Task Force on Climate-related Financial Disclosures (“TCFD”) – The new resolution

As new Climate Change requirements become effective for UK premium listed companies, here we look at what this means for these companies, and those next in line to be required to apply them. However, more importantly, we also consider how businesses should approach implementation and why, in fact, all companies really need to be taking notice now.

Is TCFD reporting mandatory?

Climate Change has remained high on the political agenda, even though the COVID-19 pandemic.  The Task Force on Climate-related Financial Disclosures (“TCFD”) recommendations have become the government’s and regulators’ preferred framework for reporting by companies on this.  Moves to make this mandatory began early in 2020 when the Financial Conduct Authority (“FCA”) announced that they were intending to require premium listed companies to report on how they had complied with TCFD’s recommendations from 2021.  Further joint government-regulator plans were announced, at the Green horizons summit in November 2020, to widen the range of companies and organisations required to report over the next 5 years, along with a Policy Statement and final rules and guidance, released by the FCA in December 2020

Who is affected by the new reporting requirements?

• UK Premium listed commercial companies

The FCA’s programme for UK premium listed commercial companies is the most fully developed.  It will operate on a comply or explain basis, like the UK Corporate Governance Code.  Companies will have to include a statement in their annual reports as to whether they have made disclosures consistent with the TCFD Report: Recommendations of the Task Force on Climate-related Financial Disclosures (“Report”) or, if they have not made all the required disclosures, which they have omitted and why.  These new requirements are effective for accounting periods beginning on or after 1 January 2021, meaning the first set of annual reports to be published will be those for the year ending 31 December 2021

The actual content of the disclosures may be outside the annual report which, as some companies produce quite substantial documents, could be useful.  In this case, the annual report needs to say where any elements outside the annual report can be found.

• Banks, building societies and insurance companies

These financial institutions are also required to report, not so much for their own emissions and energy use, but more for their potential ability to influence the businesses in which they invest, and for their importance to the stability of financial markets.  Their principal reporting requirement is on their lending and investment portfolios, although some institutions may also be captured due to their listing status which will expand their reporting requirements.  To report on their portfolios however, they will need to seek information from investees.

• Asset managers, life insurers and FCA-regulated pension schemes

Like banks, building societies and insurance companies, these entities are not included for their own emissions and energy use, but to produce disclosures for clients and end-investors.  The plans are for these requirements to begin to become effective for the largest occupational pension schemes from October 2021, with coverage planned to widen for all other types of entities in 2022 and onwards.

Will UK registered companies also be affected?

The Department for Business, Energy and Industrial Strategy (“BEIS”) expects to issue a consultation paper in the first half of 2021 with the aim of making the largest non-listed companies subject to TCFD disclosures from 2022.  The government appears to envisage the threshold for this being larger than the current “large” threshold (as set out under UK company law) initially, possibly using a definition similar to that used for mandatory corporate governance reporting, or based on the definition of public interest entities.  The scope may be widened later, however, with a review planned in 2023. 

What is meant by “TCFD disclosures”?

So, having determined which companies and organisations need to report, what is meant by TCFD, or TCFD-aligned, disclosures? 

These are based on the Final Report of the Task Force on Climate-related Financial Disclosures (“Report”).  The recommendations in the Report were designed to provide information for investors, insurers and lenders to allow them to understand climate-related financial risks better.  They contain four broad headings of disclosures:  1. Governance; 2. Strategy; 3. Risk Management; and 4. Metrics and Targets.  Summarising these briefly:

1. Governance – This section should describe how the board reviews information about climate change and how frequently, whether climate change is a key issue in strategy, major actions or ongoing business, and how the board monitors progress against goals and targets in this area.
2. Strategy – This section should describe what climate-related risks or opportunities the organisation has identified, and over what timescale.  It should explain which risks could have a material financial impact on the organisation and possibly disclose these by sector, or geography, and how the business plans to deal with these.  The guidance suggests that organisations should consider their resilience to climate change by performing scenario analysis for different climate-related scenarios.
3. Risk management – This section should describe the processes for identifying and managing climate-related risks, including existing and emerging regulatory requirements, and whether and how these are integrated with other risks.
4. Metrics and targets – This section should disclose the metrics and targets used to measure and manage climate-related risks and opportunities, and whether and how these are included in remuneration policies.  Methodologies and history should be provided, and internal carbon prices disclosed if relevant.  Organisations should disclose scope 1 emissions (i.e. direct emissions from company-owned and controlled resources) and scope 2 emissions (i.e. indirect emissions from the generation of purchased energy) and, if appropriate, scope 3 emissions (other emissions that occur in the value chain of the reporting company) and related risks.  Key targets associated with climate should also be disclosed and whether these are on an absolute or intensity basis.

How simple will it be to implement the new disclosure requirements?

Crucially, with the possible exception of the emissions metrics (as discussed in point 4 above), the Report does not provide detailed and prescriptive measures.  The rules for UK premium listed commercial companies are, probably partly for this reason, written on a “comply or explain” basis, with the requirement being an explanation of how the company has complied with the recommendations.  We would, however, expect to see more detail in the regulations for non-listed companies when the consultation on this is released later this year by BEIS. 

Some elements of the TCFD recommendations, however, particularly that for scenario analysis, require substantial work and may well be beyond the ability of even many premium listed businesses until this area becomes more mature.  It is also worth noting that, even where companies say scenario analysis has been performed, the TCFD’s own status report shows many do not disclose the results, either due to early, or evolving, approaches or concerns about commercial sensitivity.  For these reasons, we would be surprised to see scenario analysis becoming mandatory for non-listed companies.

How will an integrated strategy help to achieve the right results?

It is important to understand that the TCFD’s approach originates in governance and strategy.  Even though it is focused on climate change, and, in particular, the financial impacts on company reporting, the TCFD’s framework calls for integration of climate risk assessment with other risks and brings climate change issues into general risk management, finance and core strategy. 

This, therefore, is not a bolt-on approach.  If climate change and sustainability stay a separate silo and is not integrated into core management information systems, it will not achieve the desired results.  It is, of course, difficult to legislate for this, but better governance, avoiding the silo approach and higher information quality are core to getting this done, and getting this done right

What is the expected roadmap?

Rightly so, we are all in this for the long-term; to create a better future, and the approach that companies need to take now needs to be developed and implemented to match the long-term goals and viability of the business.

As can be seen by the government’s roadmap illustration, there is rising coverage of Climate Change disclosures, in-line with the TCFD recommendations, over the next three to four years. And whilst the short-term roadmap fully captures listed, financial institutions and larger private companies, there is no doubt that the government’s and regulators’ plans and society’s expectations will not simply stop at these businesses.