Greenhouse Gasses

What are Greenhouse Gases?

Greenhouse gases (GHG) are gasses that trap heat in the earth’s atmosphere. The main greenhouse gases include Carbon Dioxide (CO2), Methane (CH4), Nitrous oxide (N2O), and Fluorinated gases. CO2 is the primary greenhouse gas emitted through human activities, which alter the carbon cycle by adding more CO2 to the atmosphere (primarily through the combustion of fossil fuels for energy and transportation).  The presence of greenhouse gasses in the atmosphere has expedited climate change, which can lead to hotter temperatures, more severe storms, increased droughts, a warmer, rising ocean, loss of species, food scarcity, more health risks, and poverty and displacement.  GHGs can also contribute to respiratory disease from smog and air pollution.

How are Greenhouse Gasses Categorized?

Scope 1, Scope 2, and Scope 3 are terms used to categorize greenhouse gas emissions based on their sources and impact. These categories are part of the Greenhouse Gas Protocol, a widely used standard for measuring and managing greenhouse gas emissions. 

Scope 1 emissions are direct emissions from sources owned or controlled by a company or entity. They include emissions from sources such as onsite combustion of fossil fuels (such as a company's vehicles or heating systems) and emissions from industrial processes. Scope 1 emissions are considered the most direct and immediate emissions for which a company is responsible.

Scope 2 emissions are indirect emissions associated with generating purchased electricity, heat, or steam consumed by a company. In other words, they are the emissions generated by the production of a company's energy. While these emissions occur outside of the company's direct control, they are still considered relevant because their energy consumption contributes to them.

Scope 3 emissions are all other indirect emissions that occur in the value chain of a company's activities. They include:

●      Purchased goods and services

●      Capital goods

●      Fuel and energy related activities

●      Upstream transportation and distribution

●      Waste generated in operations

●      Business travel

●      Employee commuting

●      Upstream leased assets

●      Downstream transportation and distribution

●      Processing of sold products

●      Use of sold products

●      End-of-life treatment of sold products

●      Downstream leased assets

●      Franchises

●      Investments

Scope 3 emissions are often the most considerable portion of a company's overall carbon footprint and can be challenging to measure and manage since they extend beyond the company's direct operations. Because Scope 3 emissions consider GHG produced along a company’s value chain, one company’s Scope 3 emissions could include the “Scope 1” and “Scope 2” emissions of its suppliers. 

Greenhouse Gas Disclosure Regulations

Several governing bodies have begun creating regulations regarding GHG emissions, including the International Sustainability Standards Board (ISSB), the European Financial Reporting Advisory Group’s (EFRAG) European Union Sustainability Reporting Standards (ESRS), and the United States Securities and Exchange Commission (SEC).

International Sustainability Standards Board (ISSB)

The International Sustainability Standards Board (ISSB) was created by the International Finance Reporting Standards (IFRS) to build global reporting standards based on several existing frameworks. In June 2023, the ISSB released two initial standards: (1) General Requirements for Disclosure of Sustainability-related Financial Information (IFRS S1); and Climate-related Disclosures (IFRS S2). Both standards incorporate the Task Force on Climate-related Financial Disclosure (TCFD) recommendations, which are structured around four themes: (1) governance, (2) strategy, (3) risk management, and (4) metrics and targets. GHG emissions are covered by IFRS S2, which applies to both climate related risks and opportunities, and requires companies to provide information on their governance processes, corporate strategy, management processes, and performance relating to such risks and opportunities. It generally requires disclosure of Scope 1, 2, and 3 emissions, but provides temporary transition relief so that companies need not disclose Scope 3 emissions in their first year using the ISSB standards.

Notably, the definition of materiality in the ISSB standards differs from that in certain frameworks utilized in the EU. Whereas the EU’s Corporate Sustainability Reporting Directive (CSRD) and the Sustainable Finance Disclosure Regulation (SFRD) have adopted the concept of “double materiality” – defining as material information about both climate’s impact on a company and a company’s impact on client, the ISSB standards take a single materiality approach, focusing on whether the information would reasonably be expected to influence investor decisions.   

European Union Sustainability Reporting Standards (ESRS)

The European Union’s Corporate Sustainability Reporting Directive (CSRD) requires numerous companies doing business in the EU to begin filing audited annual sustainability reports utilizing the European Sustainability Reporting Standards (ESRS). The first set of ESRS, adopted by the European Commission in July 2023, requires companies to perform materiality assessments on a wide variety of sustainability topics, including climate change, applying the principle of double materiality (looking at both whether each sustainability issue has an on the company and whether the company has an impact on the sustainability issue). Like the ISSB, the ESRS also incorporates the TCFD recommendations into the ESRS disclosure standards.  Companies must report on material impacts, risks, and opportunities across the value chain, as well as their governance and strategy to address such issues and their quantitative metrics and targets. Those companies for which climate change is a material topic will be required to report on Scope 1, 2, and 3 emissions – though smaller companies (with fewer than 750 employees) can forego reporting on Scope 3 emissions in their first year. Although the ESRS only requires reporting on climate change if deemed material, experts expect that in practice most companies will need to report on the issue given both the breadth of the double materiality framework and the fact that any decision to exclude climate reporting will need to be justified and approved by an independent auditor.          

The U.S. SEC Climate Disclosure Proposal

Turning to the United States, in March 2022 the SEC proposed a rule requiring public companies to include specific climate-related disclosures in registration statements and periodic reports. The rule’s goal is to provide consistent and comparable information to investors allowing them to make informed investment decisions surrounding climate-related risks. The proposed rule would require issuers to disclose: (1) the company's governance of climate-related risks and the risk management process; (2) any material impact that climate-related risks are likely to have on the company’s business and financial statements; (3) how climate-related risks are likely to affect the company’s strategy, business model, and outlook; (4) the impact of climate-related events and transition activities on the company; and (5) the company’s greenhouse gas (GHG) emissions. Additionally, companies “would be required to disclose GHG emissions from upstream and downstream activities in its value chain (Scope 3), if material or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions.”  The SEC takes the more traditional “single materiality” approach – focusing on the impact that climate change would have on the company. Under the proposed SEC Rule, smaller companies, without the resources to measure Scope 3 emissions, would be exempt from Scope 3 reporting. Certain companies (accelerated and large accelerated filers) would be required to include an independent attestation report addressing their Scope 1 and 2 disclosures. According to the SEC, “the proposed disclosures are similar to those that many companies already provide based on broadly accepted disclosure frameworks, such as the Task Force on Climate-Related Financial Disclosures [TCFD] and the Greenhouse Gas Protocol.”

Experts expect that the SEC will modify the rule (perhaps significantly) before it is finalized. The SEC initially suggested that the Climate Disclosure Rule would be published in December 2022. Since then, the rule has been delayed with an anticipated publication in Fall 2023 – after the SEC received more than 11,000 comments. Most recently, the SEC stated that it expects to release the rule in April 2024. Supporters have praised the rule for increasing transparency around climate-related risks that may impact a company’s financial condition. On the other hand, some businesses have expressed concerns about the costs associated with estimating and reporting emissions. Even once the rule is finalized, given threats made by Republican lawmakers, it is very likely that the rule will quickly be challenged through litigation.