On 23 April 2020, ESMA, in conjunction with the insurance and banking supervisory authorities (the ESAs), issued a joint consultation paper on draft technical standards for compliance with the obligations under the European Commission’s Disclosures Regulation (the Consultation).  

As per our previous briefing, the Disclosures Regulation is one of three core legislative measures in the Commission’s Action Plan on Sustainable Finance (the Action Plan) which was published in December 2019 with an effective date (for most provisions) of 10 March 2021.   

The Disclosures Regulation, which applies to a broad cross-section of EU regulated entities including AIFMs and UCITS management companies (FMCs), is comprised of: 

• manager-level obligations which require disclosures across pre-contractual, website and periodical documents on the integration of sustainability risk factors and consideration of adverse sustainability impacts into investment decision making; and
• product-level disclosure (pre-contractual, website and periodic) obligations for funds which promote sustainability (Light Green Funds) and funds with a sustainability objective (Dark Green Funds).

The Consultation includes draft regulatory technical standards for compliance with manager-level and product-level obligations under the Disclosure Regulation.  

The impact of the COVID-19 crisis on the EU’s Action Plan on Sustainable Finance

On 29 January 2020, the Commission published its work programme for the year ahead.  A European Green Deal, including the Action Plan, is a core objective of the 2020 work programme; “The most pressing challenge, responsibility and opportunity for Europe is keeping our planet and people healthy. This is the defining task of our times.  The European Green Deal is that response.”  The current crisis has, however, led to calls for the Commission to revise its 2020 work programme.  In a statement to the Commission dated 30 April, the Co-Chairmen of the European Conservatives and Reformists Group in the European Parliament wrote “The 2020 Commission Work Programme has been overtaken by events.”  “Measures that deal with the COVID-19 pandemic must be the first priority, The second priority must be to take steps to assist economic and social recovery.  Specifically, the shape of the European Green Deal must be reconsidered. Some of its most demanding elements, such the European Climate Law, should be postponed as they will inevitably place great stress on businesses at a time when they need to focus on recovery. “

However, the Commission has yet to issue changes to its 2020 work programme and on 8 April it launched a consultation on a Renewed Sustainable Finance Strategy, in which it notes that “The ongoing COVID-19 outbreak in particular shows the critical need to strengthen the sustainability and resilience of our societies and the ways in which our economies function. Therefore, it is important – now more than ever – to address the multiple and often interacting threats to ecosystems and wildlife to buffer against the risk of future pandemics, as well as preserve and enhance their role as carbon sinks and in climate adaptation.”

Draft RTS on Manager-Level and Product-Level Disclosure Obligations

The Consultation is comprised of 5 sections, key of which are; 

• section 3: ‘Background Analysis’ which highlights several significant challenges the ESAs faced in drafting the technical standards including the absence of a finalised taxonomy framework, inadequate market data, inconsistencies between the different legislative measures making up the Action Plan, the diverse and the varied nature of firms in-scope of the Disclosures Regulation; and
• section 4: ‘Draft Regulatory Technical Standards’ (RTS) on the “content, methodologies and presentation of sustainability-related disclosures” required under the Disclosures Regulation.

Section 4: Draft RTS

The draft RTS include provisions on the following obligations under the Disclosures Regulation:

1. Manager-level principal adverse sustainability-impact disclosures (all FMCs);
2. Product-level pre-contractual disclosures for Light Green and Dark Green Funds;
3. Product-level website disclosures for Light Green and Dark Green Funds;
4. Product-level periodic disclosure for Light Green and Dark Green Funds

The most significant and detailed of the draft RTS provisions relate to number 1. above.  The remaining RTS on obligations 2. – 4. are concerned with “setting minimum standards” which “will allow a base level of comparability and some tailoring of approach to specificities of products”.  

Manager-level principal adverse sustainability-impact disclosures

The draft RTS for complying with the requirement (mandatory for large FMCs¹ but otherwise comply-or-explain) under the Disclosures Regulation to disclose the negative effect/adverse impact of investment decisions on ESG factors specify:

• the required template for use when complying with the obligation under the Disclosures Regulation to publish a statement, on the website of the FMC, of the adverse impact of investment decisions on ESG factors.  The template specifies the content of the website statement under the headings of “summary, scope, principal adverse impacts, policies on the identification of principal adverse impacts, actions taken and planned to mitigate the principal adverse impacts, adherence to international standards and a historical comparison”
• a core set of mandatory indicators, the presence of which automatically results in an investment being deemed to have an adverse impact on sustainability.  For example, ‘non-renewable energy consumption’ is an automatic adverse impact indicator and the template requires quantification and disclosure of this impact by reference to (1) the total energy consumption of investee companies from non-renewable energy sources (in GWh) expressed as a weighted average (investment value/total investments); and (2) the percentage share of non-renewable energy consumption of investee companies from non-renewable energy sources compared to renewable energy sources. 

  The list of indicators is set out in the template ‘Principal adverse impacts statement’ in Annex I to the draft RTS and includes 8 categories of indicators under the headings of climate and other environment-related indicators, social and employee, respect for human rights, anti-corruption and anti-bribery matters. 

  In the Consultation’s explanatory text, the ESAs note that the adoption of a core set of mandatory indicators is seen as “the best approach to ensure a minimum level of harmonised assessment of principal adverse impact of investment decisions on sustainability factors.  These indicators would always be considered to be leading to principal adverse impacts on the environment and society, irrespective of the value of a financial market participant’s result for the indicator’s metric.  In other words, the financial market participants have no choice to determine whether their investments lead to principal adverse impacts for these indicators because any positive value for the assessment of the indicators is classified as having a principal adverse impact.”  

  In the impact analysis of the draft RTS  included in the Consultation, the ESAs considered it important to “bear in mind” the “comply or explain nature” provision under the Disclosures Regulation and that, with the draft RTS, the ESAs sought “to ensure a balanced approach that does not needlessly deter from opting not to disclose under the comply or explain regime.”  

• optional indicators which are in addition to the mandatory set of indicators. FMCs must choose at least one environmental and one social indicator from the list of additional, ‘opt-in’ indicators for disclosure alongside the mandatory indicators.
• the form and content of the statement which the FMC must publish on the website explaining its decision where an FMC elects not to consider and disclose the adverse impact of investment decisions on ESG factors, in line with the comply-or-explain nature (other than for large FMCs) of the obligation under the Disclosures Regulation.

Next steps

The Consultation is open until 1 September 2020 and responses are to be submitted using the prescribed form via the ESMA website prior to this date.  Following this, the ESAs will review the draft RTS based on the responses received and submit final form RTS to the Commission for publication in the Official Journal.

¹ FMCs with more than 500 employees are large FMCs

Contributed by Nessa Joyce