In the eye of the Omnibus storm in the EU, we shouldn’t forget that sustainable finance predates the EU Sustainable Finance Action Plan. Regardless of the outcome, investors will continue to consider and demand sustainability information from investee companies, as it is considered both good business practice and a fundamental part of their fiduciary duty. The Omnibus, therefore, presents an opportunity to press a reset button, provided it doesn’t reduce data availability to pre-EU Action Plan levels.
The EU’s work to build a legislative framework to channel private capital to EU Green Deal objectives, including net zero objectives, has pushed sustainable finance forward and been a leading example for regulators and standard setters around the world.
Beyond the Green Deal objectives, regulations such as the Corporate Sustainability Reporting Directive (CSRD), the EU Taxonomy and the Sustainable Finance Disclosure Regulation (SFDR) were intended to help companies streamline their reporting processes, reducing reliance on private standards such as the GRI (Global Reporting Initiative) and SASB (Sustainability Accounting Standards Board), and reducing the burden of ESG questionnaires and data requests. For investors, these regulations promised standardised and comparable disclosures, with decision-useful data to execute risk management, implement investment strategies and comply with their own regulatory obligations.
Nonetheless, we should not forget that regulatory frameworks were only introduced after years of market-driven practice. Simplification of these regulations may mean that some momentum will be lost, but the groundswell will continue.
Appetite for ESG-aligned opportunities remains strong: more than two-thirds (67%) of asset owners surveyed in Morningstar Sustainalytics’ annual Voice of the Asset Owner Survey believe ESG has become “more” or “much more” material in the past five years. The UN PRI’s 2024 signatory data echoes this, showing that investors are “continuing to engage on responsible investment issues such as climate-related risks, governance, and human rights and social issues.”
Are regulations in danger of oversimplification?
Timing issues, overly complicated reporting requirements, and inconsistent rules due to complex EU policy-making processes meant that all the different pieces of the sustainable finance puzzle did not perfectly align.
Is there room to simplify and streamline? Absolutely. The reporting standard of CSRD required disclosures on over 1200 data points, the vast majority of which were qualitative requirements, making it a very ambitious set of requirements. Furthermore, initial assessments of the proposed new EU Taxonomy reporting templates indicate that it is possible to retain the same key performance indicators (KPIs) even after cutting more than 66% of data fields, demonstrating just how complicated the templates had become.
The Omnibus presents an opportunity to reset, to focus on what is material and proportionate, and to seek even closer alignment and interoperability with ISSB’s reporting standard. However, design flaws risk compromising its impact.
However, the way the Omnibus is designed — removing 80% of companies from the scope of reporting obligations and removing sector standards — risks undermining the goals of the entire sustainable finance legislative package. The opportunity to extend the availability of comparable, standardised data could be greatly diminished, making it harder for businesses, investors, and policy makers to identify and address climate (and other sustainability-related) risks and opportunities.
There are concerns that these changes could undermine the objectives of Mario Draghi’s 2024 report on competitiveness, as well as the goals of the European Central Bank, which stated in February of this year that it wishes to see climate and nature-related factors as central to risk management and monetary policy, “irrespective of shifts in the macroeconomic tides and no matter what direction the political winds may blow.”
Is voluntary reporting a reality?
The EU Commission wants to implement measures that allow for voluntary reporting, but it is unclear how many companies would do so. For Taxonomy disclosures, voluntary participation would likely only be limited to companies with significant Taxonomy KPIs that believe they would have better access to finance by having this data.
Morningstar Sustainalytics data shows that companies in the utilities, real estate, information technology and industrials sectors have the highest average Taxonomy alignment. For companies in other sectors, or with figures below the new materiality thresholds, the benefits might not outweigh the costs, resulting in only a few hundred companies opting in, at most. This would not create a sufficiently large and diversified investable universe for investors to use Taxonomy disclosures for decision making.
As for CSRD reporting, some provisions appear to encourage voluntary reporting. The VSME – a voluntary reporting standard for SMEs that also serves as a ‘value chain cap’ to shield smaller companies from excessive data requests by companies subject to the CSRD – is meant to incentivise reporting by smaller businesses and other entities outside the scope. The big question is whether the VSME will be sufficient for users of sustainability data beyond reporting.
Where does this leave us on the Omnibus proposals?
The “stop-the-clock” measure means that no new companies need disclose under CSRD for the next two years. This was agreed in the first week of April. The European Commission also seems confident that the Taxonomy proposals will be approved by the summer.
The Commission has mandated EFRAG (the body tasked with developing the CSRD reporting standards) to reduce and simplify the CSRD reporting standard by October. They intend to adopt the VSME standard in the short term as well. This should provide companies with greater clarity, as the need for consistency and stability in key regulations becomes increasingly important while investors and issuers advance along their sustainability journeys.
