The festive season is almost upon us, and hot on its heels is a new year that brings with it new regulations around ESG reporting. So, before you crack open the bubbly and the mince pies, take a few minutes to consider the following questions:

1. What is the cost of inaction when it comes to ESG reporting?
2. Why is getting a handle on your ESG impacts so important?

Well, the simple answers are 1. potentially very high and 2. to avoid greenwashing and to be able to back up your claims and satisfy stakeholder demands.

Greenwashing is no longer only adversely impactful to your brand reputation but now subject to scrutiny and regulations designed to call out companies who can’t prove their sustainability claims. Greenwash and you run the risk of facing large scale non-compliance fines.

Regulation

This is not something that is coming down the road – 2021 sees the end of voluntary reporting for some sectors and companies, so this rapidly paced area of regulatory change is already upon us. Those who don’t take this seriously are leaving themselves open to non-compliance. The government has aligned closely with recommendations from the TCFD (Task Force on Climate-Related Financial Disclosures) so we must understand its framework.

TCFD Disclosure Guidance - Companies need to report on the risks – physical and transition – and opportunities they face as a result of the impacts of climate change. The TCFD’s final report sets out a framework for disclosures across four overarching themes:

1. Governance: the organisation’s governance around climate related risks and opportunities.
2. Strategy: the actual and potential impacts of climate related risks and opportunities on the organisation’s businesses, strategy and financial planning where such information is material.
3. Risk Management: the processes used by the organisation to identify, assess and manage climate-related risks.
4. Metrics and Targets: the metrics and targets used to assess and manage relevant climate-related risks and opportunities where such information is material.

The new Listing Rule January 2021 requires commercial companies with a premium listing, but not closed-ended investment companies, to include a statement in their annual financial report for periods beginning on or after 1 January 2021 setting out, on a comply or explain basis:

1. Whether disclosures consistent with the TCFD recommendations have been made in their annual financial report.
2. Where disclosures are inconsistent with some or all of the TCFD’s recommendations or are included in documents other than their annual financial report, an explanation of why.
3. Where in their annual financial report (or other relevant document) the various disclosures can be found.

Future developments – the first financial reports to include the required statement would be published in 2022. Many issuers have already started making some of the relevant disclosures on a voluntary basis. For those that haven’t, time’s a ticking if you still need to systems in place to comply with the new rule.

Reporting

EU Taxonomy Regulation – January 2022 - Under the Non-Financial Reporting Directive, listed companies in Europe with 500+ employees and a balance sheet total of over €20m or a net turnover of over €40m will need to disclose in non-financial statements what proportion of their turnover, capital expenditure and operating expenditure is related to sustainable economic activities, as defined in the Taxonomy.

Companies with economic activities that are not sustainable will need to make a negative statement in relation to those assets/activities. The Taxonomy regulation does not mandate companies to invest in sustainable activities but to disclose information on assessing the sustainability of their business operations.

The purpose of the Taxonomy Regulation is (again) to mitigate against greenwashing by setting out clear criteria to categorise economic activities as environmentally sustainable or not.

Interestingly, including ESG impacts as part of a company’s risk register has become essential, a lack of consideration of ESG risks (for example, the risk to a company’s profitability from the imposition of a carbon-tax or a supply chain disruption resulting from a flood event) could be considered a breach of fiduciary responsibilities.

As such, regulations around reporting on the ESG impacts of financial investments has developed at lightning speed over the last two years.

An example of this is the Sustainable Finance Disclosure Regulation (SFDR), which came into effect in March 2021 and is designed to drive capital toward sustainably-oriented investments.

The European Commission introduced the SFDR to encourage sustainable investing throughout the EU financial system and to put ESG issues on-par with traditional financial risk indicators. Under the SFDR, all EU asset managers are now asked to publicly disclose:

• their approach to incorporating sustainability considerations their investment decisions;
• any ‘adverse impacts’ investments may have on environmental or social factors; and
• any sustainability risks that may impact investment performance.

Starting in January 2022, financial products marketed as having ESG characteristics or a ‘sustainable investment” objective will face additional reporting requirements intended to discourage greenwashing.

Financial advisors will now be required to counsel clients on the sustainability implications of their investments – including the potential impact (whether negative or positive) on the financial performance of their investments.

Of course, with the UK out of the EU, the degree to which the Taxonomy and the SFDR will apply here is somewhat uncertain, but it is generally accepted that we will follow suit fairly closely, so there’s no time to sit back and relax thinking you’re off the hook.

The message and the direction of travel is clear. Reporting on risk and ESG claims needs to be in your sights if it’s not already in place and regulation is ramping up in this space, so prepare and plan for this in 2022. Think of it as building your resilience and strengthening your sustainability.

The big question now of course is where does the data come from for the reports? If this is your main concern, we can definitely help. A first step might be to watch our webinar on Why Data is KEY to Good ESG, then give us a call.