House Committee on Financial Services: Beyond Scope: How the SEC’s Climate Rule Threatens American Markets
House Committee on Financial Services
Beyond Scope: How the SEC’s Climate Rule Threatens American Markets
Topline
- Republicans alleged the Biden Administration was using the SEC to push its climate agenda. Republicans also discussed concerns about the rule’s reporting requirements, compliance costs, and impact on the domestic energy industry.
- Democrats defended the climate rule as beneficial for investors and applauded the SEC for making significant changes to the final rule to address concerns, while still establishing a comprehensive disclosure framework that meets investor demands.
Witnesses
- Elad Roisman, Partner, Cravath, Swaine & Moore LLP and former Commissioner and Acting Chairman of the U.S. Securities and Exchange Commission
- Robert Stebbins, Partner, Willkie Farr & Gallagher LLP and former General Counsel of the U.S. Securities and Exchange Commission
- Chris Wright, Chief Executive Officer of Liberty Energy
- Joshua White, Assistant Professor of Finance, Owen Graduate School of Management, Vanderbilt University
- Jill Fisch, Saul A. Fox Distinguished Professor of Business Law, University of Pennsylvania Law School
Opening Statements
Financial Services Committee Chair Patrick McHenry (R-N.C.)
In his opening statement, McHenry blasted the SEC’s climate rule as an attempt by the Biden Administration to force its climate agenda on the public through financial regulations. He emphasized that the SEC is not a climate regulator, nor should it be. McHenry cited the judge in the Grayscale case, who described the SEC as acting in an arbitrary and capricious manner. He explained how the SEC’s final climate disclosure rule would harm markets and job creators by forcing companies to decipher an 886-page rule and increasing costs for public companies by 21 percent by the SEC’s own estimates. McHenry added that the rule would crush everyday investors by limiting investment options and overwhelming potential investors with complex and non-economic information. He said that the rule would lead companies to hire fewer employees, invest in fewer job creating opportunities, and pass higher costs onto consumers. McHenry concluded by imploring Chair Gensler to abandon this regulatory power grab and instead focus on the statutory role of the SEC to protect investors, maintain fair, orderly and efficient markets, and facilitate capital formation.
Financial Services Committee Ranking Member Maxine Waters (D-Calif.)
In her opening statement, Waters explained how the climate crisis impacts the financial health of public and private companies and emphasized that investors have the right to know how companies are responding. She noted that in California, climate change induced wildfires are leading to insurance company withdrawals, premium spikes, cancellations, and other restrictions on coverage for people across the state. Waters said that despite the extreme MAGA effort to ban sustainable investing and ESG, Democrats have pushed the SEC to use its tools to implement a strong climate disclosure rule. She explained how the SEC’s rule would establish a clear framework to standardize climate disclosures. Waters concluded that sustainable investing doesn’t just benefit investors but is also good for business and allows investors the opportunity to consider the true potential risk, rewards, and impacts of investments.
Rep. Bill Huizenga (R-Mich)
In his opening statement, Huizenga described the deluge of new rules and the unprecedented assault on U.S. capital markets in the two years since the climate disclosure rule was proposed. He warned that the SEC lacks clear authorization from Congress to finalize the climate rule and concluded that the SEC’s overreach would significantly hurt the U.S. economy while serving as a boon for special interests and far left activists.
Rep. Brad Sherman (D-Calif.)
In his opening statement, Sherman explained that a material percentage of American investors consider climate related information to be material to their investment decisions. He emphasized that investors want this information and said the government should get it for them while ensuring that it is reliable and comparable.
Testimony
Elad Roisman, Partner, Cravath, Swaine & Moore LLP and former Commissioner and Acting Chairman of the U.S. Securities and Exchange Commission
In his testimony, Roisman outlined how compliance with the rule’s requirements would be a major and costly undertaking for public companies. He noted the requirements would be particularly challenging given the compliance schedule mandated by the final rule. Roisman warned that companies would need to spend significant time and money to analyze, prepare for, and comply with the many new requirements of the final rules, the costs of which will be borne by investors. He concluded that the final rule introduces a prescriptive, climate-related disclosure regime that will result in extensive disclosures on topics that companies have determined are not material.
Robert Stebbins, Partner, Willkie Farr & Gallagher LLP and former General Counsel of the U.S. Securities and Exchange Commission
In his testimony, Stebbins noted that a number of rules recently adopted by the SEC were challenged in federal court, resulting in number of setbacks for the agency in cases involving proxy, share repurchase disclosures, private fund advisors, and securities lending rules. He discussed the legal challenges to the climate rule, which cite the major questions doctrine, the Administrative Procedures Act (APA), and the First Amendment in their arguments. Stebbins concluded that there is a strong basis for the courts to find the climate rule in violation of the major questions doctrine and the APA.
