SEC's Proposed Climate Disclosure Rules: CFOs Should Listen to Investors

There is no need to elaborate on the necessity for Chief Financial Officers (CFOs) to integrate Environmental, Social, and Governance (ESG) factors into capital allocation, financial risk mitigation, and investor relations strategies. Just observe thescale and speed of fundsflowing into global ESG-themed funds. Regardless of motivation, CFOs and their executive peers may soon have little choice in the matter.

The U.S. Securities and Exchange Commission (SEC) istaking active stepsto protect investors from potential financial losses due to a lack of decision-useful ESG performance data. Although corporate financial leadersclearly supporta globally consistent, mandatory set of ESG disclosure standards, business leaders alsoworrythat the SEC's proposed actions will add to the existing regulatorycompliance burden。

This overlooks the business opportunity. By implementing the ESG data management and reporting capabilities required to meet the SEC's proposed rules, business leaders can lay the foundation for a more sustainable, efficient, and resilient enterprise—advantages that far outweigh the compliance burden. Furthermore, byrequiring such disclosures from all public companies to create a level playing field, the SEC's proposal actually presents an opportunity.

However, the key to seizing this opportunity lies in accurately assessing what the SEC's effortsintended beneficiaries—investors—expect from companies' self-reported climate risk and ESG performance data. With this blueprint, companies need to implement a sufficiently robust digital platform to collect and store the ESG performance data required for investment-grade sustainability disclosures, inform internal decision-making, and ultimately foster a culture of success.

In principle, this means walking the talk. Companies that not only wish to comply with the SEC'supcoming rules, but also wish toattract ESG capital, will need to provideverifiable, decision-useful evidencethat their sustainability performanceis more than just window dressing。

In practice, this begins with self-examination. Regardless of where a company is on its sustainability journey, business leaders need to identify the gap between the ESG performance data they have collected and reported (if any) and the standards for "investment-grade" ESG data recognized by investors.

To this end, the results of arecent investor surveycommissioned by my organization are highly instructive.

First, 69% of investors agree on the attributes of investment-grade ESG performance data: it must be accurate, timely, complete, auditable, and reliable. A significant proportion of investors indicated that Fortune 100, 500, and 1000 companies (i.e., the public companies covered by the SEC's proposed rules) are not credible in their collection and use of such data.

Our survey also confirmed the rationale behind the SEC's proposal. 39% of investors (a relative majority) said that data describing a company's performance on financially relevant environmental issues is most important to their investment decisions. An even larger proportion (47%) said that the quality of this data most needs "significant improvement."

Focusing on Materiality

These findings provide useful direction for business leaders. But just as no two companies are identical, the ESG risk profiles or performance records of any two enterprises will also differ.

In practice, business leaders will benefit from identifying sustainability issues that not only may uniquely impact their bottom line, but are alsoprioritizedby their investors. According toprecedent, investors have the final say on what is considered"material"and therefore what must be disclosed. While this may seem daunting, voluntary reporting standard organizations provide extensiveguidance(whose materiality determinations are referenced multiple times in the SEC's proposal), and there are also numerousguidancefor incorporating stakeholder input into materiality assessments.

Once completed, a stakeholder-informed materiality assessment will bring three distinct advantages to business leaders. First, it will help them satisfy the SEC's proposed disclosure rules, whose materiality definition largely follows precedent. Second, involving a company's investors and other stakeholders in the materiality assessment helps executives focus their sustainability efforts. Third, investor input will help business leaders determine consensus ESG performance management goals, strategies for achievement, metrics, and disclosure methods, enabling them to disclose data that investors consider investment-grade.

But establishing a framework is only one component of an ESG program. The SEC's proposed rules require companies to disclose not onlyassured evidenceof their operational emissions inventory and climate risk profile, but also their management plans. That is, a company's disclosures will help its audience—investors—judge whether they are making progress toward climate goals.

To achieve this progress, let alone demonstrate it, an observer might imagine needing an army of employees, consultants, and auditors armed with calculators and spreadsheets. However, in reality, there are alreadycommercially availablecloud-based ESG data management and reporting systems capable of handling such complex calculations. As our survey found, 37% of investors (a relative majority) want companies to change their approach, and thevast majorityof companies have failed to digitize their ESG programs.

The investors' reasoning is simple. On one hand, these systems eliminate the risk of human error and delay in collecting and reporting investment-grade ESG performance data. More importantly, these technologies enable users to derive actionable insights from their ESG performance data.

Users of these systems can continuously monitor their ESG performance, benchmark it, and evaluate the effectiveness of their subsequent investment and management decisions. With data storage, traceability, and retrieval capabilities, ESG software enables users to package and report data describing their emissions, climate risks, and other ESG factors in specific formats for specific stakeholders (internal and external).

Leveraging a digital ESG data management and reporting platform also offers additional advantages that users should fully recognize. From assigning responsibility for achieving ESG performance goals to incorporating internal stakeholder feedback into ESG program development and management, ESG software enables business leaders to foster a"culture of ESG", thereby driving program and corporate success.

Whether driven by the vitality of the ESG investment landscape or the likelihood of mandatory disclosure, collecting, using, and disclosing investment-grade ESG performance data is rapidly becoming a necessity. But this does not mean it must become a burden. If the right solution is adopted, it will bring immeasurable advantages.