RI's recent EU Sustainable Finance Action Plan update webinar series can be listened to in playback on the RI webinar page
Nathan Fabian, Chief Responsible Investment Officer at the PRI and Rapporteur for the Taxonomy Group of the EU Technical Expert Group on Sustainable Finance, answers your webinar questions following the presentation on the 'taxonomy', formally know as the EU classification system for sustainable activities:
Nathan Fabian, PRI
Q. If a portfolio has a mix of taxonomy-eligible activities (wind), non-eligible activities (oil) and non in-scope activities (insurance), should the market focus on the % of eligible activities as a % of the total portfolio or just as a % of the in scope activities?
A. The current proposal is to consider the % of the total portfolio. The Technical Expert Group (TEG) is working on more detailed guidance for cases like this. The intent is that the taxonomy will be extended to consider other economic activities (for example, insurance) over time.
Q. To what extent can external providers like environmental consultancies be involved in the taxonomy moving forward, especially if we have the tools and ways to provide support to market players to apply the taxonomy thresholds and criteria?
A. This is a commercial decision for these firms.
Q. Why has the EU taxonomy considered revenue as a metric to measure the greenness of a company instead of, say, asset value. Does this not discourage an IT company, for example, from investing into optimising its own energy consumption? And how will investors measure such a company that invests in making its assets green but doesn't generate revenues out of it?
A. The taxonomy is an economic activity based framework. Revenue is a proxy for attributing company activities to taxonomy criteria. Generally, taxonomy criteria relate to the business, product or service of a company rather than to specific assets that the company uses to perform its business or services. As such the IT company would use the criteria relevant to its services, perhaps data hosting services or software design for example and attribute the proportion of its activities – probably in percentage terms – that meet the relevant taxonomy criteria threshold(s). If the company applies a debt instrument to a specific upgrade, they would still use the activity criteria if the activity met the taxonomy threshold.
Q. How can you measure or aggregate contributions/activity that is based on expenditure and/or revenue?
A. There is some guidance in the June TEG on this, but it will be elaborated further in the next report.
Q. Could you provide some background on why climate insurance is included in the taxonomy? Is it just to identify green activities by the insurance sector, or also to spur green bond issuance from this sector?
A. Climate insurance is included under activities that can make a substantial contribution to climate change adaptation. The TEG proposes a set of general principles for adaptation that apply to all sectors of the economy, but to fully evaluate the risks of significant harm to other environmental objectives further analysis is done on a sector by sector basis. Insurance is one of a range of sectors considered by the TEG. However, this was just an initial selection based on the need to trial the adaptation approach for different types of economic activity and doesn’t imply any judgement from the TEG on its role in the low carbon transition.
Q. What are the specific pieces of data for the taxonomy that it will be difficult to source: can we have practical examples?
A. There are two broad categories:
- Revenues data broken down by individual activities making a substantial contribution to one of the activities
- Information on compliance with Do No Significant Harm criteria (reporting on the broader environmental objectives is less developed) TEG is working on guidance to address these.
Q. Will the TEG criteria change over time? Who will maintain it?
A. The legislation setting out the taxonomy framework also creates a Platform on Sustainable Finance responsible for updating the taxonomy and conducting periodic revision of criteria. The TEG has proposed timeframes for revision of some of the criteria (for example, the energy threshold should be reviewed and reduced every 5 years). However, these remain recommendations.
Q. When will the sectors currently not in the taxonomy be covered? (e.g. paper, shipping, mining, banks, etc)
A. The revision of the taxonomy will be done by the Sustainable Finance Platform. The timing depends on the overall political agreement, so it’s not possible to confirm exactly when this will happen.
Q. What if your investee company is a bank providing green loans? Financial services is not an "economic activity" under the taxonomy?
A. Financial services is an economic activity captured under the NACE system, which the taxonomy is based on. It is likely that the Platform on Sustainable Finance will consider banking services in future.
Q. How important do you think it is to make disclosure of the data and information on activities and performance vs NACE activities by companies mandatory? This seems like a real limitation for having accurate information and thus being able to use the taxonomy currently.
A. We strongly support high quality disclosure and welcome the European Commission’s recent decision to incorporate taxonomy disclosures into the Non-Binding Guidelines that support the Non-Financial Disclosure Directive. However, it is possible for investors to seek this data directly from companies, use estimated or modelled data, or potentially use commercial data services to access this kind of information so we don’t see mandatory data as a precondition for investors to comply with their taxonomy obligations. We expect a transition period as disclosures improve in quality.
Q. With the EU trilogues happening, the European Parliament's (EP) position would restrict offering of products as sustainable if they are not environmentally sustainable under the taxonomy. This is not the EU Council or Commission position. Are you concerned that if the EP position is adopted in the trilogues that the taxonomy will be restricted in terms of uptake as it will be a much tighter restriction than solely disclosure?
A. We see the taxonomy primarily as a disclosure tool, and it should be implemented in a way that strengthens and supports the market for green funds. However, this goes beyond the mandate of the TEG.
Q. In terms of market participants already using the taxonomy, do you see any dangers here given that the reports may not be adopted by the Commission in the future?
