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Article | Executive Pay Memo North America

What the SEC's proposed climate disclosure rules mean to HR and compensation professionals

Medioambiental|Governance Advisory Services |Executive Compensation
Climate Risk and Resilience

By Don Delves , Steve Seelig and Jonathan D. Weatherly | April 21, 2022

Surprise, HR and compensation professionals — you now "own" climate.

The SEC’s recently released proposal for Climate Related Disclosure for Investors is one of the most extensive set of disclosure regulations to be released in many years. It will affect virtually every US-filing company, and many quite substantially.

Compensation and human resource professionals should be prepared to be involved in a number of key ways:

  • Understanding – It is important to have a basic understanding of the proposed rules, language and areas of focus. If these rules are implemented, they will quickly become part of our daily business lexicon and decision-making process. A brief – and hopefully memorable — outline of the key components of the rules is provided below.
  • Alignment – Climate related issues are extremely controversial, with wide ranges of understanding and opinion about importance, materiality, levels of risk and opportunity, urgency and priority. Board members, executives, managers and employees will all have their own views and levels of understanding. That variability perhaps was fine before the SEC announcement. Part of the job now for the HR professional will be to help foster greater alignment and understanding among and across these and other groups. This may be done with employee sensing, polls and focus groups to gauge the degree of alignment and then providing education and discussion forums targeted at key climate issues that are most pertinent to the company.
  • Accountability and engagement – Many companies have made — or will make – meaningful commitments to lowering carbon emissions, reducing climate-related risk, or other long-term goals. Actionable metrics and targets will need to be developed, built into business goals, translated into team and individual objectives, and incorporated into performance plans and incentives.

    Key takeaways

    • Regulating climate disclosures
      The SEC's new proposal for climate-related disclosures is extensive and will affect every public company in the United States.
    • HR will play a key role
      If the proposed rules go into effect, HR and compensation professionals will be tasked with aligning the organization and holding key stakeholders accountable and engaged via goal setting and incentives.
    • Support through hiring and talent development
      HR professionals will need to find climate expertise and risk management skills in the market or develop them internally.
    • Managing governance and board relations
      HR and compensation professionals regularly interact with the board and its committees and will be asked to help determine that company employees and the board have the needed expertise to address climate-risk issues, and to provide information on these issues.
    As with any new corporate objective, some business units, teams and individuals will have greater accountability than others for their achievement. Compensation and HR professionals will help build these goals and measures into how people and teams are evaluated and rewarded.
  • Hiring and talent development – The proposed rules require significant discussion by the company on the skills and expertise it has in various climate and risk areas. Experts in climate science, risk management, risk mitigation, new technologies, sustainability and other areas may be needed and may be in higher demand. Compensation and HR professionals will need to be knowledgeable on these positions, skill sets and functions, as well as where to find these skills in the market, or develop them internally.
  • Governance and board relations – One of the key areas highlighted in the proposed rules is governance – board accountability for climate-related risks to the business is highlighted for the first time. Companies will be required to disclose who on their board has climate and risk expertise, which committee(s) addresses climate related risks and strategies, what measures and metrics they review, how they get information from management and make key decisions, etc. HR and compensation professionals regularly interact with the board and its committees, and will be called upon to help determine that company employees and board has the right expertise to be working on climate-risk issues and provide information on the issues outlined above.
A brief summary of the proposed rules

We have provided a more lengthy summary which can be found here. However, some of the key points are summarized below.. However, some of the key points are summarized below.

There are 2 main components of the proposed rules:

  1. Climate risk (and opportunity) disclosure. This follows fairly closely the detailed protocol called Task Force in Climate Related Financial Disclosure or TCFD. There are four main categories of disclosure:
    1. Governance – how the board and management provide governance over climate issues
    2. Strategy – how the company’s strategy will accommodate and incorporate climate issues
    3. Risk management – how the company quantifies, prioritizes and mitigates climate related risks (and opportunities). This includes:
      1. Physical risks – what the climate can do to your company and its assets
      2. Transition risks – risks (and opportunities) associated with the transition to a low/zero carbon environment
    4. Metrics and Targets – what climate-related measures the company uses and discloses, what goals and targets are established, and progress towards those targets.
  2. Greenhouse Gas (GHG) Emissions. These proposed rules follow the GHG Protocol and require disclosure of 3 types:
    1. Scope 1 emissions – those produced by the company in it its operations
    2. Scope 2 emissions – those produced by direct suppliers, mainly of electricity
    3. Scope 3 emissions – those produced up and down a company’s supply chain (NOTE: the SEC acknowledges that disclosure of Scope 3 emissions are much more difficult to quantify and provides both more time to comply and allows for a materiality standard to determine what has to be disclosed.)

Other key aspects of the proposed regs:

  • Materiality – all of the disclosures in item 1 above are subject to the company’s determination of which climate issues and risks have material impact on the business. That is not the case for Scope 1 and 2 GHG emissions, which must be disclosed regardless of materiality — but is for Scope 3.
  • Risk focus – the proposed regulations are very focused on climate-related risk and risk management. Climate-related opportunities can be disclosed, but the preponderance of the regulations are about identifying and managing risk.
  • Financial statement disclosure – the impact of climate-related risks will have to be disclosed in the 10-K, in line items where it is material, and in footnotes. The intent seems to be to bring all relevant climate-related information into the core financial statements (as opposed to CSR and other reports).
  • Commitments – if a company has made a climate-related commitment, like net-zero carbon by 2050, it must provide extensive disclosure as to how it plans to meet that target, and what progress it is making towards the target.

This summary is by no means comprehensive. It is provided as a reference that, hopefully is a bit easier to remember. Again, it is important for all of us HR and compensation professionals to be conversant in this rapidly changing and evolving arena.

A version of this article appeared in Workspan Daily on April 14, 2022. All rights reserved, reprinted with permission.

Authors

Managing Director, Executive Compensation Practice Leader - North America (Chicago)

Senior Director, Executive Compensation (Arlington)

Senior Director, Client Management (Chicago)
ESG Role: Global ESG Products Leader

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