Corporate

EU moves closer to adopting the draft Corporate Sustainability Reporting Directive

Published on 20th Jul 2022

European regulatory framework for sustainable finance develops further with drafting of European Sustainability Reporting Standards, as legislative process for adopting directive continues.

Another step towards a European regulatory framework for sustainable finance and the approval of the Corporate Sustainability Reporting Directive (CSRD) has been taken with the adoption of a common position of the Council of the European Union and the European Parliament.

The CSRD aims to create a system that will define sustainability standards with uniform, proportionate, understandable, relevant, representative, verifiable, comparable and faithfully represented information. 

The CSRD is intended to meet not only the objectives of the Green Deal but also the growing needs of investors (including asset managers, social partners and other stakeholders) to have access to data describing the risks that sustainability issues present for companies and their impact on people and the environment.

Following this regulatory developments and starting to understand the sustainability standards means that companies, including SMEs, will be able to prepare the tools to measure, implement and monitor environmental, social  and governance factors, and in so doing, gaining potentially gain a competitive advantage towards a sustainable transition.

The purpose of the CSRD

The European Commission had proposed the amendment to the Non-Financial Reporting Directive 2014/95/EU (NFRD) in implementation of the commitments made in the Green Deal and its action plan on sustainable finance. The CSRD (albeit still in draft stage) is the result.

It has among its objectives:

  • the broadening of the scope of non-financial reporting;
  • improving the data reported by companies on the sustainability risks they face and the impact they have on people and the environment;
  • creating opportunities for companies, investors, civil society and other stakeholders by radically improving the way sustainability information is communicated and used thanks to digital technologies.

The method passes from an analysis of corporate sustainability policies and the study of the three ESG variables - environmental, social, governance - and includes the adoption of the EU Sustainability Reporting Standards.

The approval process 

On 21 June 2022, the Member States and European Parliament reached a provisional political agreement on the CSRD, aimed at amending the NFRD, which will now have to be approved by both institutions. 
Key points of the political agreement include: 

  • the staggering of the CSRD implementation obligation in stages, according to the type of company;
  • the certification of sustainability reporting by an accredited independent auditor or certifier;
  • the extension of the obligation to non-European companies that generate net sales and service revenues of more than Euro 150 million in the EU and have at least one subsidiary or branch in the EU.

Before moving to the formal stages of the adoption procedure, the provisional political agreement will have to be approved by the Committee of Permanent Representatives of the Member States (Coreper).

While waiting for this approval of the political agreement, the European Financial Reporting Advisory Group (EFRAG), mandated to prepare a technical opinion by the European Commission, published a draft of the European Sustainability Reporting Standards on 27 April 2022 and launched a public consultation, with a deadline of 8 August 2022.

Scope of the directive

Under the CSRD, the range of entities in scope is expanded to include large companies meeting certain criteria and some SMEs. They will be required to include in their annual report information necessary for understanding the impact of the company on sustainability issues and how these affect the company's performance, results and position.

Large companies

All large companies, regardless of whether they are listed or unlisted, that, at the balance sheet date, jointly exceed two of the following three criteria:  

  • balance sheet assets of more than Euro 20 million
  • turnover exceeding Euro 40 million
  • average number of employees during the financial year exceeding 250.

SMEs

All SMEs listed on European regulated markets with the exception of micro-enterprises (that is, those with fewer than 10 employees and a turnover or balance sheet of less than Euro 2 million).

For listed SMEs, there will be implementation principles proportionate to the capacities and resources of these companies.

Unlisted SMEs will be able to decide to voluntarily use the sustainability reporting principles to be adopted by the European Commission, by means of delegated acts, for disclosure by listed SMEs. 

These principles will enable SMEs to disclose information in a cost-efficient manner, and also help  them to respond to the numerous requests for information on sustainability impact  that they receive from other companies with which they entertain commercial relations (banks, insurance companies, and their large corporate customers). 

The defined criteria will help to set limits to the information that companies, especially large companies, can reasonably expect to receive from the SMEs in their value chain.

The European Sustainability Reporting Standards

While the legislative process for approval of the CSRD continues, the European Sustainability Reporting Standards are also being drafted.

EFRAG has already issued a first set of standards - currently subject to public consultation - articulating the Exposure Drafts as follows: 

  • two "cross-cutting standards" that apply across all reporting standards, including general reporting principles and general disclosure requirements;
  • eleven "sector-agnostic standards", that is, disclosure requirements relevant to the three different ESG variables, which include five environmental standards, four social standards and two governance standards.

Still to be defined, and outside the ambit of this first set, are the standards for SMEs, which will have to be specific and proportionate, and those specific to certain sectors.

The Exposure Drafts are based on the disclosure principles contained in art. 19b of the CSRD. As far as sector-agnostic standards are concerned, these are: 

  • environmental factors (E): climate (climate change mitigation and adaptation), pollution, water and marine resources, biodiversity and ecosystem, circular economy and resource use;
  • social factors (S): employees, workforce in the value chain, territory and affected/impacted communities, end users and consumers
  • governance standards (G): governance, risk management and internal control and business conduct.
International sustainability reporting standards 

The International Financial Reporting Standards Foundation (IFRS) is also working on internationally valid sustainability reporting standards and has put the first two Exposure Drafts up for public consultation until 29 July 2022:

  • ED IFRS S1 General Requirements for Disclosure of Sustainability-related Financial Information, containing general sustainability-related disclosure requirements;
  • ED IFRS S2 Climate-related Disclosures, for climate-related disclosures.

The ongoing process shows great ferment around sustainability standards and it is expected that the result will be an alignment of European standards with international standards and the definition of a framework that provides clear and reliable guidance to the market.

 

If you would like to discuss any of these issues further, please do not hesitate to contact the authors or your usual Osborne Clarke contact.

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* This article is current as of the date of its publication and does not necessarily reflect the present state of the law or relevant regulation.

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