ESG stands for Environmental, Social (and Corporate) Governance. It refers to a business practice that, in addition to economic success, also strives to make improvements in these three areas. Compliance with ESG principles results in the creation of sustainability-oriented industrial and financial products.
Many regulations and instruments with specific criteria and indicators have been published in recent years that allow developments and progress in these three areas to be measured and compared. The aim is for the areas E, S and G to be seen as opportunities for creating a sustainable future so that entrepreneurial activity can be aligned accordingly. Until recently, companies have undertaken the systematic assessment of opportunities and risks based on such economic factors as their capital resources or market value. In the future, sustainability and ESG principles will also be crucial elements of such assessments.
- Increasingly, sustainability criteria are seen as an entrepreneurial duty and not simply an option.
- Keyword ‘divestment’: Investors and stakeholders evaluate their investments according to ESG criteria. Fulfillment of these criteria offers opportunities today, whereas non-fulfillment represents a future financial risk.
- Your customers and business partners expect transparency and disclosure, added to which the demand for genuinely environmentally and socially responsible products is steadily increasing.
- Buildings and infrastructure have the largest ecological footprint. From an investor’s point of view, real estate, as a long-term asset class, is particularly exposed to the risk of high loss of value – with the risk of turning into stranded assets.
- Sustainable business models will dominate the market in the medium to long term, so a sustainability strategy with clear objectives will give you a decisive competitive edge.
Numerous regulations, many of them complex and far-reaching, have emerged for different market players following the Paris Climate Agreement and Agenda 2030 (Sustainable Development Goals, SDGs). It is important to stay abreast of evolving sustainability systems to ensure that your business activity remains lawful and compliant in the future, and to meet the EU’s ESG criteria. It is also essential to manage sustainability risks and be in a position to act with suitable tools and strategies. We can support you in these areas.
The sustainability megatrend requires adapted or completely new business models. But it also opens up huge opportunities. Our future-oriented consulting undertakes a 360-degree view with you and supports you on your way to becoming a successful sustainability pioneer – with measures ranging from a Quick Check to developing and implementing an appropriate strategy and reporting.
Whether you want to establish legally compliant reporting or to establish your company as a sustainable pioneer in your sector, we can offer a custom-fit solution.
The following sectors of the EU taxonomy represent the economic activities that are responsible for 80 percent of carbon emissions under the classification system.
Where does Path 2050 lead? You can read here about currently applicable directives and regulations – and the requirements you will face in the future.
The following provides an overview of the key ESG regulations:
- EU taxonomy
- SFDR (Sustainable Finance Disclosure Regulation)
- NFRD (Non-Financial Reporting Directive)
The information provided here is limited to selected key aspects.
The EU taxonomy is a tool to support the transition to a low-carbon, resilient and resource-efficient economy.
As a central system for classification and as a catalog of criteria for sustainable activities, it is intended to ensure uniform understanding and contribute to the avoidance of greenwashing. The EU taxonomy also allows classification of when a project, building, or economic activity is deemed ‘sustainable’ and may be classified as ‘sustainable finance’.
As such, the EU taxonomy is a ‘translation’ of the goals of the Paris Climate Agreement and the UN’s Sustainable Development Goals (SDGs).
The EU taxonomy applies across industries and sectors to all key market and economic operators.
In addition to financial market participants such as banks and insurance companies, the EU taxonomy applies primarily to public-interest companies and companies with more than 500 employees. Companies that are required to provide non-financial reporting under the NFRD are also included.
The EU taxonomy also applies to EU member states and their institutions.
Reporting obligations and information disclosure for the 2021 financial year must be completed by 2022 at the latest with regard to the two main objectives of the EU taxonomy, namely climate change mitigation and climate change adaptation.
By 2023, the reporting obligations and disclosure of information for the 2022 financial year will then apply to all six key objectives of the EU taxonomy.
The Technical Expert Group presented recommendations for technical assessment criteria in its final report back in March 2020.
The delegated act on the EU taxonomy was officially presented on June 6, 2021. It requires the players concerned to report annually as part of a due diligence audit in accordance with EU corporate disclosure guidelines and the OECD Due Diligence for Responsible Business Conduct:
- The percentage of sales or project activities that meet the EU taxonomy sustainability criteria.
- Which investment expenses (CAPEX) or operating expenses (OPEX) of the company/project activities meet the sustainability criteria of the EU taxonomy.
Companies and organizations must make their annual reporting on project activities publicly available – for example on the company website or through sustainability reporting.
The Sustainable Finance Disclosure Regulation (SFDR) is an EU regulation on the publication of information provided by financial market participants on the sustainability of their investment decisions. It contains numerous transparency regulations at product and entity level as well as disclosure obligations for financial service providers with regard to their consideration of sustainability issues.
