What to Expect From EU Taxonomy Regulation

VIDEO: The EU's Sustainable Finance Action Plan will introduce a framework to measure the industry's progress towards net zero. Here's what to expect

Holly Black 17 March, 2021 | 1:17PM
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Holly Black: Welcome to Morningstar. I'm Holly Black. With me is Andy Pettit. He is Director of Policy Research at Morningstar. Hello.

Andy Pettit: Hello, Holly.

Black: So, Andy, there's a lot of talk at the moment about the EU's sustainable finance actional plan. And part of what's going on at the moment is they are introducing a taxonomy of sustainable activities. Can you put that in English words? What's going on?

Pettit: I will try. So, I think of it more as a framework to measure industry's progress towards Net Zero, and it's doing that by identifying six different environmental objectives from climate, water management, waste management, biodiversity and then, associating a list of different business activities associated with those different activities to green the environment. And that list is not static. It will grow over time as more things get learned and new technologies come along and its focus, to start with, is very on climate and those activities that are contributing the most towards GHG emissions.

Black: So, who does this actually affect and what do companies have to do about it?

Pettit: So, there are two broad sets of people affected. So, one are companies themselves, at least the largest firms across Europe. So, that's firms with more than 500 employees and are already subject to reporting non-financial data. And that covers around 6,000 firms. And so, where they conduct any of these business activities, they need to report their associated turnover and expenditure with those activities. So, turnover to see how much has been generated from them and/or expenditure to how much they are investing for the future.

So, if they even meet the threshold of the metrics associated with their activity and they are conducting the activity without adversely affecting any of the other environmental objectives and they are meeting certain minimum social safeguards, for example, they are treating their employees well, then they can report a degree of alignment with the taxonomy. And then, the other cohort affected are the investment funds that are investing in a broad range of companies with some level of environmental objectives of their own.

Black: Okay. So, what are we expecting as a result of this?

Pettit: I think, to start with, we're going to start seeing new disclosures next year from both companies and the funds. Having said that, we expect – and this is not a bad thing – but relatively low levels of alignment with the taxonomy thresholds. And that's partly because the thresholds are tough. So, it's just not easy to achieve these things. And it's partly because from a timing perspective, the companies are only going to be starting to report at the same time as the funds which are investing in them. So, there's going to be a bit of an information deficit to start with which will be compounded because a lot of funds would also be investing in either smaller companies which don't have to report or in non-European businesses which also would not have to report. So, kind of, to start with, I think we're expecting probably single-digit levels of alignment, but which will escalate in the future. What it does do though I think is start the ball rolling and sets a baseline from which investors will be able to see which companies and which funds are becoming more environmentally friendly.

Black: Well, I can definitely get onboard with that. Andy, thank you so much for your time. For Morningstar, I'm Holly Black.

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Holly Black  is Senior Editor, Morningstar.co.uk


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