Sustainable development is one of the European Union’s fundamental policy objectives. Over the decades, EU lawmakers have introduced a raft of treaties and regulations that manage how European companies impact the environment, workplace and corporate governance.
Sustainability provisions are in the Treaty of Amsterdam, the Treaty of European Union, the Sustainable Development Strategy, the Better Regulation Agenda, the Environmental Action Program and now the Green Deal (see Green Deal).
The EU’s aims are economic growth, price stability, competitive market economy, full employment, social progress and the protection and improvement of the environment.
Being the world’s largest trading bloc, the implications of EU sustainability policies on companies that wish to do business with or in Europe will be substantial. This is already observed in the effects that the Registration, Evaluation, Authorization and Restriction of Chemicals, or Reach, has had on the global chemicals industry and many other industries. The Green Deal and the updated Non-Financial Reporting Directive will likely have a similar impact outside of the EU.
The NFRD is the EU’s landmark sustainability legislation. The NFRD, or Directive 2014/95/EU, is considered one of the first major steps toward widespread mandatory sustainability provisions and was fully adopted by all 28 member states of the EU by 2018.
The directive requires companies operating in the EU with a workforce of 500 people or more to disclose their non-financial information and describe their impacts and mitigation strategies related to five areas of their business:
- Society and workforce
- Executive diversity
- Human rights
- Anti-corruption and bribery
Covered organizations are described by the legislation as “listed companies, banks, insurance companies and other companies designated by national authorities as public-interest entities.”
The NFRD gives companies the latitude to select from the plethora of reporting frameworks (see Frameworks) the one that aligns with ISO 26000. The resulting non-financial statement can exist outside of the annual report and be submitted separately.
As a supplement to the NFRD, the European Commission published its guidelines on disclosing environmental and social information in 2017, then in 2019 the guidelines on reporting climate-related information.
The guidelines aim to “help companies disclose high quality, relevant, useful, consistent and more comparable non-financial … information in a way that fosters resilient and sustainable growth and employment, and provides transparency to stakeholders,” says the EU in its Guidelines on non-financial reporting (found here).
The NFRD’s stipulations will potentially be strengthened to support the goals of the Green Deal. Some of this support could be derived from stakeholder opinions gathered during the European Commission’s 2020 Inception Impact Assessment on the Revision of the Non-Financial Reporting Directive.
Feedback included, among other things, that even smaller companies should be mandated to disclose.
“A significant current development is the European Commission’s review of the Non-Financial Reporting Directive (NFRD), which aims to ensure mandatory sustainability reporting by all companies of over 250 employees in the European market, an effort GRI fully supports,” Thijs Reuten, the head of policy at the Global Reporting Initiative, told Lubes’n’Greases.
There were 27.5 million active enterprises in the EU, according to the most recent figures from 2017. Of those, about 6,000 employ more than 500 people, whereas 34,000 employ more than 250, a 466% increase in coverage. Companies are only compelled to report and not to alter their operations.
Sweden and Finland already require companies of 250 should disclose and in Greece is a few as 10.
The consultation also reported that it was “hard for investors and other users to find non-financial information even when it is reported.” Critics point to companies’ exemption from disclosing non-financial statement with management reports.
The NFRD has been criticized for not being forward-looking enough. Critics also point to the variances in codifying the directive into individual member states’ laws.
Companies are responsible for compliance and must also be aware of national variations across the bloc. They argue that the side effect of disharmony is increasing the complexity of compliance efforts for companies with operations throughout the bloc. This could rule out certain countries as destinations to establish operations by non-EU entities.
Lastly, there are concerns that the NFRD’s broad approach may not suffice to reach the climate goals it set out to achieve in the first place.
EU Taxonomy Regulation
The EU Taxonomy Regulation seeks to address the lack of standardized definitions and processes in environmental, social and governance reporting. The regulation does this by providing a classification system that investment firms must use to classify investments based on NFRD data, as well as other data sets, with a longer-term aim to replace voluntary systems in Europe.
Signed into law in 2020, the regulation currently encompasses environmental factors, but social and governance will be included by the end of 2021. The environmental classification system came first in order to meet the first Paris Agreement deadline in 2020, which virtually every country missed.
Sustainable Finance Disclosure Regulation
Under the Sustainable Finance Disclosure Regulation, investment companies must disclose the environmental sustainability of their investments, as well as the veracity of any ESG claims.
The SFDR and the Taxonomy Regulation provide investment companies with a compliance framework with the Paris Agreement climate targets and the UN 17 SDGs.
Emissions Trading System
The cap-and-trade style Emissions Trading System is the cornerstone of the European Union’s plan to reduce carbon emissions by 55% by 2050. According to the EU, it limits omissions from more than 11,000 heavy energy using installations, including power stations and industrial plants, as well as airlines operating between EU member states plus Iceland Liechtenstein and Norway.
The scheme, set up in 2005, now covering about 45% of the EU’s greenhouse gas emissions and limits emissions from the largest emitting companies. It works by setting a gradually lowering cap on the total quantity of greenhouse gases that can be emitted by a participant installation. Companies can receive or buy allowances that must be surrendered at the end of each year; otherwise heavy fines are imposed.
Participant companies can trade allowances or keep spare ones to cover future emissions. As the cap is reduced, fewer allowances are available which drives up their value and makes energy saving more financially attractive.