This article is sponsored by ISS ESG.
The Task Force on Climate-related Financial Disclosures released its recommendations in 2017. Since then, regulators and standard setters around the world have referenced them to shape their disclosure requirements. As the task force hands the baton on climate disclosure to the International Sustainability Standards Board, we asked Mirtha Kastrapeli, executive director for research and head of consumer at ISS ESG, how the TCFD has shaped investors’ approach to environmental risks.
To what extent has the finance industry embraced the TCFD’s framework?
There’s been significant growth. According to the TCFD’s latest status report, more than half of public companies reported in line with at least five of its 11 recommended disclosures in fiscal year 2022 – up from 18 percent in 2020. More than 80 percent of the largest asset managers and half of the largest asset owners reported in line with at least one of its 11 recommendations.
According to the report, the largest growth in corporate disclosure has been on the recommendation on disclosing risks and opportunities. This is a natural place for a company to start thinking about how climate change affects its business model. Reporting lags around disclosing the resilience of strategies. This isn’t surprising, as making that assessment relies on scenario analysis, which requires time, resources and specialised expertise.
Companies in Europe lead in TCFD adoption, followed by Asia and then North America and Latin America. Emissions-intensive industries such as utilities or buildings and materials are among the leaders in adopting TCFD, likely because of greater pressure from investors for such disclosures and adoption. Overall, most companies are touching on TCFD, but they’re not fully embracing it yet.
What is driving the growth in TCFD-aligned disclosure?
Investor pressure is an important driver, and a wider acceptance of global standards is helping fuel that demand. The launch in June 2023 of the ISSB sustainability disclosure standards – which are based on the TCFD framework and its four pillars of governance, strategy, risk management and metrics – is a potential gamechanger. The new standards create a global baseline for sustainability disclosures. It’s a step towards a common language and greater clarity, which will catalyse ESG disclosures in general. The ISSB standards are likely to be widely adopted, though they will be applied differently across jurisdictions.
At the same time, and partly thanks to TCFD, companies are becoming more aware of climate-related impacts and, more importantly, their connection with financial materiality. However, the TCFD leaves it to the company to decide what’s material, and has been criticised, by some, for not taking the double materiality approach used by the European Sustainability Reporting Standards.
The Task Force on Nature-related Financial Disclosures launched its recommendations in September. How do investors consider the intersection of climate and nature?
There’s growing awareness that the two issues are interlinked. The climate crisis cannot be solved without addressing nature. In turn, climate change is one of the five main drivers of biodiversity loss, according to the IPBES (the equivalent of the IPCC for nature). As the EU has said, nature and climate are “two sides of the same coin”.
The World Bank estimates that the collapse of ecosystem services provided by nature, such as pollination, could cause global GDP to decline by $2.7 trillion annually by 2030. Central banks have identified nature degradation as a systemic risk to financial markets. Hence, there’s significant impetus for investors to start paying more attention to nature.
Are investors folding nature into their climate-change mitigation strategies, or treating them separately?
Investors have built a better understanding of climate over the years, but they’re still getting their heads around nature. The two issues overlap but also differ. With climate, there’s one metric – greenhouse gas emissions. Nature impacts are location and industry specific – a food company operates in a different context to a mining company, for instance – and needs to be managed by multiple different metrics.
With nature, businesses must also consider their environmental dependencies. For example, a beverage company depends on water, and an agricultural business relies on soil health. A lot of corporate action around nature is not necessarily driven by a desire to protect nature, but by the vulnerability of supply chains and operations to the loss of nature. Many management teams are already very aware of such vulnerabilities. It’s investors who sometimes need to catch up.
Can you give us an example of the climate-nature connection?
Regenerative agriculture is the perfect example: healthy soil can capture carbon and is key to climate change mitigation. So, in consultation with institutional investors, we designed a framework to assess companies, focused specifically on regenerative agriculture.
We’re not trying to reinvent the wheel with this. The framework includes practices that have been applied by farmers for centuries. It’s based on 12 principles, and considers metrics that have been introduced by TNFD to set out objectives and ask what companies are doing to protect the ecosystem that their food production and operations depend on.
What does the framework hope to achieve?
The goal is not simply to reduce biodiversity loss and meet climate-related commitments – it’s about ensuring the resilience of a business model and securing the supply chain. Any framework of this type must be sector and location specific.
Clients are beginning to understand how nature can be connected to their climate-related goals. Overall, we need a lot more industry specific research to highlight the links between climate and nature. When talking about ESG, we need to broaden our definition of environment beyond climate and include issues such as biodiversity, land preservation, water use and conservation.
How do the TCFD and TNFD recommendations fit together?
The two are very aligned. The TNFD adopted the TCFD’s four-pillar framework, while adding disclosure recommendations on human rights policies, value chain assessments and location to prioritise high-risk areas. It’s designed to be interoperable, although it also considers impacts on nature and dependencies. The TNFD was launched very recently and we’re waiting to see how companies adopt its recommendations. We expect it to inform regulators and policy makers around the world and maybe integrate with the ISSB standards at some point.
Investors should start thinking about nature and climate as interconnected if they aren’t already doing so. The good news is there’s a huge appetite among investors to learn. They recognise the need to understand the impact of their portfolio companies on climate and nature, identify dependences and vulnerabilities, and assess what their portfolio companies are doing to mitigate those risks and dependencies. It’s a myth that there’s no data. The metrics aren’t perfect but that shouldn’t prevent investors from acting now.