The Sustainable Finance Disclosure Regulation And The Draft Regulatory Technical Standards

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In recent times, the European Union has been trying, within the scope of its (legislative) possibilities, to account for climate change and the increased public interest in sustainable products and in a more sustainable world within the financial sector.

In this context, the European Commission published its Action Plan on Financing Sustainable Growth in 2018. Sustainability in the financial sector shall be primarily ensured by taking environmental, social and governance factors (ESG-factors) into account. Therefore, sustainability as envisaged by the European Commission does not only include environmental factors (e.g., adapting to climate change) but also social factors (e.g., combating inequality); governance plays an essential role in incorporating these factors into the decision-making process of entities.

Regulation 2019/2088 on sustainability-related disclosure in the financial services sector (Sustainable Finance Disclosure Regulation – "SFDR") obliges financial market participants, on the one hand, to inform customers about the sustainability of their financial products and their consideration of adverse sustainability impacts in their processes and, on the other hand, to disclose the integration of sustainability risks in such processes. According to the SFDR, sustainability risks are environmental, social or governance events or conditions that, if they occur, could cause an actual or potential material impact on the value of an investment. The term "sustainability risk" appears to be somehow counter-intuitive, since it does not describe the risks of negative impacts of an investment on environmental or social areas but rather the risk of negative events in precisely these areas for the value of the investment. In terms of the desired orientation towards more sustainability in the financial sector, the consideration of adverse sustainability impacts in the processes of financial market participants as well as the provision of information on the sustainability of financial products appear to be of more significance.

These provisions are intended to ensure that investors can make their investment decisions taking into account environmental and social factors. Moreover, the inclusion of the concept of sustainability in European legislation should help to further raise the awareness for this topic by (institutional) investors. Furthermore, the additional transparency resulting from the disclosure requirements can reduce the risk of greenwashing. Companies commit greenwashing when they advertise and sell products as environmentally friendly or sustainable, even though the products do not fulfil these characteristics. The same applies to companies that advertise their operations as sustainable, when in fact they are not.

According to the provisions of the SFDR, the European Commission can specify the details for disclosure by means of regulatory technical standards. The draft regulatory technical standards are developed and prepared by the joint committee of the European Supervisory Authorities (EBA, ESMA and EIOPA). The competence of the joint committee to define the technical regulatory standards in more detail essentially comprises of two major subject areas, the entity level and the product level. The final draft was published on 4 February 2021 and according to the expectations of the joint committee, the European Commission should approve the draft regulatory technical standards within the next three months.

Adverse Sustainability Impacts And Sustainability Risks At Entity Level

In the case that a financial market participant includes adverse sustainability impacts in its investment decision-making processes, Article 4 provides for a statement to be published on the website in which the most important adverse sustainability impacts are to be described on the basis of various indicators. These indicators from the areas of climate change and the environment, social and employee matters, human rights and the fight against corruption are divided into a core set of universal mandatory indicators and additional opt-in indicators. While the former directly lead to adverse sustainability impacts of investment decisions, the latter serve to identify, assess and prioritise additional adverse sustainability impacts. According to the draft regulatory technical standards, the mandatory indicators for investments comprise of 18 different indicators, whereby 9 indicators from the environmental field and 5 indicators from the social field are relevant for investments in companies. Additionally, there are 4 special indicators for investments in sovereigns and supranationals as well as for real estate investments. For each indicator, the impact in the current year and previous year shall be stated and the measures taken (and planned) shall be described.

In addition to defining the mandatory indicators, the regulatory technical standards also specify the calculation method for individual indicators. The idea behind these calculation provisions seems to be that the mandatory indicators shall be represented by a single key figure that is calculated on the basis of the proportion the investments that are covered by this mandatory indicator bear to the total investments of the respective financial market participant. For example, in the case of the mandatory indicator "greenhouse gas intensity", the greenhouse gas emissions of a company are set in relation to its turnover and weighted with the proportion that the investment in such company achieves bears to the total investments of the respective financial market participant. The use of the weighted average in the calculation of such mandatory indicator appears justified and methodologically comprehensible. Nevertheless, it could be argued whether the factor that does actually define the mandatory indicator and is used for the calculation also corresponds to the actual objective of the mandatory indicator. For example, in the case of greenhouse gas intensity mentioned above, the question remains whether the fact that greenhouse gas emissions are set in relation to a company's turnover means that companies with an adverse turnover trend have a stronger influence on the mandatory indicator and are, thus, "overrepresented" in the final key figure. For example, in the above-mentioned case of greenhouse gas intensity, the question remains whether, by setting greenhouse gas emissions in relation to a company's turnover, companies with negative turnover development have a stronger influence on the mandatory indicator and are "overrepresented" in the final indicator; this is based on the consideration that (stronger) fluctuations in a company's turnover between two indicator calculations can and will occur more frequently, while the company's greenhouse gas emissions are probably not subject to the same relative changes over the same period; in other words, the lower turnover is not necessarily a consequence of lower production (and other greenhouse gas emitting processes). As a result, if the turnover decreases, the company's contribution to the metric will increase year-on-year and thus, such companies will have an inadequate influence on the final overall "greenhouse gas intensity" metric.

