Great news coming from the EU yesterday about The European Commission’s expert group on sustainable finance publishing its final recommendations for a “taxonomy” of environmentally sustainable activities that public companies can use in disclosure to the global capital markets. This action (creation of an agreed upon disclosure framework) will reduce the hundreds of separate reports companies produce to harness the finance sector for its fight against climate change and make the capital markets more relevant and connected to this growing $30+ trillion sustainability investment market place.
Three reports were issued yesterday (June 18, 2019) by the EU Technical Expert Group on sustainable finance (TEG) focusing on: taxonomy, green bonds standards and climate benchmarks.
Following the adoption of the 2016 Paris agreement on climate change, the European Commission has expressed, in the ‘Action Plan: Financing Sustainable Growth,’ its intention to clarify fiduciary duties and increased transparency in the field of sustainability risks and sustainable investment opportunities.
To address these goals the Commission launched legislative measures aimed at
- Establishing a unified EU classification system of sustainable economic activities, the so called ‘taxonomy’
- Improving disclosure requirements on how institutional investors integrate environmental, social and governance factors in their risk processes
- Creating a new category of benchmarks which will help investors compare the carbon footprint of their investments
From press reports:
“For the taxonomy to work in practice, investors will need data about company or issuer performance on the taxonomy activity criteria,” the technical expert group (TEG) said. Commission vice-president Valdis Dombrovskis welcomed the reports published by the TEG as “an important contribution to European policy-making and global debate on green finance”. The TEG said “investors and other potential users of the taxonomy can already start to understand [the taxonomy’s] implications” through the reports.
The main report sets out technical screening criteria for 67 economic activities that can make a substantial contribution to climate change mitigation across sectors such as agriculture, forestry and manufacturing. It also includes a methodology and “worked examples” for evaluating contributions to climate change adaptation.
Guidance and case studies for investors preparing to use the taxonomy are also included in the reports.
The European Commission, meanwhile, has released new non-binding guidelines for corporate reporting of climate-related information, on which several of its sustainable finance measures to some extent depend.
Publication of the TEG’s reports comes as political agreement on a taxonomy regulation by the EU Council and the European Parliament remains outstanding. Under the Commission’s proposal, asset managers marketing investment products as environmentally sustainable would need to explain whether, and how, they have used the taxonomy criteria. Investors would be free to explain that that they use alternative methodologies.
Meanwhile, in the United States the US Securities and Exchange Commission is at a complete standstill on providing any guidance to US public companies for disclosure frameworks or guidelines to tap into this growing $30 trillion sustainability investment marketplace.
Many US companies are producing close to hundred if not over a hundred -- separate sustainability/ESG/CSR sustainability reports to the marketplace and they are looking to the US SEC to mandate one framework they can use to reduce the burden of producing all these different reports by using one framework. By having all these different reports -- its creating confusion in the marketplace as well.
Having guidelines – at least voluntary – would be very helpful as companies in Europe and Asia move forward with Impact Investing/Sustainability Investment disclosures to connect the capital markets to the growing global crisis of climate change. The EU action yesterday at least provides one framework other markets can utilize for disclosure supported by a regulator and mandated to remove confusion in the marketplace using one framework.
We will see if regulators in the United States continue to remain silent on the topic of ESG/CSR/Sustainability public company reporting or now provide guidance based on the EU action or continue to lag behind other parts of the world on this topic.
Matter of fact the US might be turning away from this important public company disclosure -- President Trump recently signed an executive order that brings scrutiny of ESG investing and proxy engagement by pension funds using this type of disclose as a filter for investing. Irrespective of the actual feasibility of enacting specific ESG proxy or investment regulatory incentives or constraints, some pension fund managers in the US may conclude it is safer to forego possible future added scrutiny surrounding the decision to invest in ESG funds or to engage in related proxy efforts by simply avoiding those activities because of this executive order by Presdient Trump.
What's next in the EU?
With its EU mandate having been extended until the end of this year, the TEG will launch a call for feedback by early July on those technical screening criteria that have not yet been subject to public consultation.
The TEG’s recommendations are designed to inform a proposed delegated act to implement the taxonomy. Under the draft regulation currently under discussion, this would be developed by the Commission and subject to full public consultation as required under standard procedures.
More than 6,000 public companies are based in the EU and this sustainability investment taxonomy will help reduce the burden of multiple reports companies have to provide using one global framework to support a thriving $30 trillion sustainability investment marketplace.
What does this mean for the management accountant?
Management accountants based in the EU will be very involved in helping the finance team of EU public companies prepare this non-financial ESG report. They will begin by looking at the first taxonomy for global disclosure based on an EU mandate that also supports the United Nations SDG global effort to end global warming through capital market initiatives.
USA based management accountants will also be closely looking over the shoulder of EU peers as they prepare their companies to use the new sustainability taxonomy for public disclosure in the EU.
Will the US SEC follow? There are important economic opportunities for companies that disclose this information to investors. Bloomberg believes that companies disclosing ESG/CSR data get an additional 10% alpha from investors. One in five dollars of investment in the United States is going to companies that disclose ESG/CSR/Sustainability data to the capital markets.
What does this mean for XBRL (the accounting profession developed data standard for machine-readable reporting) via specific data tagging and this new non-financial reporting?
First the European Securities Market Authority (ESMA) is moving full speed ahead to use XBRL for financial reporting -- and now the EU and ESMA can transition and also use XBRL for making the non-financial data more usable by putting it into a machine-readable, structured format for better analytics and transparency....
"At ESMA we strongly believe that data and technology can result in more effective and efficient financial reporting. ESMA has chosen XBRL because of its potential to unlock the value of business data and enable investors to receive transparent, high-quality information on a timely basis."
The XBRL consortium will also be following this EU taxonomy closely to see if a "machine-readable" data format can be structured for the EU sustainability taxonomy to promote greater transparency and accountability through more effective data analytics for benchmarking/comparison purposes of disclosures using data tagging.
Stay tuned... Exciting news from the EU to support a thriving capital markets using a global ESG framework companies can use to better reach investors.