Date01 April 2022
AuthorVandenbergh, Michael P.

Table of Contents Introduction 1698 I. Disclosure of Private Climate Governance Risks 1711 A. Types and Effects of PEG Climate Initiatives 1711 1. Drivers 1713 2. Types of Risk 1719 3. Materiality 1721 B. Empirical Study 1727 1. Methodology 1727 2. Results 1729 II. The Securities Regulatory Regime 1739 A. Federal Securities Law 1739 B. Commodities Futures Trading Commission 1748 C. Federal Reserve 1749 D. Public-Private Hybrid and Private Disclosure Regimes 1750 E. Other Disclosure Regimes 1755 III. Next Steps and Recommendations 1757 A. Updating Public and Hybrid Disclosure Regimes 1757 1. Federal Regulatory Regime 1757 2. Hybrid Disclosure Regimes 1759 B. Updating the Mental Models of Lawyers, Accountants, Business Managers, and Policymakers 1759 Conclusion 1762 INTRODUCTION

Inconsistencies abound in corporate disclosures of the risks and opportunities arising from private climate governance actions. In the most recent annual reports filed with the Securities and Exchange Commission (SEC), the five largest coal companies disclosed that investors and lenders are responding to climate change by creating pressure to reduce the use of coal, but none of the largest electric utilities--the largest users of coal--included similar disclosures. (1) Likewise, in its most recent annual report, PepsiCo discussed the "increased focus, including by governmental and nongovernmental organizations, investors, customers and consumers on ... environmental sustainability matters, including deforestation, land use, [and] climate impact," and disclosed the risk posed by "any failure to achieve our goals with respect to reducing our impact on the environment or perception (whether or not valid) of our failure to act responsibly with respect to the environment." (2) A principal competitor, The Coca-Cola Company, did not include a similar disclosure. (3)

Similarly, Alphabet, the parent company of Google, disclosed that it has made major climate commitments, including matching 100 percent of its electrical consumption with renewable power purchases, but Facebook, which has taken similar steps, did not. (4) General Motors described a corporate commitment to procure 100 percent renewable power, but Ford did not. (5) American International Group, a major insurer, disclosed that "our reputation or corporate brand could be negatively impacted as a result of changing customer or societal perceptions of organizations that we either insure or invest in due to their actions (or lack thereof) with respect to climate change," but none of the other large insurance companies that file annual reports with the SEC included a similar disclosure. (6) JPMorgan Chase stated that:

Social and environmental activists are increasingly targeting financial services firms such as JPMorgan Chase with public criticism for their relationships with clients that are engaged in certain sensitive industries, including businesses whose products are or are perceived to be harmful to human health, or whose activities negatively affect or are perceived to negatively affect the environment, workers' rights or communities. (7) Bank of America also noted the risk of reputational harm arising from the "perception of [its] environmental, social and governance practices and disclosures." (8) Wells Fargo, Capital One Financial, and other large banks are subject to these same types of risks, yet their annual reports did not disclose them. (9)

Do these inconsistent disclosures reflect differences in the financial risks posed to these firms by climate change or differences in disclosure practices about the growing private pressure on firms to reduce greenhouse gas (GHG) emissions? This Article presents the results of an empirical study of corporate environmental and climate disclosures and argues that these are not just anecdotal differences or differences in the financial condition of the firms. Instead, they reflect limitations in the securities disclosure regulatory regime and limitations in the conceptual model of governance that shapes the thinking of the lawyers, accountants, business managers, and policymakers who manage the disclosure process. Based on this analysis, the Article proposes viable changes to the securities disclosure regime to improve the information available to investors and accelerate climate change mitigation.

