help with market efficiency because they facilitate price accuracy and discovery. Unlike in Europe, the proposal does not require the application of double materiality and adds several safe harbors.
