Climate Change Report : Climate Change Lawyer & Attorney : K&L Gates Law Firm : Global Climate Law, Carbon Emissions

Increasing Efforts in Climate Change Regulation and Enforcement
Despite the current economic recession, the new administration has ushered in an increased emphasis on addressing climate change through regulation. President Obama, during the first week of his administration, signed two executive orders pertaining to climate change; one directed the U.S. Environmental Protection Agency (the EPA) to reconsider its denial of California’s request for a waiver of Clean Air Act preemption to enforce higher greenhouse gas emissions standards for motor vehicles, and the other directed the Transportation Department to finalize rules in early 2009 to increase the fuel economy requirement for motor vehicles. The EPA subsequently granted the waiver sought by California, and also issued rules to require greenhouse gas reporting by large emitters beginning in 2010, and proposed rules that would require construction and operating permits for new facilities (or existing facilities undergoing major modifications) that emit over 25,000 tons of greenhouse gases annually. The U.S. House of Representatives passed the American Clean Energy and Security Act, the first climate change legislation adopted by either house, and the Senate is currently considering similar legislation. The Securities and Exchange Commission (the SEC) has also started to take a “serious look” at imposing specific disclosure obligations on public companies with respect to climate change risks. Significant judicial decisions regarding greenhouse gas emissions have also been issued in 2009, including the decision of the U.S. Court of Appeals for the Second Circuit in Connecticut vs. American Electric Power, allowing claimants to pursue federal common law public nuisance claims that the greenhouse gas emissions by the five defendant power companies had contributed to global warming.

Increasing Investor Focus
Investors are focusing increasingly on climate change issues. According to Ceres, a U.S. network of investors, environmental organizations and other public interest groups that works with companies and investors to address sustainability challenges, “Investors managing trillions of dollars in assets have been petitioning the SEC since 2004 for interpretive guidance on corporate disclosure of climate risks and opportunities, and to ensure that shareholders have the right to vote on resolutions seeking disclosure of climate risks.” In November 2009, a coalition of institutional investors representing more than $1 trillion of assets petitioned the SEC to issue guidance to public companies that requires disclosures of climate related risks in periodic filings. Among the group of investors was the California Public Employees Retirement System (CalPERS), which manages $202 billion of assets and is the largest public pension fund in the world. Anne Stausboll, the Chief Executive of CalPERS, said, “The SEC should strengthen and enforce its current requirements so investors’ decisions fully account for climate change’s financial effects.” Although the SEC has yet to respond by issuing specific disclosure guidelines, it has indicated that climate change disclosure is an area of focus. Additionally, in October 2009, the SEC revised prior guidance regarding shareholder proposals that implicate risk assessment, indicating that the SEC will be less inclined to permit companies to exclude shareholder proposals under Rule 14a-8 that deal with broad policy matters such as climate change, even if such proposals also implicate risk assessment. The combination of increasing investor scrutiny of climate change issues and increasing SEC attention to climate change disclosure will force companies to focus as never before on the ways in which climate change affects their specific business.

Increasing Business Partner and Competitor Focus
For many companies, climate change initiatives may come not only from shareholders or regulators but from business partners. Since as early as 2005, large public companies like Walmart and General Electric have focused on bringing climate change issues to the forefront of their business operations by investing money in environmental technologies, media and advertising campaigns focusing on sustainability, and working more closely with suppliers to encourage green practices across the supply chain.

Addressing climate change issues can afford significant competitive advantages even to companies operating in industries other than clean-tech and sustainable energy. For example, U.S. automakers have struggled in recent years to catch up with foreign automakers that embraced hybrid technology years earlier. Such hybrid technology will be increasingly important as car companies compete for the business not only of environmentally conscious U.S. consumers but also for lucrative expanding markets overseas, such as China, where it is estimated that less than a quarter of American-made passenger cars and light-duty trucks meet China’s 2008 emissions standards. Many observers believe that the marketplace will increasingly assign value to companies that prepare for and capitalize on business opportunities posed by climate change.

Legal Responsibilities of Corporate Governance
Against this backdrop, boards of directors and officers must consider the ways in which their corporate governance obligations require that they consider and address the effects of climate change on their companies. Directors have a duty to exercise good business judgment and to use ordinary care and prudence in the operation of the business. They must discharge their actions in good faith and in the best interests of the corporation, exercising the care an ordinary person would use under similar circumstances. In the exercise of these duties, board members should educate themselves regarding the potential effects of climate change on their company, and evaluate the potential business and financial consequences. Depending on the industry, directors need to consider whether they have fully complied with their duty of care if they have not considered how the current state of the climate change landscape may impact their business.

