Study of EU 100 largest companies shows streamlining and precision needed for optimal EU Green TaxonomyDr. Jane Thostrup Jagd, Director of Net Zero Finance at We Mean Business Coalition
The EU Green Taxonomy was designed to accelerate the flow of money into green companies and projects, while simultaneously protecting investors from greenwashing accusations. But for the framework to be effective both non-financial companies and financial companies will have to apply the legislation better – and the legislators will also have to focus on usability of the reporting legislation. This means getting clearer on key definitions and ensuring the Taxonomy is relevant for those companies it covers, while simultaneously protecting investors from accusations of greenwashing.
The EU Green Taxonomy is one of the cornerstones of the EU Action Plan on financing sustainable growth and is also the foundation of many other pieces of legislation currently being implemented. These include:
- The Sustainable Finance Disclosure regulation (SFDR), a regulation aimed at improving transparency in the market for sustainable investment products. It is focused on preventing greenwashing and to increasing transparency around sustainability claims made by financial market participants.
- The much debated Corporate Sustainability Reporting Directive (CSRD), with its proposed underlying 12 reporting European Sustainability Reporting Standards (ESRS), which await final adoption by the European Council in August 2023. The CSRD has already been adopted and will kick in from reporting year 2024. Going forward the CSRD will include more and more companies as the years progress, covering 50,000+ companies inside and outside the EU by the end of the 2028 reporting year.
- The EU Green Taxonomy is also instrumental for the upcoming EU Green Bonds Standard.
As the cornerstone of many current and upcoming regulations, the quality and comparability of the EU Green Taxonomy’s reporting data is crucial. However, our new research which reviewed the reports of 100 of the largest listed EU companies, has revealed that many companies find the EU Taxonomy lacks the level of precision needed for it to be a useful tool. Our analysis, which centres on the applicability of the legislation, found both areas of positive potential and areas requiring attention.
Many companies have made commendable efforts to align with the EU Green Taxonomy. All 100 companies in the study referred to the Taxonomy in their non-financial reporting, demonstrating an initial knowledge of the framework. Impressively, 98 of these companies voluntarily sought some form of auditing or external assurance for their non-financial reporting, of which 42 also voluntarily get assurance of their Taxonomy reporting, indicating a commitment to transparency and accountability. Furthermore, 58 companies are actively involved with green bonds, with 12 already working with Taxonomy-labelled bonds. These encouraging statistics indicate a growing appetite for sustainable finance and the potential for substantial capital flows into environmentally conscious projects.
Areas for Improvement
However, the analysis also unearthed challenges in the EU Green Taxonomy’s application. Ambiguities, discrepancies, and redundant requirements undermine the framework’s effectiveness and credibility. This points to the need for refinements to enhance both companies’ reporting practices and legislative clarity.
Recommendations for Non-Financial Companies
- Tabular Forms: Non-financial companies should adhere to the mandatory tabular forms, even if they lack eligible activities. This consistency fosters transparent reporting practices.
- Reconciliation: Ensuring the alignment of reporting with consolidated financial reporting is crucial for accurate and useful data presentation.
- Activity Codes: Avoid inventing activity codes; utilize the standardized Delegated Act codes to maintain uniformity and comparability.
- Accounting Principles: Strengthen accounting principle’s descriptions, including potential thresholds used, to enhance clarity and comprehension.
Recommendations for Financial Companies
- Reconciliation: Similar to non-financial companies, financial institutions should align reporting with consolidated financial reporting to provide a comprehensive view of their sustainability efforts.
- Accounting Principles: Improve descriptions of Key Performance Indicator (KPI) formulas, ensuring accuracy in compliance with legislation.
- Estimation Models: Enhance estimation model descriptions, detailing the methodology, especially if relying on external data providers.
Our analysis also shows that financial companies appear to overestimate the share of their loans and investments on their books that are covered by the Taxonomy. For example, a bank that provides a business loan to a non-financial company must, according to the Taxonomy regulations, also report which share of this loan is covered by the Taxonomy. However, to know the share of their loans, which are covered by the Taxonomy, they must wait for the Taxonomy reporting from the non-financial companies. But since the financial and non-financial companies must report at the same time, there is a data lag – whereby the financial companies must make an educated guess. At present this estimate is too high, financial companies in our analysis are reporting the eligibility of their assets at 60%, compared to the non-financial companies who are reporting that just 37% of their turnover is taxonomy eligible. This data gap is by design and will always exist for timing reasons.
But the real question is, should financial companies need to report on this in the first place – especially when they also have the SFDR obligations when selling financial products and instruments, and hence are the end-users of the Taxonomy reports? We believe that there needs to be a greater focus on the usability of the data the legislators request. If the data is flawed by design, then is it useful to collect and report at all?
Recommendations for legislators
- Reporting complexity: Evaluate the complexity of reporting, focusing on reducing overcomplicated tabular forms and redundant elements, while prioritising mandatory assurance and usability.
- Defining ‘activity’: Provide a concrete definition of the term ‘activity’ within a Delegated Act to eliminate ambiguity, potentially incorporating a valid financial threshold.
- Taxonomy activities: Consider expanding the range of covered activities or narrowing the legislation to ensure relevance for reporting companies.
Balancing Potential with Practicality
The EU Green Taxonomy is undeniably a significant step forward in fostering sustainable finance. The analysis of reporting practices reveals a strong foundation and eagerness within the business community to embrace this framework. However, to harness its full potential, adjustments must be made. Striking the right balance between robustness and simplicity is crucial. By refining reporting practices and legislative clarity, the EU Green Taxonomy can become an even more powerful driver of sustainable investments.
The EU Green Taxonomy represents an ambitious and commendable endeavour to guide financial flows towards sustainable companies and projects and combat greenwashing. While the road to full implementation may have its bumps, the positive engagement of companies and the early success of Taxonomy-labelled bonds demonstrate a growing appetite for green investments. By addressing challenges and implementing recommended improvements, the EU Green Taxonomy can realize its full potential, contributing significantly to Europe’s climate goals and fostering a greener future for generations to come.
Read the White Paper
Download the We Mean Business Coalition White Paper to get further insights for both companies and legislators on how the framework and its output can be further improved.