In the EU, the business environment has witnessed record levels of new sustainability policy and legislation in recent years. If sustainability and ESG were once buzzwords, every year regulators are bringing more clarity and rigorousness to expectations from companies to accurately disclose and improve the environmental and social impact of their activities. Despite numerous other challenges battling for the attention of world leaders, including macroeconomic uncertainty, sustainable development and climate change are still a high priority on the policy making agenda.
Today we dive into the latest and most important sustainability policy and regulatory requirements for companies that are based in or market to the EU. We will keep updating this list as the EU introduces new sustainability policy.
The first best in class standard on issuing green bonds
On February 28, 2023, European Parliament negotiators struck a deal to develop a new standard for fighting greenwashing in the bonds markets. The voluntary “European Green Bonds Standard” would help investors to identify high-quality, standard-compliant green bonds and companies, and thus reduce the risk of greenwashing.
For companies issuing a bond, choosing to comply with the standard will help them send the right signal to the market. The standard will also ensure the company’s activities aligns with EU Taxonomy’s classification system for sustainable economic activities. It will demand, however, higher transparency when marketing a green bond, such as how the bond’s proceeds will be used and funding will contribute to the transition plans of the company.
Strengthened requirements from companies on climate protection
On February 9, 2023, the European Parliament environment committee voted to strengthen requirements from companies on climate protection, setting the bar higher than ever before. Accordingly, companies would be required to ensure that their entire value chain is climate-neutral (achieves net zero carbon emissions, ed.note) by 2050.
The new requirements apply to the EU’s 2022 directive on corporate climate sustainability due diligence. The directive established duties for both large companies and their directors to identify, stop, and prevent negative human rights and environmental impacts in the company’s own operations as well as along the value chain. Companies also need to have a business strategy compatible with limiting global warming to 1.5 °C in line with the Paris Agreement.
With the new vote, the European Parliament calls for stricter obligations for companies, including greenhouse gas emission reductions along the entire value chain, consistent with the EU sustainability policy. Such requirements would prevent companies from moving their activities with negative environmental impact to countries outside of climate change regulation.
The Parliament is expected to vote on the final report during the plenary session in May, after which negotiations with the Commission and the Council will start.
For companies, the new demands would require the preparation of transition plans and the monitorization and reduction of environmental impacts that conflict with the 2015 Paris Agreement targets.
A Green Deal Industrial Plan
After the US passed the Inflation Reduction Act (IRA) in the US, introducing new incentives for the transition to clean energy, the EU couldn’t have lagged behind.
On February 1st, 2023, the European Commission presented the EU’s first centralized plan for achieving climate neutrality in Europe’s industrial sector. The Green Deal Industrial Plan building on previous initiatives, complements previous sustainability policy and the European Green Deal and REPowerEU.
The plan has four key pillars, starting with a simpler regulatory framework which aims to speed up the development and scaling up of net-zero technologies. It will also ensure access to critical materials for manufacturing these technologies and reform the electricity market design.
The second pillar aims to ensure faster access to funding necessary in the green transition. The Commision will also work with member states in the short term, with focus on recovery and resilience funds, InvestEU, and the Innovation Fund.
Another pillar focuses on ensuring open trade – the Commission will continue to develop the EU’s network of Free Trade Agreements, explore the creation of a Critical Raw Materials Club and of Clean Tech/Net-Zero Industrial Partnerships.
Mandatory sustainable investment disclosure requirements for the financial sector
In the EU, the communication of sustainable investment products is regulated by the Sustainable Finance Disclosure (SFDR). According to SFDR, a sustainable investment is that which is related to an economic activity contributing to an environmental or social impact goal.
The SFDR applies to financial market participants and financial advisers based in the EU. Investment managers and advisers outside the EU who are marketing to EU clients must also comply with the regulation.
SFDR sets requirements in three main areas: how participants communicate to inform end investors about sustainability risks, how they disclose an investment’s impact on the environment and society, and how financial products are marketed as sustainable to meet that goal. To that end, three product classes are defined: Article 6 – products that don’t integrate sustainability consideration in the investment process; Article 8 – products with some (light) investment strategy focused on environmental and/or social objectives; and Article 9 – products with a full investment strategy toward an environmental or social objective.
The legislation has two parts or levels: Level 1 took effect in March 2021 and Level 2 requirements took effect in January 2023. If before companies had a choice whether or not to comply, Level 2 brings the mandatory implementation of SFDR regulatory technical standards.
Mandatory sustainability impact disclosure requirements for large enterprises and listed SMEs
Corporate sustainability reporting rules have become mandatory, as well as more rigorous. The business environment must be prepared for the submission of data related to the sustainability impact of the companies’ activities.
In January 2023, the Corporate Sustainability Reporting Directive (CSRD) entered into force across the EU. The new legislation replaces the previous Non-Financial Reporting Directive with expanded and strict requirements for sustainability disclosure. The new rules aim to ensure that investors and other stakeholders have access to the information they need to assess sustainability-related investment risks.
CSRD extends reporting requirements from only large companies and listed large and medium sized companies to listed SMEs, adding a total of 50,000 companies to the current 11,700 pool. It also adds more detailed reporting requirements on environmental and social standards, and makes the auditing process of sustainability information mandatory.
Companies will have to apply the new rules in the financial year 2024, for the 2025 reports. Companies will have to report according to the European Sustainability Reporting Standards (ESRS).
Banks received deadlines from ECB to meet supervisory expectations on climate and environmental risks
In November 2022, the European Central Bank (ECB) published its thematic review showing that banks were still failing to adequately identify and manage climate and environmental risks. Despite 85% of banks having in place at least basic practices in most areas, they are still missing more sophisticated methodologies and granular information on climate and environmental risks.
With this occasion, it set up deadlines for banks to progressively meet supervisory expectations on climate and environmental risks. Banks need to achieve full alignment by 2024. ECB also shared good practices based on examples of banks that show that progress is possible.
Call for evidence on greenwashing
Back in November 2022, the three European Supervisory Authorities – EBA, EIOPA and ESMA – published a Call for Evidence looking to gather input from stakeholders on how they understand greenwashing in order to reduce risks in this area.
Greenwashing has been on the rise in parallel with growing demand for sustainability-related products and requirements for businesses to reduce their negative stakeholder impact. With this Call, the ESAs are aiming to understand the key features, drivers, and risks associated with greenwashing across different segments. Including the sustainable investment value chain. In turn, this will help inform policy making and supervision to ensure the reliability of sustainability claims.