EU sustainable finance taxonomy now in force for companies from all sectors

05/08/20

EU action plan for financing sustainable growth

The EU sustainable finance taxonomy explicitly applies to all companies. Not only the financial sector will have to explain to what extent investments are 'green', companies from other sectors will also have to clarify this type of information. This means that all companies covered by the decision to provide non-financial information will have to classify turnover and (capital) expenditure if they can be classified as ecologically sustainable. This requires an effort, but also offers opportunities and benefits on capital markets. PwC's sustainable finance specialists Joukje Janssen and Marcus Looijenga discuss the background to and consequences of these regulations.

Regulatory principles

Janssen and Looijenga stress that the recently adopted legislation in the field of the EU action plan for financing sustainable growth supports the importance of the transition to that sustainable growth, including its financing.

The recently adopted legislation has the following starting points:

strengthening the basis for sustainable investment;
focus on long-term development;
opportunities for financial institutions and corporates to have a positive impact;
necessary strengthening of the transition role of the financial sector.

Janssen: ‘It is the intention of the European Commission (EC) that the financial sector steers sustainable growth in all sectors through the investments they make.’

Upcoming regulations provide structure

‘The EC sees the need to support an acceleration of sustainable growth through regulation,’ says Looijenga. ‘In 2018, the EU action plan for financing sustainable growth was adopted for this purpose.’

This EU Action Plan has three main objectives:

reallocation of capital to more sustainable financing;
risk management that takes ESG criteria into account throughout the process;
reporting and external accountability on sustainable financing.

These objectives have been translated into several actions which give further shape to these objectives. The two most important ones concern companies from all sectors that currently already have to comply with the Non-Financial Reporting Directive 2014/95 (NFRD):

Taxonomy Regulation: setting up an EU classification scheme for sustainability activities
Transparency Regulation: disclosure of sustainability risks and information requirements

Article 8 of the 'Regulation on the establishment of a framework for the promotion of sustainable investment' (2019/2088), in force since 12 July 2020, requires companies subject to the NFRD to provide specific disclosures on these objectives as of 2022. This applies to all Public Interest Entities (PIEs) with more than five hundred employees.

These regulations mean that an organisation must provide insight into the following aspects:

A company includes in its non-financial statement information on how and to what extent the company's activities are related to economic activities that can be considered ecologically sustainable.
Non-financial corporations provide the following information in particular:

the proportion of their turnover from products or services related to economic activities that can be considered ecologically sustainable, and
the proportion of their capital expenditure, and the proportion of their operational expenditure, related to assets or processes related to economic activities that can be qualified as ecologically sustainable.

In order to determine which activities are considered 'ecologically sustainable', the aforementioned taxonomy will be applied. The application of the taxonomy for companies that do not fall within the financial sector is basically tantamount to earmarking activities that, according to the taxonomy, contribute to the following environmental objectives:

mitigation of climate change (as of 1 January 2022);
adaptation to climate change (as of 1 January 2022);
sustainable use and protection of water and marine resources (as of 1 January 2023);
transition to a circular economy (as of 1 January 2023);
pollution prevention and control (as of 1 January 2023);
protection and restoration of biodiversity and ecosystems (as of 1 January 2023).

The EU is currently working on the content and presentation, including the methodology to be used. This will be elaborated in a delegated act to be adopted by 1 June 2021 at the latest.

Looijenga: 'Companies can already prepare themselves by classifying activities that can be classified as ecologically sustainable under the first two environmental objectives. I am talking about the mitigation of, and adaptation to, climate change'.

Identifying activities as ecologically sustainable requires expertise and offers opportunities

An economic activity can be considered ecologically sustainable if that economic activity:

contributes substantially to one or more of the environmental objectives;
does not seriously undermine the environmental objectives (see below);
is conducted in compliance with the OECD Guidelines for Multinational Enterprises, the UN Guiding Principles on Business and Human Rights, including the principles and rights set out in the eight fundamental conventions referred to in the International Labour Organisation (ILO) Declaration on Fundamental Principles and Rights at Work and in the International Bill of Human Rights;
meets the technical screening criteria established by the EC.

For the latter part, the taxonomy should be used. This nearly 600-page report describes what may be considered ecologically sustainable. This requires an effort and the necessary expertise.

Janssen: 'Despite the required effort and expertise, companies can also benefit from this scheme at the same time. The capital markets are looking for these 'green' investments to show that investment portfolios meet the sustainable development that the EC requires of them'. The broad societal support base supports this,' adds Looijenga. Companies can reduce financing costs through the correct application of the taxonomy and attract new investors who have the long term in mind.

Act now

The 'regulation on establishing a framework for the promotion of sustainable investment' (2019/2088) is not the final part of work of the EU Action Plan for financing sustainable growth. Looijenga: 'More regulation will follow. For example, it is expected that the NFRD will be expanded in topics, in the scope of companies that have to comply with it, and in the requirement for assurance on the non-financial information'.

Janssen: 'Companies that can mark their turnover and (capital) expenditure as sustainable ecological in a clear and timely manner will be best prepared for further legislation. And they will be the first to seize the opportunities and benefits on the capital market. So it's time to take action!