A vigorous academic and policy debate is underway about the disclosure of climate risks. On one track, the debate concerns whether climate risks merit disclosure by publicly traded firms even if they are not material as that term is interpreted by the SEC and courts. Scholars such as Cynthia Williams (10) and Jill Fisch, (11) along with many others, (12) have argued that disclosure of environmental issues merits a departure from the focus on reporting of material financial risks that has been dominant for ninety years. (13) I share this view. Climate change is one of the greatest threats to modern society, (14) so if disclosure of climate information will drive carbon emissions reductions, even if additional disclosure is somewhat costly and causes some muddying of the security regulatory regime's focus on financial materiality, (15) a departure is warranted. Even with pressure from the Biden administration and more supportive appointments to federal agencies and commissions, however, efforts to depart from the focus on financial materiality through changes to statutes, regulations, policies, and litigation will face high hurdles. (16)

On a different track, the climate disclosure debate focuses not on whether the financial materiality standard should be modified or supplemented, but whether companies are failing to disclose two types of climate risks even if they are material to a reasonable investor. (17) The first is often called physical risk, which is the risk that climate change itself--rising sea levels, increased severity of storms, heat waves, and forest fires, and the human responses to them such as crop failures, migration, and social unrest--will have material adverse financial effects. (18) The second is often called transition risk, the risk that climate mitigation measures will adversely affect a firm's financial position; (19) although given the SEC's focus on and the risks posed by government regulation and traditional forms of market risk by the SEC and other government entities, transition risk might more accurately be called regulatory or market risk. In 2010, the SEC issued guidance on disclosure of climate change risks (the "2010 Guidance"), which follows the traditional thinking on this issue: it focuses on the material effects of physical and transition risks, the two conventional conceptions of climate change risk. (20) More recently, leading scholars, (21) the U.S. Commodity Futures Trading Commission (CFTC), (22) the Federal Reserve, (23) and major global private and public-private hybrid initiatives such as the Task Force on Climate-related Financial Disclosure (TCFD) (24) and the Sustainability Accounting Standards Board (SASB), (25) have also focused principally on the development of standards and methods to increase the disclosure of these two types of climate risks.

This Article takes a different approach. It argues that the two current tracks pursued by scholars, policymakers, and advocates, which focus principally on relaxing or bypassing the materiality standard, or on better identifying physical climate risk and regulatory or market transition climate risk, are important but overlook a more viable opportunity: disclosure of the transition risks posed by the newly emerging phenomenon of private environmental governance (PEG). (26) For instance, when a company commits to reducing the carbon emissions from its supply chain and imposes reduction targets in supply chain contracts, high-carbon suppliers can lose important markets for their products. This is a climate transition risk, but it is not a government regulatory risk, and it is not simply a market risk. It is a risk that emerges because the buying company is playing a private regulatory role with its suppliers even if governments are not requiring it to do so. PEG initiatives take many forms, but they all share the common feature of nongovernmental actors (including corporations, investors, lenders, insurers, advocacy groups, and other private sector actors) performing traditionally governmental functions such as reducing negative externalities (in this case carbon emissions) or managing common pool resources or public goods (in this case, the ability of the atmosphere to maintain a stable climate). (2) ' PEG climate initiatives can induce firms to reduce carbon emissions even absent government climate mitigation requirements, and in some cases they overcome government opposition to climate mitigation. (28) They present a discrete new type of transition risk that does not fit neatly into physical, regulatory, or market risks and that has grown substantially since the development of the 2010 Guidance. (29) The emerging importance of environmental, social, and governance (ESG) issues and growth in PEG climate initiatives has also occurred largely under the radar screen of much of the legal scholarship on climate risk disclosure. (30)

As the examples at the outset suggest, a wide range of PEG climate initiatives pose potentially material transition risks, including advocacy group pressure on firms to disclose or reduce emissions, (31) naming and shaming campaigns directed at managers, employees, or retail customers, (32) and divestiture or investor engagement campaigns directed at institutional investment firms, lenders, and insurers. (33) PEG climate transition risks also arise from the knock-on effects of this direct pressure, including adoption of public commitments by corporations, investment firms and pension funds, lenders, and insurers. (34) Perhaps most importantly, PEG climate transition risks also include the risks that arise from the...

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