"Climate-Washing" Risks And How To Mitigate Them - Climate Change

More and more companies are taking positive action on climate change and are seeking to communicate their climate strategies, performance and targets to customers, investors and the broader public. But external scrutiny of corporate climate initiatives is also increasing. This puts corporate leaders in a potential double-bind: say too little on climate, and risk being accused of inaction; say too much, and risk being accused of "greenwashing" or "climate-washing."

The goal of this bulletin is to assist companies to understand and mitigate greenwashing risks related to making climate-related claims. First, we discuss the legal test to be applied to greenwashing, properly understood, based in laws relating to deceptive marketing claims. We then apply those legal concepts to three common areas where corporate communications on climate issues give rise to allegations of greenwashing: corporate "Net Zero" commitments, public market disclosures related to climate, and the purchase and sale of voluntary carbon offsets.

Deceptive Marketing Practices: Where is the Line?

Canada, like many other countries, has consumer protection laws that prohibit false or misleading representations to the public. The rise of environmental representations to the public, including corporate "Net Zero" commitments and other climate-related claims, has led to a significant increase in consumer protection investigations, public enforcement of greenwashing claims by the Competition Bureau and private enforcement through class action litigation.

The main source of consumer protection laws in Canada is Canada's Competition Act. The public enforcer of the Competition Act is Canada's Competition Bureau, an independent law enforcement agency. The Bureau has the jurisdiction to use formal evidence gathering tools, such as production orders and search warrants, to investigate potential contraventions of the Competition Act. In civil matters, the Bureau has the dual role of investigator and prosecutor and can seek remedies that include a prohibition order, administrative monetary penalties up to $10 million (in the case of a corporation) and restitution.

Among the consumer protection rules in the Competition Act are general civil and criminal prohibitions against materially false or misleading representation to the public. A company or individual contravenes these provisions when, for the purpose of promoting the supply or use of a product, service or any business interest, it makes a representation to the public that is false or misleading in a material respect. The breadth of these provisions captures a wide variety of representations, including in relation to corporate "Net Zero" commitments, climate change disclosures and voluntary carbon offsets.

The Bureau has been very active in enforcing greenwashing claims. For example, the Bureau was part of a global team of agencies enforcing the Volkswagen emissions controversy, where Volkswagen was alleged to have made representations to the public regarding low-emissions vehicles. Very recently, the Bureau and Keurig entered into a consent agreement to resolve allegations of false or misleading environmental claims made to consumers about the recyclability of Keurig's single-use K-Cup pods, which subsequently led to the commencement of class action litigation against Keurig. Further, the Bureau and its US equivalent, the Federal Trade Commission, have received various public greenwashing complaints from environmental groups focused on "carbon neutral" claims and other climate-related representations by companies. Similarly, the European Commission released the results of its study examining green online claims from various business sectors. The study found that in 42% of cases claims were exaggerated, false or deceptive and could potentially qualify as unfair commercial practices under EU rules.

So, where is the line between communicating environmental commitments and making misleading representations? What measures should be taken to mitigate consumer protection risk when making climate-related claims? Enforcement of greenwashing claims is evolving and definitive bright lines are not yet certain. However, questions that assist with this assessment are:

What scientific evidence is being used to substantiate a climate-related representation (e.g, a company's commitment to achieve net zero GHG by a specific date; a company's achievement of carbon neutrality through carbon offsets), and is such evidence well-recognized and accepted?
Is the climate-related representation balanced, or is it unbalanced by singling out positive aspects of performance but ignoring information that is negative or trending in the wrong direction?
Does the climate-related representation make absolute and unqualified claims, or does it qualify its claims appropriately by clearly communicating its scope and/or limitations?

In other words, risk of public enforcement by the Bureau and other global consumer protection agencies as well as private litigation, including class actions, is mitigated significantly if climate-related representations (i) are based on adequate and well-recognized data collection and quantification methodologies, (ii) do not give rise to inferences of independent certification or endorsement, or satisfaction of an external standard or protocol, without adequate substantiation, and (iii) avoid making unqualified environmental claims.

How do these general principles translate to specific corporate climate initiatives? The next three sections address areas where allegations of corporate greenwashing are particularly common: corporate "Net Zero" commitments, public disclosures of GHG emissions performance, and the role of voluntary carbon offsets in meeting corporate climate commitments.

Greenwashing & Corporate "Net Zero" Commitments

What is "Net Zero"?

