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Are we headed towards mandatory climate disclosure?

CDSB's Technical Director, Nadine Robinson, examines signals from Government and the finance community about the need for mandatory disclosure and potential pathways for inclusion in national legislation.

Last year’s IPCC Special Report highlights that we now have just over a decade to avoid dangerous and catastrophic climate change and make the urgent changes in behaviours, policies and practices needed to limit global warming to 1.5C above pre-industrial levels. This is by no means an easy feat and, to achieve this, we will need to see an unprecedented reallocation of capital towards projects and programmes, organisations and business practices that align with a 1.5C transition pathway. 

It was within this context that the Financial Stability Board (FSB) established the Task Force on Climate-related Financial disclosures to “develop voluntary, consistent climate-related financial risk disclosures for use by companies in providing information to investors, lenders, insurers, and other stakeholders.“

However, the 2019 TCFD Second Status Report,  outlining the state of climate-related financial disclosures over the past three years, showed disappointing results. Despite an overall increase in disclosure since 2016, the information reported, according to this report, remains insufficient for investors and other users of disclosures. More clarity is urgently needed on potential financial impacts of climate-related issues on companies.   

In this respect, mandatory disclosure may be the lever needed to drive uptake of the TCFD recommendations at scale and pace, and to enhance the level, completeness and quality of these disclosures. 

Clear signs from Government and the finance community 

The finance community are certainly taking note.

In June 2019, Mark Carney, Governor of the Bank of England, signalled the need to move to mandatory by declaring that “in the future, to achieve a carbon-neutral economy, disclosure must clearly become mandatory. Before it does, we need to get it right. Over the next few years, the current iterative process of disclosure, reaction and adjustment will be critical to ensure that these market standards are as comparable, efficient and decision-useful as possible”.

In this respect, Governor Carney appears to acknowledge that there will first be learning-by-doing and innovation in climate-related disclosures, but that this will become embedded over time and needs to become mainstream practice quickly.

The World Economic Forum’s Global Risk Report 2019 highlights that there is a clear role for governments around the world to help accelerate climate action by businesses, particularly through legislation or regulation mandating climate-related disclosures.

This is also echoed in the UK’s Green Finance Strategy which on draws on a similar recommendation of the Network for Greening the Financial System (NGFS), a growing network of central banks and supervisors set up in 2017 to help strengthen the global response to achieving the Paris Agreement goals. All concur that policymakers and supervisors consider further action to accelerate adoption of the TCFD recommendations worldwide is needed. 

The ambitions of the UK’s recently launched Green Finance Strategy set out the Government’s expectation for all listed companies and large asset owners to disclose in line with the TCFD recommendations by 2022. In addition to this, the Strategy also announced that the UK Government will chair a taskforce with its regulators to examine the most effective approach to disclosure, including exploring the potential for mandatory disclosures. 

The direction of travel is clear and the move to mandatory looks likely – it is not a matter of if but when! But how would mandatory disclosure be implemented in practice?

Avenues for mandating climate-related disclosure

Mandatory disclosure does not necessarily mean new legislation and a complete overhaul to the existing system. In fact, tweaks could be made to existing legal and regulatory frameworks.

The 2019 G7 roadmap created by CDP and the Climate Disclosure Standards Board (CDSB) outlines possible avenues for embedding the TCFD recommendations into national legislation across G7 member countries.  No new regulatory requirements would be needed in some countries, but rather slight clarifications to existing requirements coupled with proper guidance for supervising and enforcing existing rules.  

In countries such as France, the G7 TCFD roadmap shows that only minor adjustments to existing French reporting practices would be required. For example, this could include further alignment of Article 173 of the Energy Transition and Green Growth Law with the TCFD recommendations for companies and financial institutions. In addition, a report by the French Accounting Standards Board  proposes to synthesise reporting standards at the national, EU and global levels and to define a standard “extra-financial” reporting structure, building on existing standards, including the TCFD recommendations.

In the case of the UK, mandatory reporting could entail tweaks to the Companies Act 2006, as amended in 2013 and 2017, to incorporate the 11 recommended TCFD disclosures into the Directors’ and/or Strategic Reports. This is on top of the existing obligation in the Companies Act to report on material risks, which by its nature includes climate change where material.  Furthermore, enhancing the supervisory powers of the UK’s Financial Reporting Council could prove beneficial. 

Canada’s recent report from its Expert Panel on Sustainable Finance has multiple recommendations relating to the TCFD and how its outcomes sought can be best achieved in a Canadian context. This includes a proposal for Canada to implement the TCFD recommendations on a ‘comply or explain’ basis. The conditions are ripe for mandatory TCFD implementation in Canada, and two possible pathways exist to achieve this. The first is to update the Provincial and Territorial securities regulation through the Canadian Securities Administrators. The second is to update the Federal legislation through the Canada Business Corporations Act (R.S.C 1985, c C-44).  

Most recently, in the US we have seen growing interest in ESG reporting, including climate disclosure.

In particular, the proposed Climate Risk Disclosure Act of 2019 would require companies to disclose information to the Securities and Exchange Commission concerning their financial exposure to the transitional and physical risks of climate change, as well as mitigation efforts undertaken to reduce the impact of such risks. Whether the bill will be approved by the full House and Senate remains to be seen; however, it demonstrates the mounting support and interest in climate-related reporting. We expect the issue to continue to dominate the agenda ahead of the 2020 US Presidential elections.

In addition, the US House Select Committee on the Climate Crisis was formed in early 2019 with the mandate of delivering ambitious climate policy recommendations to Congress "to achieve substantial and permanent reductions in pollution and other activities that contribute to the climate crisis."  Its public recommendations are expected in late March 2020.

Recommendations for the European Union

In terms of the European Union, we hear strong, public signals about the high likelihood of the incoming European Commission reopening the EU Non-Financial Reporting Directive (NFRD). As part of this revision, it is reasonable to expect that the TCFD would be firmly placed on a mandatory footing in any reopening of the NFRD.

Additionally, CDSB believes that the current exception that allows material information required in the non-financial statement to be reported outside the management report should also be closed. Investors, lenders and insurers are the primary users of mainstream reports and as such climate-related risks and opportunities should be prepared with the same rigour as financial information. This will help ensure that risk is priced accordingly and that investors are provided with the decision-useful information they need to allocate capital towards the transition to a low carbon and climate-resilient economy. 

CDSB has been advocating for consistency and comparability in climate-related corporate reporting for over a decade.

If the TCFD is to be a truly effective mechanism for generating information to facilitate the smooth transition to a low carbon and climate-resilient economy, we will need to see a significant step change not only in the uptake of the recommendations at scale but also more complete TCFD disclosures.

The TCFD’s 2019 Second Status Report shows that we are only seeing on average 3.6 out of the 11 recommended disclosures made globally.  As a result, we are not obtaining a complete picture of how organisations are identifying and managing climate-related risks. This is problematic as organisations are only telling part of their story despite a universally accepted global framework for the disclosure of climate-related financial disclosures being established. To achieve quality disclosures at the scale needed to meet the climate emergency, we will need to see a move away from voluntary disclosure to mandatory implementation of climate-related financial disclosures.  

Our advice? Companies can and should start preparing and disclosing now to better prepare  for the coming tide of mandatory climate disclosure. Download the TCFD Implementation Guide to help get you started or to examine how your current disclosures could be enhanced further.  What do you think? I would welcome views from both sides.

Join our webinar on 28th August where we'll explore the growing market momentum for mandatory disclosure in more detail. Register online. 

Written by Nadine Robinson, Technical Director, CDSB