In November 2022, the European Parliament passed the Corporate Sustainability Reporting Directive (CSRD), which is set to bring boards and compliance teams even more ESG-related complexity in 2023 and beyond.
Under the new directive, companies will need to start applying double materiality standards to their business’ ESG impact. They’ll need to comply with the European Sustainability Reporting Standards (ESRS) expected next summer, and obtain a third-party, certified audit of the information they report. And if the company is already subject to the Non-Financial Reporting Directive (NFRD), CSRD adherence becomes a requirement in 2024, with reporting mandatory by 2025.
But the CSRD is just one part of a much larger ESG ecosystem that encompasses the European Green Deal, the EU Taxonomy Regulation and more.
How do all of these acts, packages and regulations connect, overlap and build upon each other — and how can companies make sense of it all for regulators, investors and their own benefit?
A hierarchical and historical breakdown follows.
2015-2018: TCFD Shines a Spotlight on Climate Risk and Disclosure
Since the global financial crisis of 2009, the Financial Stability Board (FSB) has brought finance ministries, central banks, regulators, international financial institutions and international standard-setting bodies together to coordinate strong regulatory and supervisory policies.
In 2015, G20 finance ministers and central bank governors asked the FSB for ways the financial sector could account for climate change. And so the Task Force for Climate-Related Financial Disclosures (TCFD) was born, outlining 11 recommended disclosures for companies navigating climate-related issues, reporting requirements and stakeholder requests for information.
One goal is to make these disclosures more consistent and comparable. Another, the FSB explained, is to make financial risks and opportunities related to climate change “a natural part of companies’ risk management and strategic planning processes.”
Several regulatory frameworks and reporting requirements emerged from here. The NFRD is one example: under this EU directive, banks, insurance companies and publicly traded companies with more than 500 employees have had to report on their sustainability performance since 2018.
2018-2021: Sustainable Finance and the European Green Deal Accelerate Momentum
The European Commission intensified its focus even more from here. In 2018, its Action Plan for Financing Sustainable Growth addressed the need for standards, labels, taxonomies and more for ESG-related activities and sustainable financial products.
Three years later, recognizing climate change’s “existential threat to Europe and the world,” the European Commission introduced the European Green Deal. This sweeping 2021 act aims to reduce net greenhouse gas emissions by at least 55% by 2030 while “transforming the EU into a modern, resource-efficient and competitive economy.”
Getting there involves a suite of proposals for EU climate, energy, transport and taxation policy. Among these proposals, the Sustainable Finance Package (SFP) provides “an ambitious and comprehensive package of measures to help improve the flow of money towards sustainable activities across the European Union [and] enabling investors to re-orient investments towards more sustainable technologies and businesses.”
In light of the European Green Deal’s lofty goals and the Sustainable Finance Package’s expansive vision, NFRD reporting and disclosure requirements were no longer enough. More information would be needed from more companies, on a mandated basis.
Enter the CSRD, a proposed set of NFRD amendments that:
- Increase the number of companies covered from 11,600 to 49,000
- Introduce the concept of double materiality
- Request more forward-looking information, including targets and progress toward them
- Move disclosures from the annual report to the management report
- Mandate involvement of an audit partner and integration in the audit report
In short, the CSRD:
- Extends the NFRD’s scope to include all large companies and all companies listed on regulated markets (except listed micro-enterprises)
- Requires the audit (assurance) of reported information
- Introduces more detailed reporting requirements based on mandatory EU sustainability reporting standards
- Requires companies to digitally “tag” the reported information, so it is machine readable and feeds into a single access point
In another big addition, the CSRD requires disclosures of information related to “intangibles,” such as social, human and intellectual capital. This dovetails with many aspects of the Sustainable Finance Disclosure Regulation (SFDR), an EU-wide attempt to integrate sustainable considerations into the financial system and steer capital toward sustainable investments by extending the principle of sustainability beyond environmental impacts to also include anti-corruption, anti-bribery, human rights and equality impacts .
2022: The EU Taxonomy Regulation and Delegated Acts Add Even More Clarity
In November 2022, the CSRD’s proposed requirements became law, but EU regulators recognized that more guidelines would be needed to achieve the EU Green Plan’s ambitious goals. Consistency and comparability across disclosures would be necessary as well.
An ESG landscape with multiple frameworks — none of them binding — “creates reporting disparities between European countries, particularly regarding the definition and consistency of published environmental, social and governance (ESG) indicators and external assurance,” Deloitte points out. “The conclusion is inescapable: the information published by companies does not meet investors' needs, mainly due to a lack of consistency, reliability or comparability.”
Enter the EU Taxonomy and Delegated Acts, another part of the Sustainable Finance Package. Such a classification system, the European Commission explains, “will help create the world's first-ever ‘green list’ – a classification system for environmentally sustainable economic activities. It will create a common language that investors can use when investing in projects and economic activities that have a substantial positive impact on the climate and the environment.”
The EU Taxonomy clearly states the EU’s environmental objectives:
- Climate change mitigation
- Climate change adaptation
- The sustainable use and protection of water and marine resources
- The transition to a circular economy
- Pollution prevention and control
- The protection and restoration of biodiversity and ecosystems
With its Delegated Acts, the EU Taxonomy defines the technical screening criteria. Companies now have more clarity into which economic activities count as making a substantial sustainability contribution.
What’s more, CSRD guidelines align with the EU Taxonomy’s disclosure requirements by requiring companies to disclose alignments with its screening criteria, do-no-significant-harm thresholds and the Taxonomy’s six objectives.
Completing the ESG Quilt
Could ESG’s patchwork of disparate guidelines, frameworks and standards finally be converging into a unified quilt?
The new CSRD regulations, though complicated, seem to be moving things in this direction by building upon the NFRD, aligning with the SFRD and taking into consideration the TCFD, GRI and SASB frameworks that have come before it.
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