Article
24.4.2024
11.6.2024

Your need-to-know summary of ESG regulations and frameworks

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The Corporate Sustainability Reporting Directive (CSRD), The Sustainable Finance Disclosure Regulation (SFDR) and The EU Taxonomy are vital ESG regulations and key to the EU's sustainable finance strategy. These frameworks help financial market participants address and disclose environmental and governance issues, improving transparency and accountability in financial services.

This guide covers these three key EU regulations and also introduces some of our Comply features, which ensures you meet your applicable ESG compliance requirements in a streamlined way and can integrate your ESG reporting into sustainable business strategy.

Table of contents

  • Understanding ESG regulations and frameworks
  • Three EU ESG regulations you should know
  • Steps to ensure ESG compliance
  • Summary
  • How KEY ESG can help

Understanding ESG regulations and frameworks

ESG regulations are designed to encourage transparency, sustainability, and ethical business practices. They aim to ensure that companies assess and disclose environmental, social, and governance (ESG) factors that influence their impact on climate-related financial risks, sustainable business practices, and compliance with regulatory standards.

These regulations help asset managers and financial institutions minimise environmental risks and enhance risk management processes, promoting a resilient financial industry.

An overview of ESG regulations shows alignment with the United Nations Sustainable Development Goals (SDGs), integrating global efforts to address climate change, reduce carbon emissions, and improve environmental health.

The International Sustainability Standards Board (ISSB) and frameworks like the Global Reporting Initiative (GRI) and the IFRS Sustainability Disclosure Standards underpin these efforts by setting universal ESG disclosure norms for publicly traded and private companies.

Through these regulations, businesses are held accountable for their ESG measures, ranging from GHG emissions to social and governance factors reflected in their annual reports and audited financial statements, fostering a sustainable finance ecosystem.

Key ESG regulations you should know

Discover essential EU ESG regulations affecting businesses across various industries in our ‘Key ESG regulations you should know’ section. This overview includes rules, legislation, and requirements essential for compliance, enhanced by insights from the ESG Regulation Database by the Global Reporting Initiative (GRI), which provides comprehensive regulatory guidance.

Corporate Sustainability Reporting Directive (CSRD)

The Corporate Sustainability Reporting Directive (CSRD) marks a significant advancement in the European Union's legislative measures, aiming to enhance and expand the scope of ESG reporting requirements for entities operating within the EU.

This directive is pivotal in fostering a culture of transparency. It focuses on evaluating all business activities' impacts on people and the environment. It seeks to standardise and simplify ESG reporting across various sectors, ensuring companies adopt sustainable business practices and address climate-related financial risks.

The CSRD mandates comprehensive disclosures on ESG factors, such as carbon emissions data, waste management, diversity & inclusion, employee rights and governance factors. By facilitating access to essential ESG data, the directive supports financial market participants and customers in making informed decisions, thus integrating sustainability considerations into business strategies.

For those aware of and already working under the Non-Financial Reporting Directive (NFRD), CSRD is a revision and improvement of existing NFRD regulations. These “original '' regulations only require large companies to disclose their ESG performance and do not go into the depth and detail that new reporting directives mandate. The CSRD will extend the reach to include a broader set of large companies as well as listed SMEs and eventually non-EU companies and subsidiaries operating in the EU. The requirements will go into effect in a gradual timeline contingent on company classification:

  • June 30, 2023: EU Commission to enact the first set of reporting standards
  • January 1, 2024: Large listed companies (those with more than 500 employees) will be required to track and collect ESG data under the CSRD directive (reporting year 2025)
  • January 1, 2025: Any company meeting the two of the three following criteria be required to track and collect ESG data under the CSRD directive: 250 employees, €50 million in revenues, or €25 million in balance sheet (reporting year 2026)
  • January 1, 2026: Effective date for a law that will require most SMEs (10-250 employees) to commence their reporting (reporting year 2027)
  • January 1, 2028: Effective date for CSRD compliance from third-country companies (European subsidiaries of non-European companies with a turnover of more than €150 million)

Read more about CSRD here:
The Corporate Sustainability Reporting Directive (CSRD) explained: your need-to-know guide

The Sustainable Finance Disclosure Regulation (SFDR)

The Sustainable Finance Disclosure Regulation is a mandatory European Union regulation that requires financial market participants (FMPs) and financial advisers to disclose information about the ESG risks and opportunities of their investment products.

The most significant aspect of this legislation is that fund managers must submit quarterly detailed, quantitative data on behalf of their portfolio companies. 

The SFDR has three main goals:

  1. Eliminating greenwashing and false claims
  2. Holding accountable the sustainability claims made by FMPs
  3. Improving transparency of sustainable investment products in the European Financial Sector

In brief, to meet these goals, the SFDR will require two levels of disclosure regarding integrating sustainability risks and opportunities into their investment decision-making process.

Level one requires FMPs to disclose whether and how sustainability risks are considered in their investment decision-making process. FMPs must also explain the likely impacts of sustainability risks on the returns of the financial products they offer. This disclosure became mandatory in March 2021.

