Show Me the Emissions: California’s Innovative New Climate Law

Ever wonder what it means when companies like H&M, Nike, and Microsoft say they’re net zero emissions or when British Petroleum, ExxonMobil, and Shell say they’ll be net zero by 2050? A lot of corporations have tried playing semantic and legal games with climate terms to appear green. For instance, if you’re a little incredulous about how fossil fuel companies can be carbon neutral by 2050 when their entire model relies on releasing carbon dioxide (CO2), you should trust your gut: these companies only consider Scope 1 and 2 emissions. Scope 1 emissions are associated with the direct emissions caused by production like any CO2 leaks while extracting fossil fuels. Scope 2 emissions are the indirect emissions caused by energy use. Finally, and most importantly, Scope 3 emissions are emissions from the entire chain from creation to sale to distribution. In other words, these fossil fuel companies are only counting the emissions caused by energy use and extract, not the CO2 emitted when their products are combusted.

Unfortunately, we don’t even know the Scope 1,2, and 3 emissions of companies because there lacks a mandate on its disclosure. The Securities and Exchange Commission (SEC) has tried to improve transparency by mandating the release of all Scope 1 and 2 emissions, but this would only apply to public companies and lacks the inclusion of the crucial Scope 3 emissions that are the main contributors of climate change.

Luckily, California has taken the charge to mandate its businesses (private and public) to disclose all three scopes of emissions, leading to greater transparency and opening the door to specific policymaking. This raises some significant questions since climate law without proper implementation or enforcement loses its impact and credibility. Who’s included? What happens if parties refuse? When will businesses have to report their emissions? And most importantly, how will this help mitigate climate change?

Who’s included?

If you’re not a fan of big government, perhaps this bill already sounds sour. If a child sells lemonade on the side of the road, will he have to calculate the amount of emissions he’s producing? What about a cow farm? Will they have to calculate the amount of cow farts contributing to climate change? Fret not — California’s law only applies to companies that generate $1 billion of revenue per year. So, unless the child is making an enormous (and unrealistic) amount of money selling his lemonade, small businesses will not be negatively impacted.

What’s the penalty?

Without a clear penalty, there’s no reason for companies to stop. Luckily, California fines companies up to $500,000 for failing to meet the requirements and up to $50,000 for inadequate performance. But wait! If only the billionaire companies are required to disclose their emissions, isn’t $500,000 and $50,000 pocket change? True, on their own, these penalties may not be enough to change behavior. However, the California law in conjunction with the SEC law puts companies in a double bind to correct behavior. While the SEC gives some discretion for companies to not disclose their Scope 3 emissions, they do require Scope 3 disclosure of the amount if it is “material”, meaning significant. Unfortunately, the SEC has no guideline for what threshold is material, meaning companies can just waive away their Scope 3 emissions as being immaterial without doing the actual calculations. But, because California requires these Scope 3 emissions to be disclosed, it becomes harder to claim that they’re immaterial if they become large. And because the SEC takes lying much more seriously than $50,000 (submitting fictitious reports is a federal crime punishable by jail time and censures, companies afraid of lawsuits are much more likely to fall in line.

When?

California knows calculating these numbers is difficult, so they give a generous timeframe to begin to disclose these amounts. By 2026, Scope 1 and 2 emissions are required to be disclosed, and by 2027, Scope 3 emissions are required to be disclosed.

So What?

Just disclosing emissions doesn’t cause them to disappear. However, they do create more information for local and federal governments to base their decisions on. For instance, the difficulty of calculating emissions makes the debate about a carbon tax difficult since the costs per company are elusive. But by having these measures, it provides a first step to regulation. Additionally, the recent push for ESG (Environmental, Social, and Governance), an investing framework that uses those three categories to determine investment decisions could improve emission data. For instance, if a company discloses its emissions, investors using ESG can more accurately evaluate their environmental criteria. This also means that it can even be profitable for companies to disclose their emissions because cleaner companies benefit more from showing off how clean they are to investors.

In the wake of the SEC’s incomplete emission disclosure, California law steps in to fill in the gaps. More action like this should be taken in other states to increase available data and, subsequently, create a more sustainable future.