Federal Supplier Climate Risk and Resilience Proposed Rule

Introduction

Many companies have been preparing for the SEC’s proposed rule, which would require public companies listed in the United States to report sustainability information. Nevertheless, companies who work with the federal government should also begin preparing for the Federal Supplier Climate Risk and Resilience proposed rule, which will impact companies differently and likely even sooner than the SEC climate rule.

The Federal Acquisition Regulations (FAR) are rules that the Federal government follows when purchasing supplies and services with appropriated funds. The FAR Council, which consists of the Department of Defense, General Services Administration, and NASA, and is led by the Office of Federal Procurement Policy in the Office of Management and Budget, makes changes to these regulations. The council recently issued a proposed rule that would mandate certain suppliers working with the Federal government to report their Scope 1, 2, and 3 emissions, produce an annual climate disclosure, and establish science-based emissions goals.

This rule may seem inconsequential to some, as it only applies to companies that work with the government, but it has a massive scope. According to the proposed rule, the Federal Government, the world’s largest buyer of goods and services, purchased over $650 billion in 2020. Also based on numbers in the proposed rule for companies in scope in 2021, the rule will directly impact 5,766 companies.¹ Furthermore, companies that do business with federal suppliers will also be affected because Federal suppliers will need sustainability information from companies in their value chain in order to report Scope 3 emissions.

Covered Suppliers

The proposed rule divides all federal suppliers into three groups when determining their disclosure requirements: major contractors, significant contractors, and other contractors. Major contractors are companies that received over $50 million in annual contracts in the previous year. In 2021, according to the proposed rule, this group included 1,353 companies. These contractors must complete the portions of the CDP climate change questionnaire that align with the Task Force on Climate-Related Financial Disclosures (TCFD) as determined by the CDP. This includes disclosing their Scope 1, 2, and relevant categories of Scope 3 emissions and completing disclosures that outline their climate risk process and any risks identified. Additionally, they must set an emissions reduction target approved by the Science Based Targets Initiative (SBTI).

Significant contractors are companies that received between $7.5 million and $50 million in annual contracts in the previous year. In 2021, according to the proposed rule, this group included 4,413 companies. These contractors have fewer requirements than major contractors. They only need to report their Scope 1 and 2 emissions through the System for Award Management (SAM) website, which the Federal Government uses to track US federal acquisition and contracting activity. (Major contractors must also disclose their emissions through this site in addition to doing so in their annual climate disclosure.) Suppliers with less than $7.5 million in annual contracts for the previous year are not required to submit disclosures.

Federal Supplier Classification and Associated Requirements
	Previous Year Contract Awards	GHG Emissions	Climate Risks	Emissions Reduction Target
Major Contractors	> $50 Million	Must disclose Scope 1, 2, and relevant categories of Scope 3 emissions in alignment with GHG Protocol Corporate Standard through CDP	Must disclose climate risks assessed in alignment with the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD) through CDP	Must set an emissions reduction target validated by the Science Based Targets Initiative (SBTI)
Significant Contractors	> $7.5 Million - 50 Million	Must disclose only Scope 1 and 2 Emissions	Not required to disclose	Not required to set a reduction target
Other Contractors	< $7.5 Million	Not required to disclose	Not required to disclose	Not required to set a reduction target

Calculating Contractual Award Level

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Companies can calculate their previous contract awards by simply summing the total value of contracts they received in the prior year. This means that the revenue a particular company recognizes from year to year or even cash collected has no impact on the metric. For example, suppose Company A received a 5-year $10 million federal contract in year 1, and it will recognize and collect the revenue and cash evenly over the next five years. If this is the only contract Company A receives over this period, it will be a significant contractor in year 2 and an "other contractor" every other year. This is because year 2 is the only year where the company was awarded a contract worth more than $7.5 million in the previous year. However, the proposed rule does not specify if a supplier must report under the significant contractor requirements throughout the contract period even if it only qualified in one year. PwC states in their Viewpoint article on the subject that other FAR-based reporting rules do require ongoing reporting. Therefore, companies will likely have to wait for the final rule to confirm whether this will be required in this case.²