Chris Wright, Chief Executive Officer of Liberty Energy
In his testimony, Wright said he was unaware of any specific investor requests for reporting along the lines of the SEC’s climate rule. He noted that climate change is not within the SEC’s purview, and that criticized the rule for mandating public companies spend considerable resources tracking and reporting impacts from changes in extreme weather events despite evidence from international organizations like the UN’s intergovernmental panel on climate change that reported no significant trend in weather extremes. Wright added that the rule’s regulations will be costly to comply with and will invite litigation from parties seeking to hamper the oil and gas industries. He concluded that the government should not impose a complex regulatory rule with no apparent climate benefit.
Joshua White, Assistant Professor of Finance, Owen Graduate School of Management, Vanderbilt University
In his testimony, White warned that the spillover effects of the climate rule would lead companies to either exit public markets or elect to stay private, thereby reducing capital formation and job creation.
He explained how the rule mandates costly and granular disclosures that are not economically material, including Scope 1 and Scope 2 greenhouse gas emissions. White said Scope 1 and Scope 2 disclosures would provide climate information that does not change stock price valuations for most investors. He added that the SEC failed to make a convincing economic argument for prescriptive disclosures, as the existing principles-based system already mandates that registrants disclose material climate information. White concluded that the climate disclosure rule would raise the cumulative disclosure burden for public companies by twenty percent and asserted that the SEC’s final cost estimates are too low.
Jill Fisch, Saul A. Fox Distinguished Professor of Business Law, University of Pennsylvania Law School
In her testimony, Fisch explained that when adopting federal securities laws, Congress explicitly recognized the importance of market integrity to the broader public interest. She noted that the proposed climate rule focuses on material climate related risks and the impact of those risks on operations. Fisch said voluntary disclosures are often inconsistent, incomplete, inaccurate, and unreliable, and explained how the rule increases standardization and comparability of key climate-related disclosures, which reduces search costs and increases reliability. She emphasized that the rule limits disclosures to information that’s material to investors and explained that the rule does not mandate any change in business operations, instead focusing on a small subset of sustainability considerations that market participants have identified as most important. Fisch noted the rule prioritizes disclosures where the potential for greenwashing is high, including targets and transitions plans. She concluded that the SEC did not adopt the climate rule in a vacuum and flagged that the agency could have been more ambitious in its disclosure mandate.
Question & Answer
Negative Impacts of the Climate Rule
McHenry noted Wright’s position as an executive at a firm where he deals with securities regulations as well as environmental regulations from different agencies. He then asked Wright when you have a securities regulator acting as an environmental regulator, as the SEC is doing, what level of complexity that adds and what the distinction between the two types of rules are. Wright explained that they are quite different, and that different people work on compliance with each type, with accountants and lawyers on SEC regulation and a large technical team that works with state and federal regulators on environmental regulations. He said that with the SEC getting into the very complex area of greenhouse gas emissions, they were bound to get it wrong and that greenhouse gas emissions largely come to guesstimates.
McHenry asked if “guesstimates” were sufficient with regard to securities disclosures, and Wright said no. McHenry expressed concern that under the same penalties of violating other SEC regulations, CEOs like Wright would need to sign off on and then be held responsible for these “guesstimates” on greenhouse gas emissions. Wright said that particular issue is his primary concern and that the rule will invite litigation risk and take resources and effort away from lowering greenhouse gas emissions and put them toward reducing litigation risk.
McHenry asked Roisman to speak to the materiality standard as the underpinning of securities law. Roisman said that materiality is the concept that there is a substantial likelihood information is material if a reasonable investor would consider it important in making an investing or voting decision or that a reasonable investor would find the omission of that information to significantly alter the total mix of information. McHenry stated that the climate rule is different than the longstanding use of materiality. Roisman said that the level of prescriptive disclosure makes the rule unlike any rule he is aware of.
Rep. Frank Lucas (R-Okla.) asked how the rule goes beyond the purpose of securities regulation. Wright answered absolutely and said the rule would lead to his company getting sued more often, while making it harder to do business in the energy industry. He also explained that his firm backed a small company with an investment, and that because his firm is now its dominant investor, that small company will be required to figure out how to count their greenhouse gas emissions instead of running their small business.
Huizenga asked why Wright decided to stick his neck out in opposition to the rule. Wright said the rule impacts our energy system as a whole, and that he did not understand the benefit of a bureaucratic reporting rule that will only open up his firm to being sued.
