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ARTICLE

Legal Considerations for Climate Transition Plans

Pianpian Wang

Summary

  • This article examines the growing significance of CTPs in corporate sustainability reporting, outlining various mandatory and voluntary ESG reporting frameworks that incorporate CTPs. There is an emerging convergence around the key disclosure elements for credible plans
  • While not all mandatory ESG reporting frameworks require regulated companies to develop CTPs, new legislation and existing fiduciary duty obligations will necessitate the development of CTPs.
  • When drafting and updating a CTP, legal counsels should consider local applicable ESG reporting obligations, relevant industry requirements, key stakeholder views, and practical management structures and goals.
Legal Considerations for Climate Transition Plans
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In recent years, companies have been working to understand environmental, social, and governance (ESG) disclosure compliance across various jurisdictions and gather the necessary data. Climate transition plans have become a key part of ESG information disclosure. According to Climate Disclosure Project’s (CDP) 2023 survey, 36 percent of over 8,200 companies disclosed in the CDP platform intend to develop a climate transition plan within two years. Of the companies that committed to creating a plan in 2021, 44 percent had established one by 2023, with 25 companies disclosing credible plans. While companies often rely on external consultants or other departments to develop climate transition plans, there are important legal considerations. Lawyers play a crucial role in developing these plans.

Defining A Climate Transition Plan

The concept of a climate transition plan has evolved over time, driven by growing awareness of climate change and the need for businesses to align with global climate goals. The Paris Agreement, adopted at the UN Climate Change Conference (COP21) in 2015, united nations to combat climate change and limit global warming to below 2 degrees Celsius, ideally to 1.5 degrees. To achieve these targets, global greenhouse gas (GHG) emissions must be reduced by 45 percent by 2030 and reach net-zero by 2050. Consequently, companies are motivated by national laws and stakeholder pressures to set goals for transitioning to a low-GHG and climate-resilient economy.

Currently, there is no standard definition for a corporate climate transition plan. Some organizations such as Taskforce of Climate-related Financial Disclosures/International Sustainability Standards Board and Transition Plan Taskforce refer to “transition plan” while other names like “climate transition plan,” “climate action plan,” and “net-zero transition plan” are also popular. This article uses “climate transition plan” to emphasize its focus. According to the IFRS S2 a climate-related transition plan is an aspect of an entity’s overall strategy that lays out the entity’s targets, actions or resources for its transition towards a lower-carbon economy, including actions such as reducing its GHG emissions. Many jurisdictions are adopting or considering measures to ensure global comparability in companies’ climate and sustainability disclosures based on the ISSB Standards, including IFRS S2. This article uses IFRS S2’s definition.

The general rationale for ESG disclosure involves the following steps: (1) Identify and prioritize significant environmental, social, and governance issues, including climate-related risks and opportunities (2) Develop goals, actions, and allocate resources to address these challengesthis is where the CTP sits (3) Report progress and any major changes to the transition plans. CTPs guide companies in developing and implementing concrete climate actions. The evaluation of these actions informs necessary adjustments to the CTP (see figure 1).

Figure 1. Corporate ESG Disclosure Rationale

Source: Created by the author

Figure 1. Corporate ESG Disclosure Rationale

Current Requirements and Legal Implications of CTP

In recent years, both mandatory and voluntary standards have integrated CTPs into their climate and sustainability reporting frameworks. Additionally, new legislation obligates companies to develop CTPs. For example, the Corporate Sustainability Due Diligence Directive (CSDDD) requires companies to adopt and put into effect a transition plan for climate change mitigation. Furthermore, the European Sustainability Reporting Standards (ESRS) ask companies to disclose information about transition plans for climate change mitigation and encourage them to align their business model and strategy with the Kunming-Montreal Global Biodiversity Framework and the EU Biodiversity Strategy for 2030. The former shows that CTP is a mandatory obligation for companies while the latter demonstrates that transition plans can apply to non-climate topics. However, some frameworks, such as the U.S. SEC Climate Disclosure Rules, only require a registrant to describe a transition plan for climate change if it has adopted the plan to manage a material transition risk. This means that if a registrant does not have any transition plans, no disclosure is required, unlike the CSDDD, which mandates the development of such plans.

