Article
Keeping tabs on the EU ESG regulations
Impacts of the CSRD and SFDR
July 21, 2023
European Union (EU) policymakers are paving the way regarding environmental, social and governance (ESG) and sustainability regulations, and U.S. companies need to understand what might be in store for them.
What are the EU ESG regulations?
In 2019, the European Commission presented the European Green Deal, which provided the European Union with a road map for developing a sustainable economy through policymaking. The European Green Deal represented a commitment to solving climate and environmental-related challenges. As stated by the European Commission, “The EU has the collective ability to transform its economy and society to put it on a more sustainable path” [1].
Two key directives from the European Green Deal are the Corporate Sustainability Reporting Directive (CSRD) and the Sustainable Finance Disclosure Regulation (SFDR), which significantly impact the EU market but can also impact US organizations.
To drive transparency and consistency in sustainability reporting, the EU introduced the CSRD, which requires companies to report on the impact of corporate activities on the environment and society. This directive provides investors and stakeholders with the information necessary to assess investment risks arising from climate change and other sustainability issues. It is comprehensive and covers various environmental, social, and governance topics. The CSRD is centered on double materiality, meaning organizations must disclose financial material ESG impacts and those that could materially impact broader society. The directive has been in effect since January 2023, but disclosures are not required until 2025.
The European Commission recognized that to achieve their ambitions, as set out by the European Green Deal, significant investment would be required. As part of this goal, the EU introduced the SFDR to combat greenwashing, steer the flow of capital toward sustainable investments and encourage transparency in the financial market. The SFDR requires financial market participants and financial advisers to disclose sustainability risks that could cause a material negative impact on the value of an investment. Released in tandem with the SFDR, the EU Taxonomy Regulation is a green classification system defining criteria for investments aligned with a net zero trajectory by 2050 and other environmental goals set forth by the European Green Deal. The SFDR has been in effect since March 2021.
How does it affect my business?
While the EU regulations are most applicable to the EU market, U.S. organizations may be subject to the regulations. Both the CSRD and the SFDR identify applicable non-EU companies that may be required to comply. U.S. organizations generating a net turnover of €150 million in the EU will be subject to the CSRD. U.S. organizations that are EU financial market participants, EU financial advisers or U.S. organizations that appear to market investment products to the EU will be subject to the SFDR.
What will be expected of my business?
Disclosure will be required if your business is subject to the CSRD or the SFDR. U.S. based organizations that meet the requirements of the CSRD would be required to report on a range of ESG and general topics for the 2028 fiscal year. U.S. based organizations that meet the requirements of the SFDR would be required to report various entity and fund-level information for the 2023 fiscal year.
The main reporting requirements of the CSRD include disclosure of five main dimensions from The Non-Financial Reporting Directive (NFRD) [2] and disclosure of general, environmental, social and governance topics [3]. The SFDR’s main reporting requirements include disclosure of ESG conditions/events and Principal Adverse Impacts (PAI). These factors are any negative effects that investment decisions or advice could have on sustainability factors across the entity and individual funds.
View our regulation checklist to determine the applicability of the CSRD and SFDR to your organization.
Why should I stay updated on the EU ESG regulations?
Our capital markets are fueled by global supply chains and stakeholders who are increasingly requesting ESG and sustainability-related information to best inform their investment decision making. The EU is leading the way regarding ESG and sustainability policymaking, but the United States is also answering investor requests.
In March 2022, the SEC announced a proposed rule that will require publicly traded companies to disclose greenhouse gas (GHG) emissions, climate-related risks, impacts and risk management processes within registration statements and annually (10-K). As the ESG and sustainability regulatory landscape continues to mature, being unprepared to meet these reporting obligations presents a material risk to companies, public and private.
Take action
ESG and sustainability-related regulation across the globe is not a passing trend. All stakeholders, from customers to investors, are requiring increased transparency. Protect and enhance your organization by staying a step ahead of the regulatory requirements. Lean on our ESG specialists to help you navigate the risks posed by the rising tide of ESG and sustainability regulation.
Footnotes
[1] The European Green Deal sets out how to make Europe the first climate-neutral continent by 2050, boosting the economy, improving people's health and quality of life, caring for nature, and leaving no one behind, European Commission, Dec 11, 2019
[2] The five main dimensions of the NFRD, a precursor to the CSRD, include disclosures regarding environmental protection, social responsibility and workforce treatment, respect for human rights, anti-corruption and bribery, diversity of boards. The CSRD goes further than the NFRD and expands on the sustainability reporting standards of the NFRD.
[3] General disclosures include double materiality, business model and strategy, climate transition plans, time-bounded targets, sustainability due diligence, information on own operations, value chain, business relationships and supply chain, including their adverse impacts and actions to prevent/mitigate risk.
Environmental disclosures include disclosures covering each of the EU Taxonomy environmental objectives: climate change mitigation (includes scope 1, 2, and 3 GHG emissions), climate change adaptation, water and marine resources, biodiversity, ecosystem, resource use and circular economy.
Social disclosures include disclosures regarding diversity and inclusion, human rights, working conditions, health and safety, employee relations, pay gaps, related rights, workers in the value chain and affected communities, consumers and end-users.
Governance disclosures include disclosures regarding policies, risk management and internal controls, ownership and structural transparency, independence and oversight, responsible business practices, ethics, anti-corruption and executive pay fairness.
How mandatory reporting regulations are shifting the global ESG and sustainability landscape
The global ESG and sustainability reporting landscape is shifting from voluntary reporting to mandatory disclosure. The most impactful of these regulations include the SEC’s proposed climate-related disclosure rule, CSRD, SFDR and the proposed FAR amendment.
ESG and sustainability
Going beyond responsibility to value and opportunity, we provide comprehensive and industry-focused environmental, social and governance (ESG) and sustainability advisory and assurance from development to execution.