Companies that do business with the government may also wonder what types of contracts should be included when calculating their contract awards. In the article mentioned previously, PwC explained that because the proposed rule does not include any exemptions based on contract type, all contracts would be considered in scope. This means that even companies with indefinite delivery indefinite quantity (IDIQ) contracts like utilities and leases of property would be included. PwC also added that contractors should be aware that they will need to aggregate all contracts with the federal government. This means if a business does work for two different government agencies, they will have to add both contracts together when determining what classification of supplier they are.³

Finally, ambiguity surrounds whether separate legal subsidiaries must aggregate their contracts or only consider their own. The proposed rule only mentions that all entities under the same registration in SAM must aggregate contracts. PwC explains though that other FAR-based reporting thresholds require companies to aggregate contracts by their highest parent company. This is another case that will likely need to be resolved by clarification in the final rule.⁴ It should also be noted that the proposed rule also allows a parent company to fulfill these requirements for itself and all its subsidiaries, so each subsidiary does not have to create its own disclosures.

Exemptions

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There are some exemptions to the proposed rule. One notable exemption is for major contractors that qualify as small businesses or non-profit organizations. These contractors are only required to create disclosures under the significant contractor category. A business qualifies as small if it is a small business under its North American Industry Classification System (NAICS) code. In 2021, according to the proposed rule, about 29% of major contractors were small businesses.

Furthermore, companies of certain types are not obligated to complete any of the disclosures. These organizations are:

An Alaska Native Corporation, a Community Development Corporation, an Indian Tribe, a Native Hawaiian Organization, or a Tribally owned concern
A higher education institution
A nonprofit research entity
A state or local government
Management and operating contractors

More information concerning these exempted organizations and their definitions can be found in the table below.

Federal Supplier Exempted Organizations
Organization Classification	Description	Exemption
Small Businesses	Any business that is considered a small business for its NACIS code.	Must only disclose Scope 1 and 2 emissions
Nonprofit Organization	Any entity registered as a nonprofit organization	Must only disclose Scope 1 and 2 emissions
Alaska Native Corporation	Any Regional Corporation, Village Corporation, Urban Corporation, or Group Corporation organized under the laws of the State of Alaska in accordance with the Alaska Native Claims Settlement Act.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Community Development Corporation	A nonprofit organization responsible to residents of the area it serves which has received financial assistance under 42 U.S.C. 9805.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Indian Tribe	Any Indian tribe, band, nation, or other organized group or community of Indians, including any ANC, which is recognized as eligible for the special programs and services provided by the United States to Indians because of their status as Indians, or is recognized as such by the State in which the tribe, band, nation, group, or community resides.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Native Hawaiian Organization	Any community service organization serving Native Hawaiians in the State of Hawaii which is a not-for-profit organization chartered by the State of Hawaii, is controlled by Native Hawaiians, and whose business activities will principally benefit such Native Hawaiians.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Tribally Owned Concern	A nonprofit organization responsible to residents of the area it serves which has received financial assistance under 42 U.S.C. 9805.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Higher Education Institution	Any higher educational institution that (1) admits only students with secondary education graduation certificates or equivalent; (2) is legally authorized within the state; (3) provides at least a 2-year program that is acceptable for full credit towards a bachelor's degree; (4) Is a public or nonprofit institution; (5) is an accredited program or has pre-accreditation status.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Nonprofit Research Entity	Was not defined specifically in the proposed rule	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
State or Local Government	N/A	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets
Management and Operating Contractors	An entity deriving 80 percent or more of its annual revenue from Federal management and operating (M&O) contracts that are subject to agency annual site sustainability reporting requirements.	Not obligated to report greenhouse gas (GHG) emissions, create an annual climate report, or set science-based targets

Timeline

The FAR Council originally proposed the rule in November of 2022. Following this, a comment period was opened for companies and concerned stakeholders to provide feedback on the new regulation. This ran with an extension until February of 2023. The FAR Council will now review the comments received and may choose to adjust the proposed rule before it decides to publish a final rule. It is not immediately clear when this step will occur. According to the Apex Associated Press “The entire rulemaking process generally takes at least two to three years, so given this timeline we are looking at a final rule as early as November 2024.”⁵

Regardless of when the FAR Council decides to finalize the proposed rule, the first requirement will become enforceable one year after its publication. This requirement is that all major and significant contractors must disclose their Scope 1 and 2 emissions in the SAM system. Then two years after the rule is published, the rest of the requirements for major contractors will apply. These include disclosing Scope 3 emissions, completing the CDP Climate Change Questionnaire, and obtaining SBTI validation of their science-based target.