Although not all mandatory ESG reporting frameworks require regulated companies to develop CTPs, there is an emerging convergence around the key disclosure indicators for credible plans. Common elements in existing reporting frameworks (including the updated CDP Climate Questionnaire, the ESRS, U.S. SEC Climate Disclosure Rules, Global Reporting Initiatives, and the IFRS S2) include:

  • Governance: Describe board-level oversight of the plan, including whether linking executive incentives to climate performance indicators.
  • Scenario analysis: Detail scenario analysis and how it supports plan development.
  • Risk and opportunity: Highlight climate-related risks and opportunities and their financial impact.
  • Strategy: Align climate-related risks and opportunities with company strategies for a 1.5°C world.
  • Financial planning: Integrate climate risks and opportunities into financial planning, aligned with a 1.5°C scenario.
  • Targets: Include emission reduction targets by phase (absolute and/or intensity) and net-zero targets.
  • Scope 1, 2 and 3 emissions: Provide comprehensive and third-party verified emissions accounting.
  • Policy engagement: Align corporate climate ambition and strategy with public policy.
  • Value chain engagement: Engage value chains to support the plan, including low-carbon products/services development.

The Role of Lawyers in CTP Development and Implementation

CTPs outline the goals and governing principles to guide the transition process. It is important to note that a CTP is a plan, not a promise. Therefore, lawyers play a crucial role in CTP development and implementation. The following legal considerations should be given the same weight as business considerations throughout this process.

First, lawyers (both internal and external counsel) shall follow the requirements of the mandatory ESG disclosure framework as thresholds to develop andor refine a company’s CTP, ensuring all the elements are included. Lawyers should also be familiar with key voluntary ESG disclosure standards, as these frameworks mandatory certain jurisdictions. For example, the California climate risk disclosure rules (SB 261) mandate that regulated companies follow the TCFD framework to disclose climate-related financial risks. Similarly, the sustainability information disclosure guidance released by the China Securities Regulatory Commission adheres to the TCFD structure. The examples indicate that lawyers can use key voluntary framework to anticipate future legal requirements.

Besides, each industry has unique features when developing a CTP. Without violating competition laws, industry organizations can serve as a medium allowing industry peers to discuss and align the industry’s CTP. An industry CTP could preempt sector-specific requirements. If sector-specific guidance exists, companies should consider following it, as voluntary guidelines could also become mandatory.

Second, while the U.S. SEC climate disclosure rules do not mandate companies to develop CTPs, directors may still be required to do so under their fiduciary duties. These duties compel directors to consider, oversee, and monitor the implementation of climate-related legal risk controls and disclosures. Consequently, directors may need to act decisively to achieve net-zero goals both substantively and procedurally. In other words, company directors shall be involved in the CTP development to fulfill their fiduciary responsibilities. Additionally, directors should leverage their top-down influence to support the collection of necessary information for ESG disclosure. For example, when France transposed the EU CSRD into national law, it stipulated that corporate directors could face fines of up to €75,000 and imprisonment for up to five years if they fail to present the necessary information for external auditors to certify their CSRD-aligned reports or if they obstruct the auditors’ work in any way.

Third, lawyers should ensure that the obligations posed by key stakeholders are reflected in the CTP. For example, upstream client contracts and codes of conduct may impose requirements affecting downstream suppliers’ CTPs. Additionally, investors may have specific expectations regarding the company’s CTP. Therefore, it is prudent to communicate with relevant stakeholders throughout the value chain to gather information for CTP development.

Fourth, when developing the CTP, lawyers should assist companies in determining whether the management structure (including board oversight) needs updating and how to facilitate cross-department collaborations to achieve goals. Internal counsels should collaborate with other departments to establish mechanisms for efficiently collecting the required data to satisfy all elements of the CTP. If necessary, internal rules and codes may need to be updated accordingly.

Lastly, ensure that the targets presented in the CTP are ambitious yet implementable to avoid potential litigation. This is particularly important for phased goals and concepts such as circularity and recycled materials, which should have proper metrics to measure progress. In the event of regulatory changes necessitating a CTP update, lawyers should revisit the considerations listed above to review the document and clearly communicate the updates both internally and externally. All relevant records supporting the content presented in the CTP, whether disclosed publicly or not, should be properly maintained for auditing purposes.

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