Sustainability Reporting and the SFDR

The SFDR (Sustainable Finance Disclosure Regulation) is a part of European Union (EU) legislation that has the goal of increasing the transparency of matters relating to sustainability among financial sectors. This is part of a larger legislative effort by the EU to move toward more sustainable growth so that they can reach the goal of net zero emissions by the year 2050, in accordance with the Paris Agreement.

In addition, the SFDR requirements state that financial sectors must make standardized reports on sustainability issues while combating greenwashing by imposing stiffer requirements on financial products that can be called climate-friendly or sustainable.

Who Needs to Comply?

This initiative applies to participants in the financial market as well as financial advisors that are in the EU. This includes institutional investors, pension funds, asset managers, insurance companies, and more. Participants in the financial market that have less than 500 employees won’t be required to provide principal adverse impact statements. That said, if they don’t provide one, they will be required to explain why they didn’t. 

The bottom line is that any financial advisor or participant in the financial market with more than 500 employees who are based in the EU must comply with the SFDR.

How to Take Action

If your business falls under the jurisdiction of the SFDR, you’ll need to meet a few disclosure requirements. These are both at the product and entity levels. The following information must be disclosed on your website:

Sustainability risk policy – This is a statement on how you’re taking sustainability risks into account with regard to your investment decisions.

Sustainability risk remuneration policy – This is a statement on how you’re taking sustainability risks into account when it comes to your remuneration policy.

Principal Adverse Impact – This is simply a description of how your investments affect a wide range of sustainability factors.

If a participant in the financial market doesn’t consider the sustainability impact of their investment decisions, they will have to publish a statement in a prominent position on their website to this effect as well as prove a clear-cut reason for not taking sustainability into account.

As far as the principal adverse impacts at the entity level go, the SFDR requires businesses to report on a total of 14 diverse sustainability factors that include both social matters and climate-related indicators. Of these factors, six of them have to do with GHG emissions.

Most critically, companies will need to report on the volumes of emissions of their investee companies. This goes beyond SCOPE 1 and 2 emissions to also include Scope 3 emissions.

Product Level Disclosures

One of the SFDR requirements for financial advisors and participants in the financial markets is that they disclose the full sustainability profile of any financial products that they promote or produce. They have to categorize them as promoting social or environmental characteristics, having investment objectives that are sustainable, or as mainstream.

Just as it is with any entity-level disclosures, firms will be required to disclose how they took sustainability risk into account and what, if any, the main adverse impacts are. If they don’t do this, they’ll need to give an explanation as to why they didn’t.

If one of your financial products is categorized as promoting social or environmental characteristics, you need to define which specific characteristics and the sustainability indicators that are utilized in order to measure whether or not they’re attained.

Compliance Dates

The SFDR was originally implemented on March 10, 2021. Beginning January 1, 2022, businesses that were affected by the SFDR were to begin reporting on their Principal Adverse Impact. From January 1, 2023, the regulatory technical standard has been in effect.