Timeline of Significant Dates Relating to the Proposed Rule
Event	November 2022	February 2023	Future Date	1 Year Following	2 Years Following
Event	The FAR Council proposed the new rule in the Federal Register.	The comment period for the proposed rule concludes.	After the FAR Council has reviewed the comments submitted and adjusted the rule, it may decide to finalize it or not.	One Year after the rule is finalized the GHG inventory and disclosure of Scope 1 & 2 emissions will be required for major and significant contractors.	All remaining requirements for major contractors will be required.

Reporting Requirements

GHG Emissions

Under the proposed rule, companies that are significant or major contractors must report their Scope 1 and 2 GHG emissions. Scope 1 emissions come from sources that the company directly controls. Scope 2 emissions come from the generation of electricity, heating, cooling, or steam that the company uses but does not control. For more information on the different emission scopes, please read our article Greenhouse Gas (GHG) Emissions.

The rule also specifies that major contractors must report their relevant Scope 3 emissions. Scope 3 emissions include all the emissions related to a company’s value chain, from the procurement of raw materials to the use and disposal of the product by a customer. Since there are 15 different categories of Scope 3 emissions, companies may wonder how to determine which of the categories are considered relevant under the rule for their company. In its accounting podcast, PwC discussed this issue and said until further guidance is given they would assume that companies should report on all of the categories of scope 3 emissions that they actually have. For more information on Scope 3 emissions see our article Scope 3 Emissions.

All emissions will be reported on the government’s SAM website, and major contractors will also be required to include them in their annual climate disclosure.

Annual Climate Disclosure

As previously mentioned, major contractors must publish an annual climate disclosure for their current or previous fiscal year. The disclosure should correspond to TCFD recommendations including reporting Scope 1, 2, and 3 GHG emissions, the entity’s climate risk assessment process, and any identified climate risks.

TCFD: Climate-related Risks

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Major Suppliers must publish these climate-related risk disclosures by completing the CDP Climate Change Questionnaire sections that align with the TCFD. The CDP (formerly the Carbon Disclosure Project) is a non-profit that has created an environmental disclosure framework for the global community. It offers an annual questionnaire that companies can use to disclose environmental information such as GHG emissions. The questionnaire is designed to align with the TCFD recommendations and also enables companies to report their progress towards science-based targets and meet the GHG Protocol Corporate and Reporting Standard requirements if desired. The questionnaire asks for more information than the rule requires, but the rule specifies that suppliers only need to report on the TCFD-aligned sections. CDP’s website has information on which disclosures are aligned. The final report must also be available on a public website, either CDP’s or the company’s own.

Science-Based Targets

The proposed rule also requires major contractors to set a science-based target to reduce their GHG emissions to a level necessary to limit global warming to below 2 degrees Celsius (the Paris Climate Agreement goal). SBTi (a collaboration by CDP, UN Global Compact, World Resources Institute, and the World Wide Fund for Nature) will then need to evaluate the target and determine if it qualifies. However, PwC says that SBTi is only reviewing goals that limit global warming to 1.5 degrees Celsius now, so companies must meet that stricter reduction level to comply with the rule.⁶ Contractors in scope must validate their targets every 5 years and publish them on a publicly available website. The rule also mandates that contractors monitor their progress toward the goal as part of the annual climate disclosure.

Important Considerations

Contractors should consider two other important factors when preparing for this proposed rule. The first is the issue of non-compliance. The contracting officer will consider a significant or major supplier non-responsible by default if they fail to fulfill the rule's requirements. Contractors deemed non-responsible will be ineligible to receive future contracts. However, the proposed rule lists three exceptions to this presumption: 1) failure to meet requirements was properly beyond their control, 2) the contractor has evidence that they substantially tried to follow the rule, and 3) the contractor has committed to comply as soon as possible (within a year) on a public website.