Climate Change Will Affect Your Business and Industry
Climate change has implications for the economy in general and will therefore affect all businesses. The extent to which climate change will affect any specific company will depend on the nature of the industry involved. Business risks from climate change include the possibility of increasingly volatile weather conditions, with resulting impacts on business resources, personnel, and corporate operations, increasing legal and regulatory pressures, and mounting public and shareholder interest and activism. Many consumer-oriented businesses have highlighted concerns about climate change, recognizing the importance that consumers give the issue. Ceres last year issued a report that assessed how 63 of the world’s largest consumer and information technology companies are preparing themselves to face climate change. Corporate Governance and Climate Change: Consumer and Technology Companies (December 2008) [PDF]. Companies that have taken action include IBM, Nike, and Coca-Cola, which have reduced their carbon footprints, and Google, Yahoo!, and Dell, which have issued statements expressing their intent to become carbon-neutral.

What You Can Do Now
Good corporate governance will be a key tool in addressing climate change issues. Analyzing the impacts of climate change in the context of a company’s corporate governance structure can be a significant and time-consuming endeavor, but comprehensive preliminary planning can help to minimize wasted efforts.

Analyze Your Business Environment
In determining how climate change issues may intersect with corporate governance in your company, it is important to first understand the climate change issues that are specifically raised within the context of your business. Every organization should consider whether it has implemented appropriate climate risk mitigation strategies to prepare it for the potential effects of climate change on its operations, including the potential effects on production, customer service and employees, and the adequacy of the organization’s insurance coverage with respect to the potential impacts of climate change. Members of management should evaluate their own company’s performance relative to the company’s particular circumstances and the performance of the company’s industry peers.

Publicly reporting companies will need to consider how to disclose risks regarding climate change, as well as stay abreast of new SEC positions on disclosure requirements, which are likely to continue to evolve in the coming year. Privately held companies may also wish to consider how best to disclose their policies and approaches to climate change to their customers and stakeholders. All companies, both public and private, should examine potential challenges and opportunities brought by climate change, and how corporate governance at various levels can address them.

Board and Management Level Action
The board of any company that emits large amounts of greenhouse gases is in all likelihood already heavily involved in climate change issues. But boards of companies that are not traditional large GHG emitters should not discount the value of forming a climate change committee, or assigning a specific director or board committee to oversee a company’s climate change issues. Such organizational efforts to address climate change issues at the board level can help to ensure an early and effective response to climate change issues and opportunities.

Regardless of the impact that climate change may have on a company, the board should reach down into a company’s management structure for help. Climate change issues may be best addressed not only by board involvement, but also by the participation of an executive officer charged with managing the company’s climate change issues, by an environmental specialist, by a member of the legal team, or by an operations specialist who is well versed in climate change issues within the company’s industry. Involving the chief executive officer may make sense in situations where implementing a company-wide strategy is important and where monitoring the effects of climate change on all parts of a company’s business is crucial to its success. Monitoring and addressing climate change issues may require action at many levels within the corporate hierarchy.

Public Disclosure and Corporate Policies
The company’s board and executives should also work together to clearly define the company’s goals with respect to climate change. Such action will not only help a company to work efficiently toward such goals but will increase transparency regarding the kinds of regulations or policies the company supports. Again, depending on how much impact climate change may have on a company, such action may include creating binding corporate policies, more general corporate governance guidelines, or even values statements that indicate to consumers or customers your company’s desire to address climate change issues. Such policies may involve setting GHG reduction targets, developing or purchasing new clean technology, or reducing the company’s energy usage or carbon footprint. Companies that foresee climate change regulations substantially affecting their industry and business may also wish to seek a prominent and active role in shaping such regulations and government policy through lobbying or working directly with interest groups. The combination of strategies will depend on the company’s industry and individual challenges.

It is important that a company consider how disclosure regarding climate change may be beneficial to its business. In addition to complying with disclosures mandated by the SEC regarding climate change risks, a company may create distinct competitive advantages, and establish itself as a leader in its particular industry or sector, if it can communicate effectively to customers, suppliers, analysts, and shareholders its objectives regarding climate change and the way in which it plans to meet these objectives.

Effective approaches to climate change will require a combination of immediate action and long-term goal setting. The manner in which a company internally assesses its risks and opportunities and creates corporate governance structures to manage such risks and opportunities will be crucial to success in this process.