Corporate climate commitments come in many flavours: some companies commit to reduce absolute GHG emissions against a base year by a given amount or percentage, whereas others focus on achieving reductions in GHG emissions intensity (i.e. reducing GHG emissions per unit of production, or revenue). Some promise action on carbon dioxide only, whereas others include all GHGs in their corporate target-setting. But in the run-up to COP26 in 2021, the most popular flavour of corporate climate commitments involved promises to achieve "Net Zero" GHG emissions by a particular date, usually 2050.

When a company adopts a "Net Zero" commitment, it is declaring to the world that it will take actions by a particular date to reduce GHG emissions attributable to its operations and to balance its remaining emissions, such that the net GHG emissions it is responsible for no longer contribute to climate change. So far, so good. But issues arise almost immediately; almost every aspect of the "Net Zero" concept is open to debate:

How do we draw the line around the GHG emissions covered by a company's "Net Zero" commitment? Is the scope limited to direct emissions from its operations (referred to as "Scope 1" emissions), indirect emissions from purchased electricity, heat or steam (referred to as "Scope 2" emissions) or all emissions upstream and downstream in its supply chain (referred to as "Scope 3" emissions), or only a subset of those indirect, Scope 3 emissions?
How can a company's progress toward such a long-term target be assessed? Does a "Net Zero" target require translation into step-by-step actions that can be accomplished in more immediate timeframes?
What kind of assumptions are companies allowed to make in respect of technological change toward lower-carbon technologies and processes when planning a concrete pathway to achieve its "Net Zero" goal?
How extensively can companies use carbon offsets to compensate for their internal emissions, or must companies make progress on internal GHG emissions reductions, using carbon offsets to compensate for residual emissions only? What kind of offsets are acceptable (i.e. those based on avoiding or reducing GHG emissions that would otherwise occur or only those that are based on physically removing and sequestering GHGs that are already present in the atmosphere)?

A "Net Zero" Lexicon

"Carbon Neutral" – carbon offsets can be used to net to zero a company's current GHG emissions (sometimes limited to carbon dioxide emissions only).
"Net Zero" – a commitment to achieve net zero GHG emissions by a particular date (usually 2050), including setting incremental targets, together with use of carbon offsets only for residual emissions, and sometimes limited to removal-type carbon offsets only.
"Scope 1 Emissions" – all of a company's direct GHG emissions from operations.
"Scope 2 Emissions" – all indirect GHG emissions associated with purchased electricity, heat or steam used in a company's operations.
"Scope 3 Emissions" – all indirect, upstream and downstream GHG emissions associated with a company's operations, including GHGs emitted from the use of a company's products (sometimes limited to one or more material sub-components of upstream or downstream emissions).

Why Are Companies Adopting "Net Zero" Targets?

"Net Zero" targets are not mandated by governments (at least not yet). Which begs the question: why are companies signing on to such onerous commitments voluntarily?

Among the reasons for doing so:

Companies are trying to satisfy demands from institutional investors, financial markets and financial intermediaries concerned about the climate-related financial risks embedded within their (or their clients') portfolio holdings.
Companies are trying to address concerns from advocacy groups and more activist ESG (Environmental, Social, and Governance) investors who are increasingly threatening divestment campaigns or climate-related proxy-voting campaigns.
Companies are trying to proactively address climate-related financial risks in the near- and medium-terms, by taking early action to avoid the cost of adjusting to increasingly stringent climate-related regulations.

Mitigating Greenwashing Risk for "Net Zero" Commitments and Other Climate Targets

Companies can reduce greenwashing risks when adopting "Net Zero" and other climate targets, as follows:

Because "Net Zero" claims are future-oriented and intrinsically difficult to substantiate, companies should set interim goals that are clear, tangible and readily understandable. Companies need to be able to "connect the dots," describing how their short-term goals will allow them to achieve their long term "Net Zero" target.
Companies need to "show their work" when setting and communicating their climate-related targets and adopting the metrics they will use to measure their progress. While some data is commercially sensitive, companies should be as transparent as possible in respect of the data and scenarios used to develop their targets and concrete plans. This should include being transparent about any data gaps and uncertainties.
Companies should remember that they are communicating their climate-related targets and metrics to multiple constituencies. Some constituencies will be looking for a high-level overview, whereas others will be sophisticated (and often skeptical). Companies should think about how materials tailored to one constituency could appear misleading or simply opaque to the other. Consider supplementing plain language descriptions of corporate climate targets and metrics through technical appendices or in-depth materials available online.
Companies need to ensure that they are communicating their climate targets in a balanced way. They should be transparent about the challenges, risks and limitations they face, and not just tout their ambitions. Setting and communicating climate targets should be understood as an exercise in strategic clarity, not marketing or public relations. It is often less risky for companies to be transparent about aspects of their targets and target-setting process that they anticipate may be controversial, rather than trying to obscure the issue.
Companies should describe climate targets in commercial terms, rather than as an expression of their social responsibilities. This may sound counter-intuitive, since companies often set climate targets to address larger societal concerns. But the expansive rhetoric that is often used to describe a company's role in society can easily appear misleading or unsubstantiated when viewed through the lens of a tangible commitment to take concrete actions to address climate change. Broad, aspirational language associated with corporate climate targets is a significant source of risk when it comes to allegations of greenwashing.

