From candy makers to missile producers, CFOs at various companies have for years tried to attract equity capital by adopting environmental, social, and governance (ESG) best practices. According to Morningstar data, global investment in so-called sustainable mutual funds and exchange-traded funds has more than tripled since 2018, reaching $2.47 trillion.

Today, ESG faces a hostile reshaping. Critics call it "woke capitalism," arguing it is imposed on American businesses by a "climate cartel" of shareholder activists, asset managers, and politicians.

"ESG is a harmful strategy because it lets the left achieve goals it could never reach at the ballot box or in free-market competition," former Vice President Mike Pence said in May. He joined opponents including Berkshire Hathaway Vice Chairman Charles Munger and Tesla CEO Elon Musk.

According to lawyers and former regulators, CFOs should not expect this backlash to stop a proposed rule by the U.S. Securities and Exchange Commission (SEC) aimed at aligning securities law more closely with climate activism and corporate ESG disclosure movements.

According to the Governance and Accountability Institute, 92% of S&P 500 companies already publish ESG reports. In response to investor pressure, thousands of companies globally have committed to reporting greenhouse gas (GHG) emissions.

"The largest institutions have made commitments, and they won't back down," said Elizabeth Saunders, a partner at Clermont Partners. "That ship has sailed."

CFO Dive, data from Morningstar Direct

Lawyers and former regulators say the SEC will publish a rule by January requiring listed companies to provide detailed disclosures on carbon emissions and climate risks. The SEC is reviewing 14,000 public comments on the proposed rule, but any revisions to its 490-page draft are likely to retain the strictest and most costly climate risk measurement and reporting requirements.

"If I were a CFO of a public company, I would fully expect these rules to take effect," said Kai Liekefett, a partner at Sidley Austin and co-chair of its shareholder activism practice. "You need to be prepared—you can't count on Santa Claus to bring you gifts."

Currently, the SEC does not require companies to report climate risks or explain how they report them. Instead, the agency relies on "interpretive guidance" issued in 2010, recommending how companies should disclose climate change impacts based on existing or new legislation, regulations, and global agreements.

Under the new climate risk rule, the SEC aims to require companies to describe in their 10-K filings their strategies for mitigating climate risks, including plans to meet targets they set to curb such risks. Companies would also need to disclose their GHG emission data (from their own facilities or energy purchases) and obtain independent assurance on that data.

SEC Chair Gary Gensler says clear, uniform disclosure of climate change costs will benefit companies and investors. Companies will gain detailed insights into potential costs and opportunities, while investors will be better able to assess risks at specific companies and compare risk levels across industries.

"If consistent and comparable, it helps issuers and investors, and could lower the cost of risk premiums, which are part of the cost of capital," Gensler said at a Harvard University forum on September 15.

Measurement chaos

According to lawyers and former regulators, the current methods for measuring corporate ESG compliance are messy, causing confusion among investors and some CFOs and their executive colleagues.

"It's a complete mess," Liekefett said in an interview, adding that ESG rating firms will need several more years to reach consensus on unified measurement.

Researchers at MIT Sloan School of Management, in a study titled "Aggregate Confusion," found that over 100 companies specializing in rating ESG performance often give the same company different rankings.

Moreover, when measuring and reporting carbon emissions and other ESG factors, CFOs currently must choose from dozens of inconsistent frameworks. The chaos in measurement systems also creates confusion and enables some companies to "greenwash," or exaggerate their progress on ESG principles.

"In my view, metrics and measurement systems are still in their infancy in some respects," said Microsoft President Brad Smith, saying they are insufficient to assess whether 3,470 companies globally are fulfilling promises to improve environmental impact. "Unless there is accountability, the public—whether shareholders, customers, or community members—has no reason to fundamentally trust what companies say," Smith said at the Harvard forum.

Gensler said at the Harvard forum that global regulators are gradually converging on common standards for climate risk reporting. The SEC's disclosure rule, like mandates in Europe and elsewhere, draws on guidance from the Task Force on Climate-related Financial Disclosures (TCFD), he said in a recorded interview: "We're all trying to build on that." The TCFD describes 11 types of disclosures across four areas: governance, strategy, risk management, and metrics and targets. It does not delve into how to measure climate risks. The SEC also encourages the use of the Greenhouse Gas Protocol, an accounting and reporting standard for GHG emissions.

