On August 16, 2022, President Biden signed the Inflation Reduction Act (IRA) into law, injecting $369 billion in climate investments into the economy. It represented the single largest boost to clean energy in American history, and an irrefutable economic signal that clean energy is the way of the future. The rapid scaling of wind, solar, batteries, electrolyzers, and other technologies driven by this law will lead to dramatic cost reductions. These cost reductions will create an economic imperative for businesses and consumers around the world to switch to clean energy technologies. They will also motivate policy makers at the local, state, national and international levels to enact even more clean energy incentives and mandates. 

The IRA is a perfect example of why investors need to know how companies are managing transition risk. Companies with strong plans for decarbonization will benefit enormously from this law. Businesses reliant on fossil fuels will likely lose market share. And carbon-intensive business models lose their dominant status, billions in fossil fuel assets could be stranded, causing a shock to the financial system. Investors deserve reliable emissions disclosures from companies so they can assess which are truly prepared for the clean energy transition.

To understand transition risk, investors need a full picture of a company’s emissions. And this picture cannot be complete without “Scope 3 emissions,” or the emissions of customers and suppliers, which account for the largest share of most companies’ greenhouse gas emissions.

The SEC’s statutory mandate is to protect investors by making sure companies disclose how prepared they are for major market shifts, like the transition to clean energy. Now, the U.S. government has just supercharged this transition with the passage of the IRA. That’s why the SEC’s climate disclosure rule must be strengthened to require companies to disclose all of their emissions. 

The good news is that the SEC’s proposal would require public companies to disclose some of their greenhouse gas emissions to investors. 

The bad news is that it does not require all of their emissions to be disclosed. The proposal requires the disclosure of “Scope 1 emissions,” which a company creates in its own operations, as well as “Scope 2 emissions,” which come from the generation of purchased energy. Scope 3 emissions, however, which are all other emissions associated with a company’s activities, are almost entirely left up to each company’s discretion to disclose. In short, under the proposal, unless you are a company that has set a target for reducing Scope 3 emissions, disclosing Scope 3 emissions is essentially voluntary.

Read more about Scope 3 emissions in our explainer >>>

That’s a major problem for investors trying to understand a company’s transition risk because for most companies, most of their emissions are Scope 3 emissions. In fact, CDP estimated that Scope 3 emissions account for roughly 75% of greenhouse gas emissions in sectors important to the energy transition. That means investors will be left in the dark about the bulk of most companies’ emissions, and can’t properly evaluate how vulnerable their supply chain and customer base is to transition risk.  

What would it look like for the IRA to impact a company with high Scope 3 emissions? It’s relatively straightforward that an oil company, with high Scope 3 emissions from the burning of oil to drive a car, would be exposed to declining demand for gas-powered cars due to the IRA’s electric vehicle incentives. But other companies’ level of Scope 3 emissions are not so easy to predict. Manufacturing companies, for instance, can have varying levels of upstream emissions from their suppliers, and thus their exposure to emissions regulations would be harder for an investor to assess.

It is crystal clear that the IRA and future climate legislation will have dramatic impacts on the economy, and that the narrative pushed by fossil fuel lobbyists that this is not a concern for today’s investors is not only wrong, but reckless. Transition risk is a real and present transparency oversight and unless investors are given the information they need to intelligently allocate capital, could result in a climate-fueled economic crash.

In the wake of the IRA’s passage, the SEC must strengthen the climate risk proposed rule to include the mandatory disclosure of Scope 3 emissions and finalize it immediately.