In another chapter in the ongoing debate regarding the future of public company disclosures concerning the environment, the London-based consulting firm IHS Markit Ltd. has issued a lengthy report critiquing the Draft Recommendations published in December 2016 by the Task Force on Climate-related Financial Disclosures (TCFD). A handful of energy company supermajors provided financial support for the report, entitled Climate-Related Financial Risk and the Oil and Gas Sector.

IHS Markit Responds Critically to the TCFD

The IHS Markit Report asserts that the TCFD Draft Recommendations represent a “radical departure from established concepts” in disclosing financial risks, including traditional concepts of “materiality,” raising a debate about the amount of information that companies should disclose related to climate change risks.

The IHS Markit Report makes six overarching criticisms of the TCFD Draft Recommendations:

  1. The Draft Recommendations depart from the established concept of materiality in financial disclosures by requiring companies to disclose even non-material climate-related risks.
  2. The Draft Recommendations establish metrics that are not correlated with financial risk and opportunity.
  3. The scenario analysis recommended by the Technical Supplement to the TCFD Draft Recommendations does not reflect the strategic changes that companies will make over time and as such will mislead investors who may treat the scenarios as projections.
  4. The Draft Recommendations, if adopted, will require disclosure of confidential business information regarding costs, strategies, and scenario assumptions.
  5. The Draft Recommendations extend beyond the scope of financial disclosures to policies related to climate change, which should be left to regulators.
  6. In the view of the IHS Markit Report, the Draft Recommendations focus on a definition of “carbon-related assets” that excludes many carbon-intensive sectors beyond the energy industry, such as transport, agriculture, and materials and buildings.

IHS Markit has focused its criticisms on the breadth of analysis and disclosures that would be required if the Draft Recommendations were to become the standard climate-related disclosures for public companies. At present, most companies listed on a national securities exchange in the U.S. disclose only those climate-related risks that companies have determined to be material under the SEC’s Guidance Regarding Disclosure Related to Climate Change. Under this SEC Guidance, “material” information exists where there is “a substantial likelihood that a reasonable investor would consider it important in deciding how to vote or make an investment decision, or, put another way, if the information would alter the total mix of available information.” Notably, SEC Guidance does not suggest that the granular disclosures set forth in the Technical Supplement to the TCFD Draft Recommendations — including climate scenario analysis — are necessarily appropriate. Nor does SEC Guidance require disclosure of anything like the climate scenario analysis called for by the TCFD. In addition, companies may be ill-equipped to undertake this analysis because there are no analogous circumstances where scenario analysis is required to be employed in public financial disclosures. The following, taken from the TCFD Technical Supplement and modified, shows some of the ways that the TCFD Draft Recommendations depart from current financial disclosure analysis:

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Drawing on the current definition of “materiality” provided by the SEC, the IHS Markit Report claims that by requiring companies to undertake and disclose climate scenario analysis, the TCFD is overbroad and in some cases will call for companies to disclose non-material risks. IHS Markit further asserts that not all information that the TCFD would have disclosed correlates with financial risk and opportunity, that detailed disclosures based on climate scenario analysis would necessarily include confidential information, and that such disclosures would not allow for companies to account for dynamic changes to their portfolios and assets.

The IHS Markit Report also applies these general criticisms to some of the more specific disclosure items called for by the TCFD. One of these criticisms surrounds the TCFD Draft Recommendations’ call for disclosure of Scope 1, 2, and 3 Greenhouse Gas (GHG) emissions as defined by the World Resources Institute’s and the World Business Council for Sustainable Development’s GHG Protocol. Briefly, these categories of emissions represent direct emissions from a company’s facilities, indirect emissions from purchased energy for a company’s use, and indirect emissions from production of materials purchased by a company.

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The IHS Markit Report asserts that disclosures based on these emissions categories do not necessarily correlate to financial indicators and that they could easily be read out of context by investors. The IHS Markit Report states that this level of disclosure can only be understood in the context of many factors, including “emission management, portfolio shifts, changes in the degree of vertical integration, declining production, or other factors” that would not be included in even expanded financial disclosures. The following chart provides several examples of this and other potential “pitfalls” the IHS Markit Report identified in the TCFD Draft Recommendations:

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IHS Markit Report’s Recommendations 

The IHS Markit Report provides the following counter recommendations to the TCFD:

  • Material climate-related information should continue to be shared via public financial filings. For climate-related information that does not meet the established principles of materiality, companies should determine what is most appropriate to communicate through other channels, such as strategy presentations, sustainability reports, and independent reporting programs.
  • Many of the long-term trends associated with climate-related risks are public information. Investors should make their own assessments of the financial implications based on a combination of company-specific information; trends in the policy, economic, social, and business environment; and their own investment theses and risk appetites.
  • Financial regulators and investors should not ask for quantified financial implications of long-term scenario analysis. Such information does not provide substantive, objective information that can be used to assess financial risk.
  • Companies should not be asked to disclose what they view as competitively sensitive information that could damage existing shareholder value.
  • Financial disclosure should not be used to drive policy goals that are beyond the remit of financial regulators. Climate policy should be designed and implemented by government agencies with the requisite mandates and expertise.
  • Since the [TCFD] believes that “further work is needed on defining [carbon-related assets] and their potential financial impacts,” it should not limit which sectors banks consider to be “carbon-related” for the purpose of reporting credit exposure.

Will IHS Markit Impact the Final TCFD Recommendations?

The May 2017 IHS Markit Report claims that the TCFD Draft Recommendations go too far in recommending innovations to “established concepts” in disclosing financial risks related to climate change. The TCFD takes the position that climate-related risks are distinct from other financial risks and therefore require a new framework — climate scenario analysis — to allow investors to evaluate these risks and companies’ preparations for those risks. The IHS Markit Report believes that this new framework will be difficult for companies to implement and will confuse and mislead investors, who have not been presented with scenario analysis in public financial disclosures relating to other kinds of financial risks. Essential to the debate is the definition of what should constitute “material” information for disclosures related to climate change. Companies with high carbon imprints should be paying attention to competing arguments about what information is properly considered material, especially in light of a new wave of shareholder proposals calling for companies to undertake and disclose analyses comparable to those recommended by the TCFD. It remains to be seen whether the IHS Markit Report will impact the TCFD Draft Recommendations before the TCFD finalizes those recommendations in anticipation of the July 2017 Group of Twenty (G20) Summit in Hamburg, Germany.