A. We see considerable value in testing the taxonomy framework and existing criteria, but agree that investors should be aware that this framework is under negotiation and the technical screening criteria may change.
Q. Data providers will be important for investors to be able to report on their taxonomy compliant investments. How do you see maturity evolving within data providers?
A. We believe the data providers are working on their taxonomy responses. Ultimately their response will be influenced by market demand.
Q. With regards to the timeline: has the EU Action Plan process not recently been delayed so that the taxonomy regulation will not come into force until 2023 at the earliest?
A. There are two tracks: technical and political.
- Technical: After the review of the feedback, the TEG will submit a final technical report to the European Commission by December 2019.
- Political: Negotiations of when it will come to force are being conducted between the Parliament and the Member States. Member States indicated the preference for the end of 2022 (this was widely reported as “delaying the taxonomy” but only represents their negotiating position) whilst the Parliament indicated a preference for mid-2020.
Q. In terms of market participants already using the taxonomy, do you see any dangers here given that the reports may not be adopted by the Commission in the future?
A. We see considerable value in testing the taxonomy framework and existing criteria, but agree that investors should be aware that this framework is under negotiation and the technical screening criteria may change.
Q. Data providers will be important for investors to be able to report on their taxonomy compliant investments. How do you see maturity evolving within data providers?
A. We believe the data providers are working on their taxonomy responses. Ultimately their response will be influenced by market demand.
The EU taxonomy "is not about identifying which companies are doing best, but which are consistent with net zero by 2050." – Nathan Fabian, PRI
Q. With regards to the timeline: has the EU Action Plan process not recently been delayed so that the taxonomy regulation will not come into force until 2023 at the earliest?
A. There are two tracks: technical and political.
- Technical: After the review of the feedback, the TEG will submit a final technical report to the European Commission by December 2019.
- Political: Negotiations of when it will come to force are being conducted between the Parliament and the Member States. Member States indicated the preference for the end of 2022 (this was widely reported as “delaying the taxonomy” but only represents their negotiating position) whilst the Parliament indicated a preference for mid-2020.
Q. How are data gaps addressed by EU TEG, i.e. how can funds disclose compliance with EU TEG criteria, if relevant data is missing?
A. This is being considered by the TEG and we will issue further guidance.
Q. Will green bonds (or other sustainability bonds) need to disclose in relation to the taxonomy. Could this replace elements of the green bond framework?
A. The EU is also developing a framework for a voluntary (opt-in) Green Bond Standard. The TEG has already issued a report on how this would function and propose that it explicitly links to taxonomy-eligible activities.
Q. Exxon Mobil is being accused by New York's attorney general of misleading investors about how climate change will affect its business. Could you please elaborate on whether or not such a lawsuit could have been possible towards a European company if the EU taxonomy and / or the disclosure regulations had been in effect for the last 10 years?
A. This question isn’t really about the taxonomy…
Q. What happens if an investors' explanation isn't deemed consistent with the taxonomy?
A. This is one of the issues under negotiation. The TEG is also working on some guidance on this issue.
Q. Would the taxonomy disclosure rules also apply to index providers?
A. Not under the current proposal. However, there is a separate new regulation on low carbon benchmarks and greater transparency on choice of index for sustainability funds.
Q. Companies within a sector should be compared with each other. The listed sectors are very broad. How do you envision this classification will be able to accurately represent the case of heterogeneous companies such as Thyssen Krupp or Siemens?
A. The taxonomy can be a tool for enabling comparison between companies in that companies will be able to demonstrate the extent to which their revenues and/or expenditures are consistent with the low carbon transition. However, its primary focus is to bring transparency on whether or not companies are performing economic activities that meet absolute performance standards. It is not about identifying which companies are doing best, but which are consistent with net zero by 2050.
Q. Is it correct that disclosures regarding sustainability can be made based on any standard and definition until 2022 (the year when the EU taxonomy will entry into force)?
A. The disclosures regulation sets out definitions and a disclosure framework which will be supplemented by the taxonomy when it enters force. These are fairly broad and principles-based. They may be supported by further guidance from the regulators.
Q. Are the performance thresholds defined by the EU taxonomy meant to be 2 degree-aligned or aligned to some specific climate scenario? How are the thresholds set?
A. They are designed to be consistent with net-zero emissions by 2050.
Q. How are the TEG criteria linked with EIB lending criteria?
A. The EIB draft energy lending policy refers to the possibility of aligning with the taxonomy thresholds in certain cases, but they are two distinct standards and operate under different governance. The EIB is contributing their expertise in climate financing to the TEG.
Q. Could you use a similar burden-sharing framework used for climate negotiations in determining a fair comparison between countries on "green" performance?
A. The TEG isn’t considering comparison between countries, and in most cases the technical screening criteria proposed are not country specific (although some, such as buildings, may reference Member State implementation of a broader legislative principle).
Q. Will the taxonomy apply to all managers and asset owners even if they do not market products e.g. via a captive pension fund?
A. The proposal for a regulation refers to financial market participants, defined as UCITS management companies, AIFMs, insurance undertakings, IORPs, EuVECA managers and EuSEF managers.
Q. Does the investment manager have to provide that transparency or e.g. the distributor?
A. See the answer to the previous question.
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