Greenwashing & Corporate Climate Change Disclosures

Shareholder activists, institutional investors and climate change advocates have been pushing companies toward greater climate transparency for years. In response, many public companies have begun to report climate-related information on a voluntary basis, either as part of broader sustainability or ESG reporting, or in standalone climate reports. Although many have welcomed the spread of voluntary corporate climate reporting, the voluntary nature of such reporting has led some critics to dismiss it as little better than greenwashing.

It is against this backdrop that the Canadian Securities Administrators ("CSA") released its proposed National Instrument 51-107 Disclosure of Climate-related Matters ("NI 51-107") on October 18, 2021. If adopted, NI 51-107 will require mandatory climate-related disclosures by most Canadian public issuers, with some exceptions such as investment funds and certain foreign issuers among others. This is a significant departure for the CSA. In 2019, the CSA published CSA Staff Notice 51-358 Reporting of Climate Change-related Risks, which urged issuers to consider climate-related risks and disclose those risks only if the information is material to their business, consistent with an issuer's general continuous disclosure obligations.

Rationale for Mandatory Climate-Related Disclosures

As a follow-up to CSA Staff Notice 51-358, the CSA conducted a review of the climate-related disclosures of a number of Canadian issuers. The CSA noted that such climate-related disclosures, though improving, continue to vary substantially in respect of quality, comprehensiveness and specificity across issuers.

In particular, the CSA noted:

Issuers' climate-related disclosures may not be complete, consistent or comparable;
Quantitative information is often limited and not necessarily consistent;
Issuers may "cherry pick" by reporting selectively against a particular voluntary standard or framework; and
Sustainability reporting is currently not well integrated into companies' periodic reporting structures.

The CSA have proposed NI 51-107 as a means of enhancing the consistency and comparability among issuers in respect of disclosures related to climate-change and climate-related risks. In particular, the CSA highlighted the following benefits of mandatory climate disclosure:

Improve issuer access to global capital markets by aligning Canadian disclosure standards with expectations of international investors;
Assist investors in making more informed investment decisions by enhancing climate-related disclosures;
Facilitate an "equal playing field" for all issuers; and
Remove the costs associated with navigating and reporting to multiple disclosure frameworks.

NI 51-107 Mandatory Climate-Related Disclosures

As proposed, NI 51-107 would focus on the four main areas of climate-related disclosures that were recommended by the Task Force on Climate-related Disclosure ("TCFD"). The TCFD was created by the Financial Stability Board based on a request from the G20's Finance Ministers and Central Bankers to make recommendations to help mitigate climate-related risks in the financial system.

The four main areas for climate-related disclosure under the TCFD framework are:

Governance (i.e. board governance processes for managing climate-related risks and opportunities)
Strategy (i.e. the impact of climate-related risks and opportunities on issuer's business and financial planning over the short, medium, and long-terms, if material)
Risk Management (i.e. processes for identifying, assessing, and managing risks as they relate to the company's business)
Metrics and Targets (including reporting on actual GHG emissions)

The CSA have put forward for consultation two alternatives for the scope of mandatory reporting of actual GHG emissions. In each case, an issuer would be required to disclose GHG emissions at least in part on a "comply or explain" model, i.e. it must either disclose certain GHG emissions or provide a public explanation for why it is not disclosing such GHG emissions. In the first alternative, issuers would be required to disclose, or to explain why they are not disclosing, Scope 1 GHG emissions, Scope 2 emissions, and Scope 3 emissions. Under the alternative model, issuers must disclose their Scope 1 GHG emissions but would then be required to disclose their Scope 2 and Scope 3 GHG emissions on a "comply or explain" basis.

If NI 51-107 is adopted, non-venture issuers would be required to begin filing mandatory climate disclosures by March 2024 in respect of the financial year ending December 31, 2023, and venture issuers would be expected to begin filing mandatory climate disclosures by April 2026 in respect of the financial year ending December 31, 2025.