Rep. Pete Sessions (R-Texas) asked how the SEC’s mission statement conflicts with the rule’s proposal to increase costs by 21 percent. Wright noted that there are less than half as many public companies today as there were a few decades ago. He said that making it harder, more expensive, and riskier to be a public company reduces investor choices and options. Wright concluded that while the SEC plays a critical role in building confidence in markets, he struggled to find anything positive about this rule.
Sessions asked how the SEC can claim to support small businesses when they are proposing raising costs by 21 percent. Fisch said the rule broadly exempts smaller reporting companies and emerging growth companies from the vast majority of the reporting requirements, which is consistent with the SEC’s long-standing practice. Sessions discussed his concerns that a 21 percent increase for large companies would work its way down to the smaller companies they work with.
Rep. Emanuel Cleaver (D-Mo.) asked whether the rule requires companies to reduce emissions or make any changes to address the risk identified. Wright explained that the rule makes his company change what people in his company do as his firm will now have to spend a lot of time gathering data that they can’t gather precisely and emphasized that the biggest issue for them is the transition risk, which is essentially just regulatory risk from the government in the future.
Rep. Ann Wagner (R-Mo.) asked how private companies are impacted by the climate rule. Wright said his firm invests in small companies that have exciting technologies that can make the energy system better, and that many of the firms he has invested in will now fall into his company’s greater accounting due to the rule, requiring him to tally their emissions.
Rep. Andy Barr (R-Ky.) asked whether the rule’s additional reporting costs and litigation risks would enhance or diminish the financial performance of energy firms. Wright said that the rule would diminish energy firms’ performance. Barr asked whether the rule would protect or harm his company’s shareholders. Wright said it would harm them.
Barr asked about the rule’s impact on U.S. energy markets. Wright said the rule would lead to less production in the US and increased imports from countries with almost certainly higher greenhouse gas emissions from their production processes. Barr asked if the rule would impact the competitiveness of U.S. energy markets relative to foreign energy producers. Wright said yes.
Barr also asked if the rule would help facilitate capital formation in the energy sector. Wright said it would not.
Barr asked Roisman to elaborate on the effect the rule would have on small public companies. Roisman explained that while smaller firms are exempt from Scope 1 and 2 emissions disclosures, they will be responsible for the Regulation S-K and Regulation S-X disclosures.
Rep. Roger Williams (R-Texas) asked how the climate rule would increase costs and burdensome compliance requirements for public companies. White noted that the SEC predicted the disclosure would increase direct costs by twenty percent. He also discussed the rule’s indirect costs, in terms of legal liability and the dampening effect on capital formation.
Williams said the rule’s increased reporting requirements and compliance costs will serve as a barrier to entering into global markets for smaller companies. He asked about the impact of these costs on American companies, particularly smaller companies, who are trying to compete globally. White said regulations always have a disproportionate effect on small companies. He predicted companies would stay private longer or move to other jurisdictions, causing the U.S. to lose competitiveness on the global stage.
Williams said the rule would force companies to shift their resources towards compliance while sacrificing key services enjoyed by their shareholders. He asked how the rule would deter companies from going public. Stebbins said rules aren’t passed in a vacuum, and said the rules passed by the SEC, including the climate rule, make it harder for companies to go public.
Rep. John Rose (R-Tenn.) asked if public workers and retirees could expect to see any net financial benefit in their assets or managed funds as a result of the climate rule. White said pension funds and retirement funds have a duty to maximize their returns and explained that this rule would be detrimental to them. He noted that additional disclosure burdens would have limited benefits and impact returns negatively.
Rep. William Timmons (R-S.C.) noted that a recent paper about the economics of ESG disclosure regulations found that climate related financial risks are not as significant as other risks, including interest rates, inflation, and recession risks where granular, prescriptive disclosures are not mandated. Timmons asked if the climate rule could mislead investors into believing that climate risks are more significant than other risks. Stebbins agreed and said there is a concern that the rule is trying to push certain behaviors and make companies and boards act in a certain way. Timmons asked if the rule would disadvantage U.S. businesses in global markets. Stebbins said yes.
Rep. Andrew Garbarino (R-N.Y.) asked about the impact an increase in compliance costs would have on public companies. White said companies that are already public will lose value by spending more time on compliance. He added that the rule would also limit companies from going public and harm investors because they have fewer opportunities to diversify their portfolio. Garbarino asked about the impact the rule’s compliance costs would have on American competitiveness. White said the rule would result in tax revenue and human capital leaving the U.S.