2009 Climate Change Developments
During 2009, the pace of federal climate change actions quickened substantially. In June the House of Representatives passed the American Clean Energy and Security Act (also known as the Waxman-Markey bill), the first climate change legislation ever adopted by either house of Congress. Although Senate consideration of climate change legislation has been deferred until next year, a number of events seem likely to ensure that the Senate will expeditiously address the legislation in 2010. Chief among these is President Obama’s recent pledge in advance of the Copenhagen Conference of a provisional target in the range of 17%, the amount by which 2020 U.S. greenhouse gas emissions are to be reduced below 2005 levels.

Some of the other 2009 developments that may bear on a company’s assessment of its disclosure obligations include:

• Unprecedented actions by the Environmental Protection Agency (EPA). These actions include final rules to require greenhouse gas reporting by large emitters beginning in 2010; proposed rules that would require permits stipulating the best available control technologies for new facilities (or existing facilities undergoing major modifications) that emit over 25,000 tons of greenhouse gases annually; and on December 7, 2009, the “endangerment finding” under the Clean Air Act that greenhouse gas emissions endanger public health and welfare, a predicate for the finalization of the proposed rules for permits and which could possibly portend even broader greenhouse gas regulation by the EPA.
• Significant court decisions by two U.S. Circuit Courts of Appeals finding that the federal common law of public nuisance applies to claims to abate global warming.
• Significant support by many members of the business community for greater governmental and corporate efforts to reduce greenhouse gas emissions. Walmart announced in July 2009, for example, that it was requiring sustainability reports by its suppliers (over 100,000 globally) so that Walmart can begin developing sustainability ratings for its products.
• The SEC staff, in a reversal of its prior position, issued a bulletin on October 27, 2009, that is expected to facilitate and encourage shareholder proposals to require companies to provide greater disclosure about their climate change risks.

In addition, investor groups continued to press in 2009 for improved climate change disclosure in SEC filings. In June, members of the Investor Network on Climate Risk and other large global investors sent a letter to the SEC Chairman requesting that the SEC issue formal interpretive guidance on the materiality of risks posed by climate change and enforce existing disclosure requirements for climate change risks. On November 23, 2009, a group of investors, including the California Public Employees’ Retirement System, filed a supplemental petition with the SEC asking it to provide interpretive guidance outlining climate-related material risks that public companies should disclose to investors.

SEC Commissioner Elisse Walter stated in several public comments in October 2009 that the SEC staff is reviewing recommendations about such guidance and that in her view the SEC should consider issuing such guidance. Commissioner Walter in her public comments also observed: “Even without any further guidance, however, it strikes me that this is one area where, if I were drafting disclosure for a registrant today, I would carefully consider whether that company’s particular facts and circumstances raise any disclosure obligations under the current rules, and in particular, under the MD&A requirements.”

Current SEC Disclosure Requirements
Even without any specific guidance, existing SEC disclosure rules and regulations, as noted by Commissioner Walter, bear on a company’s climate change disclosure obligations. Registration statements filed under the Securities Act of 1933 and periodic reports filed under the Securities Exchange Act of 1934 must disclose all information that is material to an investment decision. In addition, Rule 10b-5 provides that it is unlawful to make an untrue statement of material fact or to omit to state a material fact necessary to make the statements, in light of the circumstances under which they are being made, not misleading in connection with the purchase or sale of a security.
The touchstone for determining whether disclosure is required under SEC rules is materiality—whether there is a substantial likelihood that a reasonable investor would consider the information important in making his or her investment or voting decision. Whether omitted information is material is determined on the basis of whether there is a substantial likelihood that the disclosure of the omitted fact would have been viewed by a reasonable investor as having significantly altered the “total mix” of information available. The materiality of contingent or speculative events such as proposed climate change legislation is to be assessed by balancing the probability of an event occurring against its anticipated magnitude to the company.