The proposed NI 51-107 is consistent with broader international trends in which securities and other regulators are modeling their mandatory climate disclosure rules on the TCFD framework. However, the CSA have deviated from some of the recommendations of the TCFD. For example, TCFD recommends that companies disclose detailed information on the scenario analysis used internally for setting climate targets and strategies. The CSA have proposed that issuers would not need to disclose this type of scenario analysis. NI 51-107 also differs from the TCFD recommendations by allowing disclosure of corporate GHG emissions on a "comply or explain" basis.

Mitigating Greenwashing Risks in respect of Corporate Climate Disclosures

The move from voluntary to mandatory climate disclosures for public companies in Canada will address many greenwashing concerns raised by activists. But it will decisively raise the stakes for companies if specific allegations of greenwashing are made to securities regulators.

Public companies can reduce greenwashing risks in connection with ongoing corporate climate disclosures, as follows:

Under the proposed NI 51-107, public companies will be required to follow accepted methodologies for calculating GHG emissions such as the GHG Protocol, or other well-established methodologies that are comparable to the GHG Protocol. The challenge is that these standards have evolved to provide guidance in the context of voluntary reporting. It is not uncommon for companies to deviate from GHG Protocol recommendations to make their climate disclosures more meaningful in their market context or to address data gaps. Companies that are already engaged in climate reporting will need to review their quantification methodologies carefully to identify and explain these differences, while not giving the impression that past practices were misleading.
Corporate climate reporting requires technical expertise and extensive data collection efforts. Getting it right requires time, resources and the attention of senior management. Companies should begin building up the expertise required for credible and accurate climate-related reporting - before such disclosures become mandatory.
Many companies are already issuing voluntary climate reports in advance of mandatory reporting requirements. During the transition period, it will be important for companies to consider more carefully how they are doing so. At a minimum, companies should prepare their voluntary climate reports with the same diligence they anticipate applying once such reporting becomes mandatory. Public issuers are well advised to take particular care to include appropriate disclaimers in respect of forward-looking information, ensuring that these are detailed and tailored to the risks and uncertainties applicable to their climate-related disclosures.
The CSA has proposed that public issuers report GHG emissions on a "comply or explain" basis. Public issuers that choose to rely on this flexibility mechanism should expect their explanations for why they have chosen not to disclose certain aspects of their GHG emissions data to be heavily scrutinized. Such explanations should be detailed and specific, not vague or boilerplate. Such explanations are likely to become a new vector of greenwashing risk, as critics focus in on these explanations to argue that companies that have declined to report on their GHG emissions are engaged in greenwashing.

Greenwashing and Voluntary Carbon Markets

Voluntary carbon markets are decentralized, non-governmental systems of climate finance that provide market-based incentives for project developers to undertake activities that verifiably reduce GHG emissions or enhance the removal of GHGs from the atmosphere, over and above what is required by law. Voluntary carbon markets are not to be confused with compliance markets, where governments accept certain carbon offsets to satisfy regulatory requirements. In the voluntary carbon markets, it is corporate climate pledges not governmental action that drives demand. And the ever-widening adoption of "Net Zero" and other climate commitments by major emitters means the demand for voluntary carbon offsets is booming. The Taskforce on Scaling Voluntary Carbon Markets has estimated that by 2030, the demand for voluntary carbon offsets could be 15 times greater than it was in 2020, for a market worth upwards of US $50 billion worldwide.

Voluntary carbon markets have attracted more than their fair share of greenwashing allegations. Much of this poor reputation is a holdover from earlier stages in the development of the carbon offset market, when some carbon market participants traded in carbon offsets that did not represent real and verifiable reductions in GHG emissions. Some early quantification methodologies were flawed, allowing project developers to claim credits for GHG reductions that would have happened anyway or were soon reversed. In other cases, oversight was lax – enabling some carbon offsets to be issued for activities that had already been "counted" toward a different climate-related target.

Much has changed since those early days, however. An entire ecosystem of project developers, offset protocol developers, offset registries and external assurance providers has emerged, all sharing a common interest in maintaining the integrity of the environmental claims represented by the purchase and sale of voluntary carbon offsets. The custodians of these protocols are serious and sophisticated, and strongly motivated to ensure that all voluntary carbon offsets that are sold reflect real, verifiable and additional GHG emissions reductions or removals of GHGs from the atmosphere.