Rep. Scott Fitzgerald (R-Wisc.) warned that the rule’s exemption for smaller reporting companies is far too narrow, causing the rule to impact many smaller and medium-sized manufacturers. He discussed his concerns that the litigation risk would prevent companies from going or remaining public.
Rep. Young Kim (R-Calif.) said she was concerned that the SEC’s regulations will increase compliance costs and disincentivize private companies from going public. Kim asked about the difficulties companies would face complying with different rules from multiple jurisdictions. Roisman said the rule would increase costs and require additional outside expertise.
Kim asked if California should set federal securities policy. Roisman said the SEC and Congress should set federal rules.
Rep. Mike Flood (R-Nebr.) asked what the newfound focus on climate means for Wright’s company and others in the energy business. Wright said the rule would bring increased complexity, cost, and risk, resulting in fewer new companies, and less capital and production in the U.S.
Rep. Zach Nunn (R-Iowa) asked if the climate rule would help main street investors access capital. Wright said no. Nunn asked if the rule would put US markets at a disadvantage. Wright said yes. Nunn asked whether the climate rule would face similar challenges to the stock buyback rule, which was recently vacated. Wright said yes, citing the APA, First Amendment, and major questions doctrine.
Support for the Climate Rule
Rep. Brad Sherman (D-Calif.) said that he agrees with the assertion that all the burdens of these regulations fall to public companies, and that he believes the Committee should consider legislation so that multi-billion-dollar private companies are also required to make climate disclosures. He also addressed concerns about the costs associated with the rule saying that many of these firms already make disclosures because of their business footprint in Europe and compliance with state regulators.
Rep. David Scott (D-Ga.) asked if the SEC’s climate rule encompasses a strong set of standards that meet investors’ demands, as well as companies’ need for clarity. Fisch said yes and explained that investors are not currently getting the information that they need. Scott asked if registrants can and should be prepared to make the disclosures before the final rule requires them to do so. Fisch answered yes and noted that technology has improved since the rule was proposed two years ago, while adding that many more companies are disclosing this information voluntarily. She also said that other regulators are going to demand this information regardless of what the SEC does.
Rep. Stephen Lynch (D-Mass.) asked Fisch to discuss the advantages of the rule, besides the climate context. He also asked if the rule would harm the integrity of our markets. Fisch explained that the rule responds to a real and long-standing investor demand, which is consistent with protecting the integrity and reputation of our markets. Lynch asked Fisch to provide examples where greater disclosure requirements helped the investor and the integrity of the industry itself. Fisch replied that one of the advantages of a broad disclosure is that it allows the market and investors to make broad comparisons with uniform information.
Lynch asked whether investors need to know the risks when making investment decisions. Fisch said yes. Lynch asked if it’s accurate to say that the is not a departure from the SEC’s mission, given that climate change is a tangible risk that will impact all companies. Fisch agreed, and explained how the SEC’s disclosure mandate ensures that investors get all the information that they need, including material risks and how management is identifying and responding to those risks.
Rep. Al Green (D-Texas) asked how the climate rule would protect retail investors who could struggle to obtain or interpret climate-related risk information. Fisch explained that retail investors are regular people, not institutional investors like mutual funds or retirement plans. She noted that institutional investors have an obligation to satisfy individual investor preferences and they need the information to do so.
Green asked whether retail investors have the resources to acquire climate data. Fisch said no, emphasizing that mandatory disclosures create a level playing field for all investors. Green asked if there was a way to level the playing field without requiring disclosures. Fisch noted that Congress decided that mandatory disclosures are the most efficient system for getting necessary information to investors.
Rep. Joyce Beatty (D-Ohio) said Congress should not ban the information American consumers and investors want just because it does not serve a particular political agenda. She noted that the SEC made significant changes to the final rule to address concerns, while still establishing a comprehensive disclosure framework that meets investor demands.
Beatty asked about the resulting benefits if the SEC harmonized its disclosure rules with other countries, like the EU. Fisch said this would allow companies to have a standardized set of disclosures and auditors, which would greatly reduce the cost and simplify matters for investors.
Rep. Juan Vargas (D-Calif.) asked how the rule was consistent with the SEC’s mission to protect investors, maintain fair markets, and facilitate capital formation. Fisch explained the rule requires the disclosure of information that investors have been demanding with respect to business risks and sustainability challenges. She said investors don’t currently have this information and giving them access to it would produce more efficient markets. Fisch added that part of the SEC’s mandate is to provide meaningful disclosures so that investors can elect directors that monitor material risks. She concluded that strong markets make it easier for companies to raise capital.