The SFDR differentiates according to whether a financial product merely takes sustainability risks into account (Article 6, SFDR), has or promotes sustainable characteristics (Article 8, SFDR – ‘light green’), or is a product with a clear sustainable investment objective (Article 9, SFDR – ‘dark green’).
The SFDR is aimed at financial market participants as well as financial advisors. Accordingly, financial advisors also include insurance intermediaries, insurance companies, credit institutions and AIFM/OGAW management companies providing investment advice.
The SFDR emerged from the Sustainable Growth Finance Action Plan initiated by the European Commission in March 2018. The Sustainable Finance Disclosure Regulation was promulgated on December 9, 2019 and, with exceptions, will apply from March 10, 2021. The SFDR Level 1 requirements will be supplemented by more detailed Level 2 requirements ("SFDR RTS") and are scheduled to enter into force on January 1, 2022.
The first regulatory impetus here - as is so often the case - is transparency. For example, the SFDR, which came into force on March 10, 2021, obliges financial market participants to inform clients, even in the case of strategies without ESG claims, which sustainability risks are taken into account in the investment decisions and what consequences these risks may have for the financial results (Art. 6).
For products falling under Article 8 or 9, actors have to report in much more detail. This includes aspects such as how the investment strategy takes into account ESG characteristics or sustainability objectives, details on the ESG objective(s) and a list of the different ones as well as the recording and possible prevention of negative impacts. In addition, there is an overview of the applicable sustainability indicators.
The Corporate Sustainability Reporting Directive (CSRD) is a major update of the EU Non-Financial Reporting Directive (NFRD). The intention is to make sustainability an integral part of reporting and for it to be gradually treated on a par with financial topics.
The EU Commission is proposing several changes to current sustainability reporting practice. Its current proposal stipulates that companies must provide information on the six environmental objectives of the EU taxonomy, on social aspects (e.g. equal opportunity, working conditions) and on governance aspects (e.g. ethics, culture, control and risk management systems).
The current proposal for a directive aims at a significant expansion of the group of companies subject to reporting requirements. This would affect all large companies with an annual average of 250 employees or more, regardless of capital market orientation.
The second threshold for large companies continues to be a balance sheet total of more than 20 million euros or a turnover of more than 40 million euros. In addition, all capital market-oriented small and medium-sized enterprises, with the exception of micro-enterprises (from January 1, 2026), are also affected.
Following adoption at EU level, the CSRD Directive must be transposed into national law by December 1, 2022 so that it comes into force for businesses. Under the current schedule, the requirements will apply from January 1, 2024 for the 2023 financial year. This would require companies to start collecting the appropriate data and information from January 1, 2023.
In contrast to previous legislation, organizations will no longer be able to choose where they publish the information. In future, the required information must be included in the management report as part of the annual report, which is to be published no later than four months after the end of the financial year. Furthermore, the publication is to be made available in a machine-readable format to ensure compatibility with the European Single Access Point, which is still to be developed by the EU.
The current EU proposal also includes the obligation to perform an external audit of sustainability information. The audit must examine the compliance of the information with the reporting standards, the process used by the company to establish the reported information, and the tagging in accordance with the requirements of the electronic reporting format, including the indicators referred to in Article 8 of the Taxonomy Regulation. It is currently considered likely that the audit will be expanded in future to cover reasonable assurance.
Environmental, Social, Governance – ESG – stands for a holistic business practice that, in addition to economic parameters, measures and evaluates the effects of economic activity on the environment, on society, and on corporate management. In this way, ESG minimizes future risks and creates incentives for successful long-term strategies. Drees & Sommer is guided by the ESG regulations and helps customers introduce and comply with them.
The Green Deal presented by the European Union at the end of 2019 sets the goal of making Europe the first continent to become climate-neutral. Sustainable ecological change is necessary to achieve this transformation. It covers the energy, transport, trade, industry, agriculture and forestry sectors.
The EU taxonomy is a standardized classification system for assessing the environmental and social impact of economic activities. This allows every company to measure and evaluate its ‘ecological and social impact’ against binding criteria and to minimize this impact over time.
The EU taxonomy already plays a significant role – especially for the financing of real estate projects, as in the case of Green Bonds – as it allows investors to identify sustainable projects and assets and better assess risks. In this context, the EU taxonomy is also intended to direct capital flows towards more sustainable investments.
The EU taxonomy has been developed as a result of the Paris Climate Agreement of 2015 and the subsequent EU Green Deal, both of which aim to limit global warming to no more than 1.5 degrees Celsius.