ESG 2023 - what awaits us this year?

It is no secret that the new EU sustainability regulations have proven to be quite a challenge for business. Their interpretation and implementation itself proved problematic. But blazing new trails is never easy, and after all, all sustainability-related activities are just that. What is new and unknown is always more difficult than routine action, but certainly not boring. This boredom will not be present in the new current year either.

Expanded Taxonomy

In reports of non-financial companies published in 2023 (covering data for fiscal year 2022) and reports of financial companies published in 2024 (for 2023), the scope of mandatory disclosures will expand. Most notably, obligated entities will also have to report the share of compliance with the EU Taxonomy (taxonomy aligned) within all three key performance indicators indicated above (turnover, CapEx, OpEx). Until now, it was sufficient to report so-called eligibility (taxonomy eligible). Compliance differs from eligibility in that it shows whether an activity is environmentally sustainable (systematically compliant activity) that is, whether it meets the requirements specifically listed for that activity in the Taxonomy. In order to assess the degree of compliance of their activities, obligated entities will have to perform an analysis, which includes, in practice, three steps, during which it is verified whether an activity:

makes a significant contribution to one or more of the environmental goals,
does not cause serious damage to any of the environmental objectives,
is carried out in accordance with minimum social guarantees. In addition, the new disclosures should cover all six environmental goals, rather than two as has been the case so far.

What will this look like in practice? For non-financial companies, the disclosures will include the following key indicators:

percentage of turnover derived from products or services related to environmentally sustainable activities, and
the percentage of capital expenditures (CapEx) and operating expenditures (OpEx) relating to assets or processes related to environmentally sustainable activities.

Financial companies will be required to disclose key performance indicators appropriate to the type of company (asset manager, bank, investment firm, insurance company). For example, banks will have to disclose a green asset ratio (the so-called GAR ratio), which shows the percentage of a bank's assets financing or invested in environmentally sustainable business activities. Asset managers, on the other hand, will disclose the weighted average value of investments in environmentally sustainable business activities of investee companies. The detailed scope of disclosures and, among other things, how to calculate key performance indicators is set out in Commission Delegated Regulation (EU) 2021/2178.

More and more on the shoulders of financial institutions

Financial institutions face significantly more regulatory challenges compared to non-financial companies. In addition to the expanded taxonomy, they have to deal with reporting data on ESG risks arising from Pillar III, or the main adverse effects on sustainability factors arising from investment processes, which in turn is regulated by the new SFDR Delegated Regulation.

Pillar III ESG risks

In 2023, credit institutions will publish information on the management of ESG risks in their operations for the first time - as part of Pillar III capital adequacy reports, in accordance with an implementation technical standard (EBA/ITS/2022/01) that details the scope. It provides for 10 disclosure templates, some of which are already mandatory in the 2022 reports published by banks in early 2023.

Who is affected by the ESG risk disclosure requirement? Under the CRR (Capital Requirements Regulation), large institutions that have issued securities admitted to trading on a regulated market of any member state are required to disclose information on ESG risks as of June 28, 2022. The CRR Regulation defines a large institution based on whether it meets any of the following conditions:

is a global systemically important institution;
has been defined as another systemically important institution in accordance with Article 131 (1) and (3) of Directive 2013/36/EU;
is - in the Member State in which it is established - one of the three largest institutions in terms of total assets;
the total value of its assets on an individual basis or, if applicable, on the basis of its consolidated situation in accordance with this Regulation and Directive 2013/36/EU is equal to or greater than EUR 30 billion.

Further disclosures under the SFDR

In addition to the issues described above, credit institutions that are financial market participants within the meaning of Regulation 2019/2088, known as SFDR (Sustainable Finance Disclosure Regulation) will face the publication of detailed information on sustainable investments for the first time in 2023. As of Jan. 1, 2023, stricter reporting requirements for sustainable and ESG-labeled funds will apply, stemming from the SFDR's supplemental Commission Delegated Regulation 2022/1288 describing in detail the content, form and presentation of information with regard to sustainability indicators and adverse sustainability effects, and specifying the content and presentation of information with regard to the promotion of environmental or social aspects and sustainable investment objectives in pre-contractual disclosure documents, websites and periodic reports. The new supplementary regulation clarified how information related to sustainability indicators and ESG products should be presented. The idea is to make disclosures on the topic of sustainability comprehensive and more understandable. The SFDR rules apply to financial services both at the level of the company offering the product and at the level of the product itself. For products (funds), negative sustainability impact statements should be published on the website. For Article 8 (so-called light green) and Article 9 (dark green) funds, disclosures are required at the pre-contractual stage (in the prospectus) and later updated. Thus, in fund prospectuses, there will be so-called PCD or pre-contractual disclosures - detailed information on how responsible the fund is. A similar set of disclosures will also appear on TFI websites (so-called website disclosures).In addition, for Article 8 and Article 9 funds, from June 30, 2023, TFIs will have to periodically publish information on principal adverse impacts on sustainability, so-called PAIs (principal adverse impacts). These can be published by any means, including in financial statements. The information should explain which adverse impacts are taken into account when making an investment decision, and what actions are taken against those impacts. This is about those consequences of investment decisions that have adverse effects on sustainability factors, namely environmental, social and labor issues, as well as issues relating to respect for human rights and anti-corruption and anti-bribery.

What’s next?

ESG reporting obligations are gradually entering a higher level, and for the time being this will not change. More challenges await companies in the coming years, such as reporting under the new CSRD. There is also increasing talk of expanding the taxonomy to include social objectives, and the TNFD (Taskforce on Nature-related Financial Disclosures), which will enable companies and financial institutions to integrate environmental aspects into their decision-making process. We are also waiting for the Due Diligence Directive, or CSDD... As you can see, we should not complain about a lack of tasks in this area for a long time to come. Therefore, it will be increasingly difficult for companies to do without ESG and people who are increasingly interested in this topic and are engaged in expanding their knowledge on the subject, which I personally encourage everyone to do at every opportunity.

I wish everyone a lot of interesting and developing challenges and only good days in the New Year! 😊