Rep. Sylvia Garcia (D-Texas) said the rule’s required disclosures promote better transparency to inform consumers and investors and help industry track corporate and ESG governance goals. Garcia asked how many of the investors who filed comment letters on the rule supported climate change disclosures. Fisch said 99 percent of investors supported Scope 1 and 2 disclosures, while 97 percent supported Scope 3 disclosures.
Rep. Rashida Tlaib (D-Mich.) asked Fisch to compare the EU’s reporting standards with the SEC’s final rule. Fisch said the EU’s standards are significantly more demanding, as they require disclosure of Scope 1, 2, and 3 emissions. Tlaib asked if the SEC’s rule would merely require American to copy what they have already provided to the EU. Fisch agreed, noting that a number of American companies are already subject to the EU’s rules. Tlaib asked how California’s reporting requirements compare to the SEC’s climate rule. Fisch said California’s rules are more demanding than the SEC’s rule and also apply to private companies.
SEC Process Criticism
Rep. French Hill (R-Ark.) asked if Stebbins was still general counsel at the SEC if, given the massive changes the proposal underwent between proposal and finalization, he would’ve recommended a re-proposal. Stebbins said he would have at least recommended the SEC send the rule back out for comment and that he thinks the rule was substantially changed with the removal of Scope 3 requirements and other provisions and that in many ways it is a new release. Stebbins explained that the items that were removed were primarily focused on Scope 3, possibly to the exclusion of other topics commenters would have otherwise provided feedback on. He concluded by saying that he would’ve recommended re-proposal.
Hill then asked about the share repurchase disclosure rule that was vacated and cited the Fifth Circuit’s decision, saying that the SEC failed to conduct a proper cost-benefit analysis. He then asked if the SEC is required to do a cost-benefit analysis. Stebbins said yes and said the rule was vacated on two grounds; failure to conduct proper cost-benefit analysis and failure to show a problem existed.
Scope III Emissions
Lucas asked whether public companies would still need to collect supply chain greenhouse emissions data despite the removal of most Scope 3 emissions requirements. Roisman explained that if a company decides that they have a climate related goal, they are required to provide investors with information on their progress. He said that even if there is no line-item disclosure, companies are still going to have to talk about Scope 3 emissions. Stebbins reiterated that if companies have set goals, they are going to have to consider Scope 3 emissions.
Huizenga asked about the rule’s effects on Scope 3 emissions, despite the fact that they were removed from the final rule. Stebbins said Scope 3 is going to be implemented based on the adopting release, adding that since most companies have a transition plan, Scope 3 will come into play for them.
Wagner asked what the SEC could have done to fully prevent companies from making Scope 3 emissions disclosures, and whether the SEC could have preempted compliance with other jurisdictions, like California, that require Scope 3 disclosures. Roisman said they could have either preempted compliance with other jurisdictions or made an explicit statement in the rules saying that they do not require any Scope 3 disclosures. He continued saying that some companies will have to seriously consider whether they need to provide Scope 3 disclosures.
Wagner asked Roisman why the uncertainty surrounding the future of Scope 3 emissions disclosures concerns him. Roisman noted the SEC has talked extensively about the difficulty of tracking and assessing this information. He added that companies are concerned there is no well-known or easily and precisely quantifiable way of measuring these emissions.
Wagner asked what costs the SEC left out of its analysis of the rule to artificially lower costs. White said the SEC left out the cumulative external burdens under the paperwork Reduction Act and that this led the rule’s cost estimate to be reduced from $6.4 billion to only $600 million. He acknowledged that some of the reduction was due to the removal of Scope 3 emissions, but that alone would not account for a 90 percent reduction in total cost.
Beatty asked how the SEC made the final rule’s requirements less burdensome. Fisch noted the SEC eliminated the requirement that Scope 3 emissions be disclosed, even if they are material, and also reduced the number of disclosures required as part of the financial statements.
Additional Disclosures
Sherman said that he wanted to focus on disclosures about a company’s workforce, and noted the importance of these types of disclosures as share value has continued to shift off balance sheet. He then asked if the US should require companies to report information about their workforce including turnover rates, employee training expenses, and DEI efforts. Fisch said absolutely and explained that investors have been asking the SEC for years for disclosures on a range of issues including human capital management.
Waters said she was disappointed that the final rule fell short of the original proposal by exempting big banks and insurance companies from disclosing their greenhouse gas emissions if they decide they are not material. She asked whether this was an area where the SEC could improve the efficacy of the rule in the future. Fisch said yes and emphasized that the announcement of targets and transition plans without underlying information is greenwashing and outright fraud. She reiterated that investors need this information to determine whether a company is actually monitoring the goals that they have announced.
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