In March 2022, the United States Securities and Exchange Commission (SEC) proposed a new climate disclosure rule which would require companies registered with the SEC to disclose climate-related information so that investors can consider climate-related financial risks when making investment decisions. This includes physical risks from the impacts of climate change and transition risks from moving to a lower carbon economy, including pressure to reduce greenhouse gas (GHG) emissions. 

The public comment period for the draft SEC rule closed on June 17. This article reflects some of the key points that WRI and Concordia University shared in our respective comments with SEC. 

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The proposed rule would require companies to disclose Scope 1 emissions (from direct sources) and Scope 2 emissions (from purchased electricity, heat or steam), whereas it would require disclosure of Scope 3 emissions (from other sources in the value chain) when deemed material to investors or when the company has emissions targets that encompass Scope 3 emissions. But scope 3 emissions are an important source of climate-related financial risk across the business value chain and should be reported by all registrants under the SEC proposed climate disclosure rule. 

Scope 3 emissions account for the largest share of most companies’ GHG emissions, and investors report that Scope 3 estimates are useful for informing their financial decisions, reflecting the SEC’s definition of financial materiality. The SEC’s proposed approach aims to “balance the importance of scope 3 emissions with the potential relative difficulty in data collection and measurement.” But many companies already estimate scope 3 emissions, and the SEC’s procedures for disclosing material assumptions and uncertainties in financial accounting could be applied to scope 3 emission estimates. 

Scope 3 emissions account for 75% of companies’ greenhouse gas emissions on average 

The CDP estimated that Scope 3 emissions account for an average of three-quarters of a company’s emissions. But the importance of Scope 3 emissions varies considerably by sector and can approach 100% of a company’s emissions (Scope 3 emissions were estimated to be 99.98% on average for companies in the financial services sector). Other studies show that the supply chains of eight sectors account for half of the world’s GHG emissions and provide evidence that Scope 3 emissions from energy-intensive industries are increasing faster than their Scope 1 and 2 emissions.

Scope 3 emissions are too important to omit

Arguments against reporting Scope 3 emissions focus on data collection and accounting challenges (e.g., lack of primary data, a reliance on industry average data, or potential double-counting of emissions between reporting entities) and the inability to control the actions of value chain partners. Counterarguments emphasize the importance of Scope 3 emissions in understanding climate-related financial risks, facilitating actual emissions reductions within the value chain, preventing companies from claiming lower emissions and related liabilities by outsourcing carbon intensive activities (i.e., ‘moving’ emissions from Scope 1 or 2 to Scope 3), and preventing companies from skirting responsibilities to be transparent to their shareholders about their overall risk exposure, which is especially relevant for industries with a majority of their emissions classified as Scope 3. Proponents also point to existing Scope 3 accounting practices and advancements in Scope 3 data collection as enablers of Scope 3 disclosure.

The debate over importance versus accounting challenges for Scope 3 emissions was evident in public consultations conducted by the Task Force on Climate-related Financial Disclosures (TCFD) in 2021. TCFD surveyed and obtained feedback from 100 climate-disclosure users, 106 climate-disclosure preparers, and 46 other respondents. Nearly all (95%) users responded that Scope 3 emission disclosures are useful for decision-making and most preparers (87%) responded that they estimate or plan to estimate scope 3 emissions.

Preparers identified Scope 3 emissions as one of the more difficult metrics to disclose, with 39% specifying it as very difficult, 42% as somewhat difficult, and only 20% as not at all or not very difficult. The most common challenges identified included difficulty accessing relevant data (83%), challenges selecting or applying calculation methodologies (60%), and lack of internal expertise or resources for calculating Scope 3 emissions (29%). Almost all respondents (90%) expressed support for Scope 3 disclosure (47% irrespective of materiality and 43% based on materiality).