In the case of investments in companies, the most important mandatory indicators in the environmental field are greenhouse gas intensity, greenhouse gas emissions, carbon footprint, water emissions and hazardous waste ratio. Mandatory social indicators include lack of diversity in the management, violation of the OECD Guidelines for Multinational Enterprises and an unadjusted gender pay gap. The mandatory indicators for investments in sovereigns or supranationals are greenhouse gas intensity or the violation of international treaties or the principles of the United Nations. The two mandatory indicators for real estate investments relate to investments in energy-inefficient real estate or in real estate for the extraction, storage, transport or production of fossil fuels.

If a financial market participant does not consider adverse sustainability impacts in its investment decisions, it must publish clear reasons for that on its website and state whether and, if so, when it intends to take these impacts into account. While the provisions on publication under the SFDR have been applicable since 10 March 2021, the details proposed by the regulatory technical standards shall only be applicable from 1 January 2022.

Moreover, pursuant to Article 3 SFDR, financial market participants have to publish information on their respective websites about their strategies for integrating sustainability risks into their investment decision-making processes.

Adverse Sustainability Impacts At Financial Product Level

Applicable as of 30 December 2022, Article 7 SFDR provides for disclosure obligations regarding financial products on the website of those financial market participants who include adverse sustainability impacts in their investment decisions. As per such Article 7, clear and reasoned explanations must be provided as to whether (and how) the most important adverse impacts on sustainability factors are taken into account in a financial product. The SFDR distinguishes between financial products that aim at sustainable investment (Art 9) and financial products that promote environmental or social features (Art 8). In addition, there are still those financial products that do not fall into either of the two aforementioned categories.

The main difference between financial products under Art 8 and Art 9 is the extent to which the products are subject to the concept of sustainability. While financial products falling under Art 8 simply take into account environmental or social characteristics in the investment decision, financial products falling under Art 9 pursue a specific sustainability objective (such as the reduction of CO2 or a specific social objective), which is why the SFDR requires detailed explanations for the latter as to how the achievement of such objective is ensured. A sustainable investment within the meaning of Art 9 is also characterised by the fact that the investment does not materially undermine any environmental or social objective of the SFDR and that the investee companies apply good corporate governance practice.

For both types of financial products, the SFDR imposes additional disclosure obligations, for example in pre-contractual documentation. The draft regulatory technical standards provide that in the course of the pre-contractual documentation, a statement is to be made (i) whether any sustainable investments are intended with the financial product, (ii) whether the product advertises environmental or social features or provides for sustainable investment objectives, and (iii) whether an index has been defined as a reference benchmark against which the achievement of the environmental or social objectives pursued with the financial product can be verified. Furthermore, the essential information about the product shall be presented by answering pre-formulated questions. These are defined in Art 13 and 20; templates for pre-contractual documentation can be found in Annexes II and III (for financial products under Art 8 and 9) of the regulatory standards.

These categories of financial products are also to be addressed in the periodic reports of financial market participants. In such reports, it should be explained whether the social or environmental characteristics have been fulfilled, and the overall sustainability impact of the financial product should be assessed on the basis of sustainability indicators or through a comparison with a specific index. In their Annexes IV and V, the regulatory standards provide templates for such periodic reporting obligations concerning financial products. As in the case of pre-contractual documentation, the periodic report shall comprise of answers to five essential questions; these are defined in Art 58 and 64 of the regulatory technical standards.

Finally, financial market participants must publish specific information on the financial products under Art 8 and Art 9 on their website and keep it up-to-date. In particular, this includes a description of the environmental and social characteristics of the product or its sustainable investment objective, the related assessment, evaluation and monitoring methods as well as information on the sustainability indicators used for impact measurement. Such information must be easily accessible on the website and must be formulated in a clear and (for investors) understandable way.


Although it remains to be seen whether the European Commission will approve the joint committee's drafts of the regulatory technical standards in their published form, it is already apparent that investing on the basis of sustainable and transparent financial products is no longer just a contemporary fashion phrase. The briefly outlined SFDR and the draft regulatory technical standards clarifying such regulation constitute an essential step towards more sustainability in finance. By taking environmental and social factors into account when making investment and financial product decisions, each investor will have the opportunity to specifically promote sustainability. On the part of financial market participants, the disclosure obligations in force since 10 March 2021 will lead to an additional (organisational) effort, which is in any case considerable in its entirety and scope - and probably not yet fully assessable.

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