The provisions of Regulation S-K more specifically prescribe the subject matter of certain items required to be disclosed in SEC filings. Several of these rules may require a company to address climate change-related issues, particularly Item 303 governing a company’s Management Discussion & Analysis (MD&A). Item 303 requires that a company describe in its MD&A any known “trends, uncertainties or other factors” that are reasonably likely to affect the company’s earnings, liquidity or capital expenditures. Item 303 is intended to allow investors to view the company through the eyes of management and create increased transparency. Specifically, forward-looking information is required in the MD&A where there are known “trends, uncertainties or other factors” that will result in, or that are reasonably likely to result in, a material impact on the company’s liquidity, capital resources, revenues and continuing operations. The SEC has repeatedly stressed the importance of addressing factors that are likely to impact a company’s business in the future.
Other Items in Regulation S-K may apply to a company as it considers climate change disclosures, including the following:

• Item 101(c)(x) requires a company to disclose competitive conditions in its business. For some companies, sustainability performance may have a material impact on competitive conditions, and therefore require disclosure.
• Item 101(c)(xii) requires a company to disclose any material effect of environmental compliance associated with enacted laws. The cost of complying with any adopted greenhouse gas emissions regulations is the type of cost, if material, required to be disclosed in Item 101(c)(xii).
• Item 103 requires disclosure of any material pending administrative or judicial proceeding to which a company is, or may become, a party. In addition, any such proceeding arising under any laws regulating the discharge of materials into the environment or primarily for the purpose of protecting the environment must be described if it falls within certain parameters specified in Item 103. In addition, a company should focus not only on any proceeding to which it is a party but on any third party proceedings if the outcome could materially affect the company’s financial condition or competitive position. As noted, two federal circuit court decisions have ruled that plaintiffs, relying on federal common law of public nuisance and other common law tort theories, have standing to pursue causes of action against defendants that have emitted greenhouse gases (for a further discussion of these decisions, see “Emissions of Greenhouse Gases & Global Warming—Regulation through Litigation? Who is Liable for Damages Arising from Global Warming?”).
• Item 503 requires a discussion of significant risk factors that apply to a company. Companies with businesses that may be impacted by climate change or climate change-related regulation should consider including appropriate disclosure addressing these risks and their potential effect on the company.

In addition, Regulation FD prohibits certain selective disclosures of material nonpublic information. Consequently, disclosure of material climate change information to third parties may violate Regulation FD if not also disclosed by the company in an SEC filing.

Considerations in Evaluating Disclosure
Against this backdrop of SEC disclosure rules, a corporation should consider what climate change disclosures may be appropriate in its SEC filings. To do so, a corporation should analyze the ways in which it is impacted, and is expected in the future to be impacted, by climate change and its consequences. If the effects of climate change and its consequences are expected to be material to the corporation’s operations, financial condition or its business, then disclosure is required.

A corporation’s analysis of the impact of climate change should consider several general factors applicable to a broad range of companies, as well as factors more specific to the corporation’s particular circumstances. These general factors will include the possible actions that may emanate from the Copenhagen Conference, both in the U.S. as well as other countries and regions key to the corporation’s business. For U.S. companies, the prospect of federal legislation and its potential consequences, as well as actions by the EPA, will be critical considerations in evaluating whether climate change disclosures are necessary. These consequences are expected to affect energy costs, building standards, land use practices, various regulatory regimes, and even the availability and costs of raw materials in some cases.

A company also should consider the state statutory and regulatory schemes in the states in which it operates. A number of states already have adopted various climate change measures, including renewable portfolio standards, greenhouse gas inventorying, green building standards and multi-state compacts to limit greenhouse gas emissions. Some states, such as California, have been particularly active in adopting climate change measures.

A company should consider whether any of its strategic locations are expected to be impacted by the physical or climatic effects of climate change. For example, are any of these locations vulnerable to climate change events, such as flooding and hurricanes, and, if so, will an increase in such events result in higher insurance costs and local taxes?

The nature of a company’s industry, of course, is another key factor, and corporations should generally be mindful of what disclosures are being made by others in their industry. Climate change is a critical matter for electric utilities, energy producers, energy-intensive companies and the insurance industry. Other industries, of course, are also impacted. Companies in consumer-oriented industries increasingly have been promoting their “green” efforts, recognizing the importance of the issue to many members of the public. As noted, Walmart announced this July that its suppliers must provide sustainability reports about their products and supply chains.

When analyzing the impact of climate change, a company should not overlook that climate change and its consequences may present opportunities and, if material, these opportunities should be disclosed. This would be true for cleantech and energy efficiency companies, but can also be true in other circumstances such as when superior sustainability performance may provide a company a competitive advantage.

Lastly, as part of its analysis, a company should be aware of what it has already disclosed regarding climate change in its SEC filings and other public climate change disclosures, such as on a website, in responses to questionnaires, through interviews, or through participation on panels. A company will generally want to ensure that it is consistent in its disclosures and, regardless, will not want to be “selectively disclosing” material climate change information through certain channels without including it in SEC filings.