Despite data challenges, thousands of companies publicly disclose Scope 3 emissions estimates

As part of a research study commissioned by World Resources Institute (WRI) — a co-convener of the GHG Protocol — Concordia researchers evaluated the current Scope 3 accounting practices of companies that disclosed climate information to CDP’s global environmental disclosure system and agreed to their data being publicly available. The number of companies that reported Scope 3 emissions in the public CDP dataset increased from 936 companies in 2010 to 3,317 companies in 2021. In 2021, more than half (55%) of companies did not agree to their data being publicly available in 2021. If these companies reported Scope 3 emissions at the same rate as those in the public data set, we would expect the actual number of companies reporting Scope 3 emission estimates to CDP to be higher than 7,000. Also, as seen in the TCFD consultations, more companies estimate emissions than disclose emissions. We would therefore expect an even higher number of companies that estimate Scope 3 emissions.

We consider companies to report scope 3 emissions if they report emissions for one or more of the fifteen scope 3 categories identified in the GHG Protocol Corporate Value Chain (Scope 3) Accounting and Reporting Standard. On average, these companies reported emissions for 5-6 scope 3 categories in recent years.

In many industries, most companies already report Scope 3 emissions  

Two-thirds of companies or more reported Scope 3 emissions in most industries in 2021, with the highest percentage (84%) of companies reporting Scope 3 emissions in the power generation industry. This suggests industry-specific capability and emphasis on Scope 3 reporting, which can be leveraged for SEC Scope 3 reporting. 

The industries with lower scope 3 reporting rates include those with supply chains that account for half of the world’s GHG emissions, including food, fashion, freight, as well as electronics and automotive (which fall under the manufacturing industry in CDP’s dataset). For companies in these industries, scope 3 emissions will likely be deemed material, necessitating reporting under the SEC’s proposed rule. Requiring these companies to report scope 3 emissions would ensure that companies with carbon-intensive value chains provide more complete information about their exposure to climate-related financial risks.

US companies report Scope 3 emissions at a lower rate than their counterparts 

The percentage of companies that report Scope 3 emissions also varies by geography. Companies from other Global North regions are more likely to report Scope 3 emissions in their climate disclosures than companies in the U.S. 

In 2021, 71% of European companies and 80% of Australian companies that disclosed emissions to CDP reported Scope 3 emissions. The lower global average reporting rate is heavily influenced by companies in the U.S., China, and Brazil, which have a high number of disclosing companies, but a lower rate of Scope 3 emissions reporting. Companies in the U.S. accounted for the highest percentage (19%) of disclosing companies and had a Scope 3 reporting rate of 56%; companies in China accounted for the second highest percentage (14%) of disclosing companies and had a Scope 3 reporting rate of 27%; and companies in Brazil accounted for the fifth highest percentage (6%) of disclosing companies and had a Scope 3 reporting rate of 37%. Consequently, U.S. companies may be at a disadvantage with investors who are increasingly concerned with climate-related financial risks, particularly risks associated with transitioning the economy away from fossil fuels.

Requiring scope 3 emissions reporting would better inform investors of climate-related financial risk 

For over two decades, companies have been gaining GHG accounting experience, and thousands of companies now estimate and publicly report Scope 3 emissions each year. For the majority of companies, Scope 3 emissions represent a large source of transition risk. 

Although Scope 3 emissions can require assumptions, rely on imperfect estimation methods, and are uncertain, this is no different than many current financial accounting disclosures. Estimation is common and necessary in financial accounting, which is why the SEC requires disclosure of significant assumptions that go into accounting estimates. A high-quality audit that probes these estimates and assumptions for management bias is critical to reliable financial reporting. With similar process controls over estimation of Scope 3 emissions, checked by an independent auditor, companies should be able to provide investors informative data on how dependent their full value chains are on emissions and their progress toward addressing transition risks in their business models. 

By requiring Scope 3 emissions disclosure, the SEC would provide investors with more complete information about their exposure to climate-related financial risks.