Now it is time for governments around the world to make TCFD disclosures mandatory and support the International Financial Reporting Standards Foundation’s intention to establish a new international sustainability standards board to produce a climate disclosure standard, based on the TCFD.
The drive towards mandatory environmental disclosures is gathering momentum. Understanding that global problems demand globally aligned solutions, political and financial leaders are amplifying the drumbeat in support of a consistent international environmental disclosure standard against which firms will be required to report.
Writing in a special edition of the International Monetary Fund’s Finance & Development Magazine, published to coincide with COP26, former Governor of the Bank of England and UN special envoy for climate action and finance, Mark Carney, one of the chief architects of the Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD), highlights that to build a financial system to support net-zero, financial markets need consistent and decision-useful information. An international climate disclosure standard aims to provide a framework for businesses to deliver that information.
Carney notes the encouraging pace at which the TCFD went from a concept developed at the Paris Summit in 2015 to finalised recommendations in Hamburg 2018 and achieved its current adoption where “virtually the entire financial sector demands TCFD disclosures, and over 2,000 major companies around the world are responding”.
However, despite this upbeat rhetoric, analysis of the adoption of TCFD standards by some of Europe’s most prominent companies conducted by the Climate Disclosure Standards Board in 2020 found shortcomings. For instance, while 68% of company environmental disclosures now reference TCFD, 96% still do not define short, medium and long-term horizons, and 82% don’t give clear information about their resilience to different climate risk scenarios. The study highlighted a selective approach to climate risk disclosure that is attributed to its voluntary nature. To take environmental disclosure to the levels needed to effect real change, it is essential to make it a mandatory element of corporate reporting.
A G7 Push to Accelerate TCFD Adoption for Environmental Disclosures
In June 2021, the Group of Seven (G7) made its push toward mandatory climate reporting, with a communique suggesting environmental disclosures follow the recommendations of the TCFD. A meeting followed this in July of the G20, at which Finance Ministers and Central Bank Governors also indicated their commitment to TCFD. An international agreement could be reached by November 1 2021, the time of the UN Climate Change Conference.
France has already made climate-related reporting mandatory under the Energy Transition Act of 2015 — much of which aligns well with the TCFD and also incorporate broader ESG issues beyond environmental disclosure. The U.K. confirmed plans to mandate climate disclosure in November 2020, with recommendations in line with the TCFD that impact more than 1,500 companies.
EU Initiatives Have Potential for Broader Climate Risk Disclosure Influence
The EU’s ‘Green Deal’ — launched in 2019 by the European Commission — incorporates notable elements covering the integration of sustainability factors and climate risks into the bloc’s financial policy framework. Subsequently, the EU Regulation on sustainability-related disclosures in the financial services sector (also known as the Sustainable Finance Disclosures Regulation or SFDR) came into effect on March 10 2021.
The SFDR applies to financial-market participants (FMPs) and introduces the concept of Principal Adverse Impacts, which cover sustainability factors that include environmental and social issues and employee, human rights, anti-corruption, and anti-bribery matters.
The directive is also focused on preventing ‘greenwashing’ by requiring firms to clearly explain whether a financial product considers principal adverse impacts and how it does so, classifying products into three categories:
- Funds that specifically have sustainable goals as their objective
- Funds that promote environmental or social characteristics but do not have them as the overarching objective
- Funds that have no ESG factors or objectives
The EU is phasing in SFDR between now and 2023, although phase two, which involves the “principal adverse sustainability impacts statement”, has now been delayed by six months to July 2022.
The SFDR aligns reporting with EU Taxonomy’s objectives such as:
• Climate change and adaptation initiatives
• Pollution prevention and control
• The sustainable use and protection of water and marine resources
• The protection and restoration of biodiversity and ecosystems
• The transition to a circular economy
Adopted in July 2021, the EU Taxonomy Disclosure Requirements demand that large companies, banks, asset managers and insurers of certain KPIs report the proportion of environmentally sustainable economic activities in their business, investments, lending or underwriting activities.
Other Initiatives for EMEA Boards and GCs to Keep on Their Radar
- A new sustainable finance strategy was adopted by the European Commission in July that implements what global law firm Sullivan & Cromwell calls “the so-called ‘double materiality’ concept. It requires companies to assess and disclose both the sustainability-related business and financial risks faced by the company and the impact of the company’s activities on the environment and society”.
- The Corporate Sustainability Reporting Directive was proposed in April 2021 following the review of the EU Non-financial Reporting Directive (NFRD) initiated as part of the Green Deal. It would require large or listed companies, banks, asset managers and insurers in the EU to report in alignment with a new EU sustainability reporting standard that could be adopted as early as October 31 2022. This would mean companies would need to apply the standards for the first time to reports published in 2024.
- Future third-party verification. As environmental disclosure practices continue to evolve and improve over time, the Financial Stability Board (FSB) recommends that “financial authorities can contribute to significantly improving the reliability of climate-related disclosures if they were to require, as appropriate, some form of third-party verification or assurance of climate-related disclosures made by firms”.
- Extension beyond environmental disclosure. The FSB also notes that “jurisdictions and regulators are increasingly looking beyond climate change to framework for disclosure on broader ESG, or sustainability matters”, meaning it is prudent for companies to incorporate the full range of ESG factors into future reporting strategy. The EU is already pursuing this broader reporting scope and, in April 2021, proposed the Corporate Sustainability Reporting Directive (CSRD) to bring sustainability reporting onto a par with financial reporting. This directive would cover all large companies and listed companies — amounting to 50,000 companies in the EU.
As the reporting environment continues to evolve, it is time for GCs, board members, and executive leaders to review their climate leadership goals and frameworks. They must put the right data, technology and reporting in place — to get ahead of environmental disclosure requirements before they become mandatory.
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