Level two requires FMPs to disclose the principal adverse impacts of their investments on sustainability factors. This level of disclosure requires adherence to the Regulatory Technical Standards (RTS) on ESG and became mandatory in January of 2023. In June of 2023, adherence to Principle Adverse Impacts (PAIs) under RTS also became mandatory. PAI disclosures include specifics about sustainability risks such as greenhouse gas emissions, water usage, and human rights impacts.

SFDR is a complex and evolving regulation, so we recommend that FMPs stay updated on both current and future requirements. This will ensure that they take the necessary steps to collect relevant data and maintain compliance.

You can read more about SFDR in our resources here:

SFDR Blog Series:

Everything you need to know about SFDR

Introducing the Principal Adverse Impacts (PAIs)

Our top FAQs for all things SFDR

Whitepaper:

Navigating the EU SFDR regulation

EU Taxonomy

The EU Taxonomy is a classification system created to provide a streamlined and common language for European sustainable finance regulations. A detailed piece of legislation, defines both what is - and, crucially, what isn’t - sustainable. Created by the EU to foster transparency around ESG reporting and claims, it helps companies and investors make sound business and investment decisions based on objective truths rather than marketing ploys.

Through clarity and transparency, it aims to eliminate greenwashing by creating a holistic understanding of sustainable economic activities. It holds companies accountable to the evolving ESG reporting mandates and helps companies and fund managers assess their actual contribution to sustainable finance. CSRD and SFDR legislation is aligned with the scope and definitions outlined in the EU Taxonomy.

Six core environmental objectives make up the EU Taxonomy:

  1. Climate change mitigation
  2. Climate change adaptation
  3. Sustainable use and protection of water and marine resources
  4. Transition to a circular economy
  5. Pollution prevention and control
  6. Protection and restoration of biodiversity and ecosystems.

Regulations for two of the six objectives were enforced at the start of 2022. The remaining four objectives are expected to be implemented by early 2024, contingent on public feedback under the Environmental Delegated Act.

EU Taxonomy legislation is still in development with information and updates evolving as it unfolds. For more information on EU Taxonomy and how it specifically applies to fund managers, you can check out this reading:

What does EU Taxonomy mean for fund managers?
How does the EU Taxonomy work with SFDR?

Steps to ensure ESG compliance

Navigating the complexities of ESG compliance demands a clear understanding and a well-defined strategy.

Whether you represent a financial institution, a publicly traded company, or a private enterprise, adhering to ESG standards is crucial for fostering sustainable business practices and mitigating climate-related financial risks.

Below are essential steps to ensure effective ESG compliance.

Establish a robust ESG strategy

Creating a robust ESG strategy starts with defining key performance indicators (KPIs) aligned with international sustainability standards, such as those from the Global Reporting Initiative and the International Sustainability Standards Board.

This strategy should also incorporate climate-related financial disclosures and targets for reducing GHG emissions. By embedding ESG factors into corporate governance, companies can ensure that ESG considerations are integrated into strategic decision-making processes.

Implement effective data management practices

Effective ESG compliance relies heavily on accurate and timely data. Implementing robust data management practices is crucial for tracking and reporting ESG measures such as carbon emissions and environmental health.

This involves investing in technologies that support the collection and verification of ESG data, ensuring transparency and reliability in disclosures. Financial institutions and asset managers should enhance their capacity to handle large datasets, enabling detailed analysis and informed decision-making on climate-related risks and opportunities.

Conduct regular ESG audits and reporting

Regular ESG audits and reporting are vital for maintaining compliance with regulations like the EU's SFDR and the upcoming requirements from the Securities and Exchange Commission.

These audits help identify areas for improvement and ensure alignment with ESG regulatory landscapes. Organisations should prepare their annual reports to include detailed ESG disclosures, ensuring these documents meet the standards set by regulatory bodies and address the due diligence obligations required under various disclosure regulations.

By following these steps, companies can better manage their ESG obligations, contribute to sustainable finance, and position themselves favourably in a marketplace that increasingly values sustainability and transparency.

Summary

To summarise how each of these legislations support and enable one another, here’s a quick summary of their significance and interconnectedness.

The EU Taxonomy provides a classification system for sustainable economic activities, which is incorporated into the SFDR and CSRD legislation as a baseline for objective truths around ESG definitions and expectations.

It is incorporated into the SFDR's disclosure requirements for financial market participants and included in the CSRD legislation as a framework to guide companies in reporting on their sustainability performance in a standardised and consistent manner.

These regulations aim to create a sustainable financial system that supports the EU's goal of becoming climate-neutral by 2050. Together, they provide a framework for companies and financial market participants to disclose their sustainability risks and impacts and help investors make informed decisions.

How KEY ESG can help

KEY ESG's solutions facilitate compliance with ESG regulations such as the CSRD, SFDR and EU taxonomy.

KEY ESG enables FMPs and companies to automate and centralise their ESG data collection, KPI calculations, reporting and management. Notably, the software is updated for the latest legislative developments.

Contact a member of our team to learn more. Alternatively, book a free demo to see how our software could simplify ESG management.

For an up-to-date and detailed timeline and history of the EU’s ESG regulations in relation to FMPs, check out our article here: New Regulations for Fund Managers: Are you prepared?

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