Understanding the EU Sustainable Finance Regulatory landscape

ESG is becoming increasingly important for investors and fund managers in private equity. This drive towards more sustainable finance is pushed heavily by the European Union enforcing a number of regulations. Keeping updated with the latest changes in policies and requirements set out, can be time-consuming. This article gives an overview of the most important ESG regulations for the industry, the status of each of them and an outlook of what’s to come.

What is the Sustainable Finance Disclosure Regulation (SFDR)?

The Sustainable Finance Disclosure Regulation (SFDR),a European regulation that applies to financial market participants, came into effect in March 2021 and impacts regulated financial intermediaries and their products. The second part of the SFDR, the Regulatory Technical Standards (RTS) will come into force on January 1st 2023.

This regulation aims to reorient cashflows towards more sustainable investments, integrate and manage ESG risk and increase the level of transparency with respect to sustainability reporting.

The SFDR can be divided into:

  • SFDR part 1 (March 2021): ESG risk
  • SFDR part 2 (January 2023): Negative impact assessed using the Principal Adverse Impact (PAI) indicators
  • SFDR part 2 (January 2023): Positive impact through positioning funds as Article 8 meaning i.e. promoting ESG characteristics or as Article 9 i.e. a fund with a sustainable investment objective

For asset managers facing disclosure requirements in the short to medium term, the situation is challenging due to data availability and poor data quality . Look out for more on this topic in our upcoming post on data challenges.

The EU Taxonomy Regulation

The EU Taxonomy Regulation provides clear rules on what can be classified as green or sustainable for investors, companies, policymakers and other stakeholders with the aim of facilitating financing for those economic activities.. The goal is to accelerate green investments by providing transparency and to minimize greenwashing.

Today, the regulation covers around 40% of economic activities of listed companies, in sectors that are responsible for almost 80% of direct greenhouse gas emissions in Europe. Most importantly, this law ultimately affects all companies (indirectly).

Non-financial Reporting Directive (NFRD)/CSRD

This EU law has applied to larger & so called “public interest” companies since 2018. The goal is to ensure more transparency with respect to non-financial information and to help investors, consumers and other stakeholders to evaluate non-financial performance.

Certain aspects of the SFDR & the EU Taxonomy are non-negotiable for companies subjected to the NFDR.

The upcoming Corporate Sustainability Reporting Directive (CSRD), expected to come into force sometime in 2023-2024, will cover more companies (removing a number of requirements, such as >500 FTEs) meaning a substantial larger number of companies will be forced to comply.

Timeline – milestones reached and deadlines coming up

Below you can find a short overview of what has transpired so far and what’s to come in the next months in terms of the EU Sustainable Finance regulatory landscape:

With implementation deadlines looming, our team is working intensively with our clients to ensure they are setting themselves up for success. For insights into the 3 most pressing challenges in terms of ESG implementation, stay tuned or contact our team for a preview!