|New SEC Scope 3 Reporting Requirements|
An Overview of New SEC Reporting Requirements for Public Financial Companies
New SEC Financed Reporting Requirements
New proposed rules unveiled by the US Securities and Exchange Commissions on March 21, 2022, require medium to large public companies to provide climate-related disclosures in future annual reports and audited financial statements to reflect emissions and climate-related impacts and risks including Scope 3, or downstream, greenhouse gas (GHG) emissions.
Scope 3 emissions for financial firms include greenhouse gas emissions generated by their commercial real estate (CRE) loan customers and residential mortgagors. For many financial firms, emissions associated with CRE and mortgage loans reflect more than 95% of all emissions.
This proposed ruling creates a huge new reporting requirement that few financial firms are prepared for.
The SEC’s objective is to provide “information to investors to enable them to make informed judgments about the impact of climate-related risks on current and potential investments. “
The 490-page SEC proposed rule is detailed and wide-ranging. It will require mid-to large publicly traded financial firms to calculate mortgagor and CRE annual greenhouse gas emissions and to describe the methodology used to calculate emissions. The proposed rule states that “while financial registrants may use any appropriate methodology to calculate its Scope 3 emissions, the Partnership for Carbon Accounting Financials’ Global GHG Accounting & Reporting Standard (the “PCAF Standard”) provides one methodology that complements the GHG Protocol and assists financial institutions in calculating their financed emissions. The PCAF Standard was developed to work with the calculation of Scope 3 emissions for the “investment” category of downstream emissions and was endorsed by the drafters of the GHG Protocol. “
They also state that “At this time we are not proposing to require a particular methodology for the financial sector in order to provide a financial sector registrant the flexibility to choose the methodology that best suits its particular portfolio and financing activities. We believe the proposed requirement to disclose the methodology used (e.g., the PCAF Standard or another standard) would provide sufficient information to an investor.”
The proposed rule goes on to state that “a registrant may use reasonable estimates when disclosing its GHG emissions as long as it also describes the assumptions underlying, and its reasons for using, the estimates;” however, PCAF documentation state that “financial institutions shall use the highest quality data available for each asset class and improve the quality of the data over time.”
Financial firms would also have to “disclose, to the extent material and as applicable, any use of third-party data when calculating its GHG emissions, … When disclosing the use of third-party data, a registrant would be required to identify the source of the data and the process the registrant undertook to obtain and assess such data. This information would help investors better understand the basis for, and assess the reasonableness of, the GHG emissions determinations and, accordingly, evaluate the GHG disclosures as part of a registrant’s business and financial information."
In short, financial firms will need to (1) report emissions of their residential mortgagors and CRE loan customers, (2) adhere to the PCAF standard or another accepted emissions accounting standard, (3) disclose their methodology and data sources to provide transparency regarding emissions associated with these customers, (4) use the "highest quality data available ... and improve the quality of the data over time.”
Given the required nature of this reporting, financial firms will need to do the best they can in quantifying these emissions to protect against any claims of lax commitment to corporate social responsibility objectives.
PCAF Standards Data Options
Given the SEC suggested use of the PCAF standards and the lack of other detailed financial organization standards, the most prudent course for most financial firms is to adhere, at least generally, to the PCAF standards.
The standards are not particularly specific and in many instances are aspirational, so adopting this standard as a reporting methodology is relatively straight-forward. However, PCAF standards also states that “financial institutions shall use the highest quality data available for each asset class and improve the quality of the data over time.”
The challenge using the PCAF standards is to achieve the greatest level of accuracy without imposing an “undue burden.” The PCAF standards are international so they attempt to rank lowest quality to highest quality data inputs with rather generic descriptions. This graphic from the 2019 PCAF documentation reflects this presentation.
US financial institutions will be evaluated on their emissions reporting based on available US data sources. At the top, the most accurate level would be for each mortgagor or CRE customer to report its emissions to the financial institution. This is obviously not realistic for US financial institution customers so the next best and most accurate option is to obtain actual energy use information for commercial customers where available or to estimate energy use information for residential and CRE customers based on statistical averages for geographic areas. Applying estimates with information on customer segment characteristics such as income and floor space will increase the accuracy of these estimates.
For those looking to use publicly available data sources of estimated average energy use information for residential and commercial buildings energy use, there is no public source that provides information below the regional or sometimes state level, which as we document in the
See the Notes and Whitepapers Section is critical for accurate carbon emissions reporting illustrating the advantage of MAISY ZIP-level energy use-based emissions data compared to state or regional averages.
MAISY Scope 3 Emissions Data for Financial Firms
MAISY Scope 3 Databases are the most accurate available source of mortgage and commercial real estate loan financed emissions. Databases provide average electricity kWh, natural gas and fuel oil use for residential and commercial buildings in individual ZIP codes across the US. Segment averages based on residential income and floor space and commercial business type and floor space are recommended to enhance accuracy.
For commercial real estate loan emissions, in addition to ZIP code business/floor space averages energy use information has been curated from CRE owners for more than 15,000 larger commercial properties in various US locations.
MAISY Scope 3 Emissions Data for Financial Firms are developed from MAISY ZIP-level Utility Customer Energy Use Databases. MAISY Databases were introduced in 1995 and are updated on an annual basis. These data have been applied by some of the largest utilities, equipment manufacturers, state regulatory agencies, the US Department of Energy for appliance efficiency standards, and other energy related organizations to assess the same kind of utility customer data targeted by the new SCE proposed rules.