Despite such dramatic improvements in quality control, allegations of greenwashing associated with voluntary carbon markets persist. To some extent, these greenwashing claims reflect differences over policy. Those who believe that effective climate policy requires strong and persistent regulatory action by governments, both at the national and international levels, are naturally among the most skeptical of voluntary carbon markets. For them, a well-functioning voluntary carbon market is almost a contradiction in terms. Anything that makes it easier for companies to achieve their climate ambitions at a lower economic cost is a stumbling block because it inhibits mobilizing political support for their preferred policy approaches.

Ironically, the good faith efforts by offset registries, protocol developers and other market participants to address earlier concerns in the voluntary carbon markets have also served to exacerbate communications challenges related to voluntary carbon offsets. The protocols and methodologies that are used to ensure the integrity of voluntary carbon offsets have become complex, highly technical and quantitatively-oriented – with the result that they are opaque to the average consumer. This means that it is relatively difficult to communicate the climate benefits of carbon offset projects, whereas it is relatively easy for critics to point to a single dodgy offset project and then dismiss all voluntary carbon offsets as so much "hot air."

Companies need to address these greenwashing concerns head-on, by fundamentally re-framing how they understand their participation in voluntary carbon markets. Today, most companies view carbon offsets as "things," fungible commodities that are bought and sold in a neutral marketplace. If viewed through this lens, it is rational for a company engaging with the voluntary carbon market to focus on securing the right number of carbon offsets at the best available price. This encourages market participants to minimize transaction costs and streamline procurement processes, practices that can exacerbate greenwashing risk.

Instead, companies need to recognize that their participation in voluntary carbon markets is a form of commercial speech, as well as an economic transaction. This is because when a company purchases a voluntary carbon offset and then publicly reports the associated climate benefits, that company is making an environmental claim or representation to the public. If those claims turn out to be false or misleading in a material respect, then it is the purchaser who will bear the reputational, and potentially legal, risk.

Mitigating Greenwashing Risks From Voluntary Carbon Offsets

The use of high-quality carbon offsets will remain a feature of corporate climate action for many years to come. Purchasers of voluntary carbon offsets can mitigate greenwashing risks, as follows:

Re-framing voluntary carbon offset purchases as environmental representations or claims encourages companies to adopt a more cautious approach when purchasing voluntary carbon offsets, such as undertaking project-level due diligence. Companies that recognize the greenwashing risks associated with voluntary carbon offsets will seek out, and be willing to pay for, higher-quality carbon offsets with demonstrable environmental integrity.
Companies should carefully consider the project activities that are undertaken to generate voluntary carbon offsets. Companies should pursue project types where the associated climate benefits can be readily understood, clearly communicated and objectively verified using widely accepted methodologies.
Many critics will claim that carbon offsets generated by avoiding or reducing GHG emissions below levels that would otherwise have occurred are intrinsically of low quality. While that is by no means always the case, there is merit to the argument that over time carbon offsets will need to shift toward those generated by permanent GHG removals rather than by slowing the rate of GHGs emissions. Companies can address these concerns by adopting a portfolio approach, investing at least a portion of their annual budget for voluntary carbon offsets in higher-priced carbon offsets generated by GHG removals, or in those that direct funds toward solving the hard problems of reducing GHG emissions in hard-to-abate sectors.
Companies can and should be open to financing positive climate action using alternative approaches and structures that put them in a more direct relationship with project activities so they can monitor and attest to the genuineness of the climate benefits they are claiming. Innovative companies are exploring options such as directly financing positive climate action by local communities, or funding the GHG reduction initiatives of others in their supply chains or in their non-core activities (sometimes referred to as carbon "insetting" to distinguish it from carbon "offsetting"), or entering into long-term bilateral agreements with project developers, or purchasing carbon offsets through specialized digital marketplaces that focus on a narrow range of high-quality project types.

Conclusion

More and more companies recognize climate change as a significant business challenge, as well as an issue of broader societal concern. Naturally, the companies that adopt measures, targets, and policies to succeed in an increasingly carbon-conscious and carbon-constrained world also want to communicate those actions to their investors, customers and to the public. But many corporate leaders feel that they are driving on a winding mountain road, with a sheer rock on one side and a sharp drop-off to the other: say too little on climate, and risk being accused of inaction; say too much, and risk being accused of greenwashing or "climate-washing." This bulletin has set out a number of actionable steps that companies can take to mitigate risks around making climate-related claims to the market, making it easier to stay on the road. Good thing, too, because the days of saying nothing at all are in the rear-view mirror.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

Canada: "Climate-Washing" Risks And How To Mitigate Them Energy Bulletin