Broad backlash

Critics say the upcoming rule's costs far outweigh its benefits. SEC Commissioner Hester Peirce, before casting the sole dissenting vote in the 3-1 commission decision, said the regulation would accelerate the growth of the "climate industrial complex." "We are laying the foundation for a new disclosure framework that will eventually rival our existing securities disclosure framework in scale and cost, and may surpass it in complexity," she said. "We are not the Securities and Environment Commission—at least not yet."

According to lawyers and former regulators, criticism of the SEC's draft rule echoes many points in the broader ESG backlash and highlights the rule's vulnerability. "Everyone is preparing for additional battles after the SEC issues its final rule," said David Brown, a partner at Alston & Bird.

The SEC estimates that small companies would need to spend an additional $420,000 annually to comply with GHG emission disclosure requirements, while large companies would need an extra $530,000. "The SEC has significantly underestimated the amount of money needed to comply with this rule," Brown said in an interview. He predicted that eventually a judge will tell the agency: "Your economic analysis is insufficient—go back and redraft." Brown said CFOs will need to hire accountants, data analysts, and other sustainability experts, and pay external auditors and consultants for independent reviews of SEC filings. Additionally, measuring Scope 3 GHG emissions from upstream and downstream contractors will be challenging and costly. "The Big Four accounting firms are hiring tens of thousands of people to get ahead, and with talent scarce, costs naturally rise," Brown said. "The Sarbanes-Oxley Act was called the 'Auditor Full Employment Act,'" he said. "This is the 'ESG Consultant Full Employment Act.'"

While imposing heavy compliance costs on companies, the SEC has also overstepped its congressionally authorized authority, Pennsylvania Senator Pat Toomey, the senior Republican on the Senate Banking Committee, told Gensler at a September 15 committee hearing. "The SEC is wading into controversial public policy debates that go far beyond its mission and expertise, and they have no legal authorization to do so," Toomey said. "The compliance costs will matter more to investors than the (climate risk) information itself." He said the SEC ultimately aims to shut off investment in fossil fuel producers by "providing data to climate activists to launch political pressure campaigns against companies, often harming shareholder interests." "The SEC will have to explain itself to the courts."

Congressional reaction to the proposed rule has largely split along party lines. "The SEC's work on climate risk disclosure is an important example of improving market understanding of risk, providing transparency and comparability—clarity and uniformity are key," Ohio Democratic Senator Sherrod Brown, chair of the Banking Committee, said at the hearing. "If only some companies provide disclosures, and in a haphazard manner, that benefits no one."

Supreme Court ammunition

Opponents of the SEC rule found ammunition in a Supreme Court ruling in June that limited the Environmental Protection Agency's (EPA) authority to restrict power plant emissions under the Clean Air Act. In the 6-3 ruling in West Virginia v. EPA, the Court invoked the "major questions doctrine," holding that federal agencies need congressional direction before enacting regulations with significant economic or political impact.

Saunders predicted that this doctrine "will become the threshold question determining whether the SEC can survive challenges," and "everything else becomes secondary." Critics also argue that the information the SEC rule requires disclosing is not material to investor decision-making and risk management efforts. Gensler defended the proposed regulation, noting that investors with $130 trillion in assets globally are demanding uniform and consistent disclosure of climate risks. "I don't think any court today would stand up and say climate risk is not material to some companies right now," Saunders said.

Nevertheless, several states, including Florida, Oklahoma, Texas, and West Virginia, say asset managers like BlackRock are pushing an ESG agenda at the expense of investor returns. They argue ESG principles are irrelevant to investment decisions and have banned some asset managers using ESG benchmarks from managing state pension funds. Louisiana State Treasurer John Schroder notified BlackRock CEO Larry Fink in an October 5 letter that the state would withdraw $794 million in pension fund assets from BlackRock funds due to the asset manager's use of ESG criteria. "Your overt policies against fossil fuels will destroy Louisiana's economy," Schroder said. "In my view, your support for ESG investing is not in the best economic interests and values of Louisiana." BlackRock has pushed back against claims that it dictates how companies handle carbon emissions, saying such decisions should rest with company management teams and boards.