The second factor is the possibility of waivers. Senior procurement executives in each federal agency can grant waivers to companies to give them up to one extra calendar year to meet these requirements. These waivers will be made available on the agency’s website, so suppliers can check there for more information. Senior executives may also waive disclosure requirements for national security, emergencies, or other mission-essential purposes.

The Practical Implications of the Federal Supplier Rule

To gain insights into the practicalities of the Federal Supplier rule, we conducted an interview with Jim Burton, Grant Thornton’s lead partner over ESG and Sustainability services. We reference a number of his insights throughout this section.

What is the probability of the Federal Supplier Rule being enacted?

The Federal Supplier Rule was created by the regulations of the Federal Acquisition Regulations (FAR) Council. The FAR Council, comprising the Administrator for Federal Procurement Policy, the Secretary of Defense, the Administrator of National Aeronautics and Space (NASA), and the Administrator of General Services[8], oversees regulations concerning the appropriation of federal funds. All three of these positions are appointed by the President of the United States. Therefore, when a new President is elected, the FAR council and its regulations are susceptible to change. Procurement policies are administrative and as such a new administration can alter the requirements. As Jim explained, “the Federal Supplier Rule is far more susceptible to change than the SEC (Securities and Exchange Commission) proposed rule”.

Jim believes that some version of the Federal Supplier Rule is likely to pass, although it may not be the version we see now. As an example, the required disclosure of SBTI targets is one aspect of the proposed rule that seems susceptible to change. Jim explained that these disclosures are far more common in foreign ESG requirements and have not appeared in many of the finalized and proposed rules in the United States, such as the California Bill[9], the New York Bill[10], or the SEC rule[11]. Just as the SEC rule faced scrutiny from the public, the Federal Supplier Rule will likely face challenges before being passed. These challenges could lead to revisions that align the rule more closely to the other previously proposed and implemented bills. According to Jim, potential changes might include an increase in scope threshold amounts and requirements of emissions and climate risk information but with no requirement surrounding science-based emissions targets. If these changes were made, the ruling would resemble many of the proposed rules in the USA, making it less susceptible to pushback.

Company Preparedness

The SEC received over 24,000 comments on its proposed rule, with many companies concerned about its implications[12]. In stark contrast, companies likely to be affected by the Federal Supplier Rule seem completely unaware of its existence. Presently, there is no outreach from corporations to Grant Thornton seeking guidance on the Federal Supplier rule, which leads Jim to speculate that they may be unaware of its existence. Grant Thronton has worked to make their ESG clients aware of the ruling and its implications, but companies without an ESG advisor likely are unaware of the proposed rule. Smaller companies likely do not have ESG advisors, as they have not yet seen much pressure from the public or governmental requirements. Out of the anticipated 5,766 companies mandated to report under the Federal Supplier Rule, 3,224 (56%) are classified as small businesses[13]. A significant number of these entities within the rule's jurisdiction are likely ill-prepared for the impending requirements should the ruling be enacted. According to Jim, it takes manpower, an understanding of requirements, and time. He goes on to say that unless companies have made the requirements of the ruling part of their operational program, they are not prepared to report under the ruling.

A special thanks to Jim Burton for taking the time to share his expertise with us.

Conclusion

The Federal Supplier Climate Risk and Resilience Proposed rule is not approved yet, but it may be finalized soon, requiring many companies to disclose sustainability information. This will be especially burdensome for contractors who have not yet started to build sustainability reports. Govcon, the Government Contractor’s Network, says that only 10 percent of significant contractors and 31 percent of major contractors report their emissions in SAM currently.⁷ This means the majority of suppliers in scope are not reporting and may not be ready to do so either. Companies that will be considered significant or major suppliers should prepare now before the rule is final to ensure timely reporting. If they wait until the rule is published, they may find the one-year grace period insufficient to build out the capabilities necessary to report. Check out our article here to learn more about the future of this proposed rule and whether or not most companies will be ready for it.

Resources Consulted

https://viewpoint.pwc.com/dt/us/en/pwc/podcasts/podcasts_US/talkingesgproposedclimatedisc.html

https://www.tcfdhub.org/Downloads/pdfs/E06%20-%20Climate%20related%20risks%20and%20opportunities.pdf

Federal Register :: Federal Acquisition Regulation: Disclosure of Greenhouse Gas Emissions and Climate-Related Financial Risk