Steep road ahead as regulators call for greater consistency in climate disclosures.
Regulatory progress reports on UK companies’ efforts in terms of climate-related financial disclosures mark just the beginning of a widening set of requirements, according to experts.
“Over the next year, more will be expected from listed companies with more information needing to be provided,” said Kim Rybarczyk, Counsel at law firm Linklaters.
If many investors will cheer regulatory demands for increasingly detailed climate-related reporting, there are also concerns that more may not mean better, and that there may be unintended consequences from a proliferation of disclosures.
At the end of July, the Financial Conduct Authority, the UK’s financial services watchdog, and the Financial Reporting Council, its accounting regulator, jointly published reports on progress among listed companies towards complying with UK rules based on the disclosure framework established by the Task Force on Climate-related Disclosures (TCFD).
The focus of each report was slightly different, but the message was very similar, that progress has been made but that much remains to be done.
Need for balanced statements
The FRC studied the December 2021 reports and accounts of a sample of 25 premium listed companies in sectors that are exposed to climate change. It remarked: “We found that the companies included in our review…have generally risen to the challenge… but companies need to continue to develop their narrative and financial statements disclosures.”
Citing five areas needing improvement, the FRC began by noting: “We expect the specificity and granularity of companies’ climate-related disclosures to improve as their processes to manage climate-related risks and opportunities become more fully embedded into governance and management structures.”
A second point arose from cases where enthusiastic statements about the opportunities arising from the transition to a low-carbon economy fail to explain how these benefits will compare with existing revenues from traditional business methods. “We expect companies to ensure that the discussion of climate-related risks and opportunities is balanced,” it said.
Elsewhere, the FRC urged companies to link TCFD disclosures to the wider financial picture adding: “We may challenge companies that claim consistency with a recommended disclosure where it is not clear that all relevant and material elements of the recommended TCFD disclosures…have been addressed.”
More detail will be required
Both regulators remarked on the need for a more consistent message across the traditional financial reports of UK corporates and their TCFD-related filings. The FRC said: “Some companies’ discussion of the impact of climate on the financial statements was generic in nature and hence not very helpful in understanding the relationship between climate-related risks and amounts in the financial statements.”
Separately, the FCA reported “very limited” content by some companies, which had claimed to have made disclosures consistent with the recommended disclosures. We are considering these in more detail and may take action as appropriate.” But it added: “The number of companies making disclosures that were either partially or mostly consistent with the TCFD framework increased significantly compared with 2020.”
The FCA undertook a quantitative analysis of 171 firms’ disclosures, followed by a qualitative analysis of TCFD-based reporting by 31 companies.
Linklaters’ Rybarczyk said the findings are “not surprising” given this was the first year of mandatory TCFD disclosures for premium listed companies. “Companies have made significant improvements in terms of both the quality and the detail of these disclosures. However, there is still a lot of work to be done particularly in terms of granularity (for example on the quantitative elements), disclosing against all of the TCFD recommendations, as well as consistency and linkages of these disclosures with other parts of a company’s reporting, including financial statements.”
She added: “The reports indicate areas that the regulators will be scrutinising and looking for more detail on, particularly around carbon pricing. Over the next 12 months, more will be expected from listed companies with more information needing to be provided in the next round of mandatory TCFD disclosures.”
The FCA’s paper stated: “We intend, subject to our usual public consultation processes and cost benefit analysis, to adapt our regime to reference forthcoming International Sustainability Standards Board (ISSB) standards.”
Further the FCA is committed to incorporating into the UK regulatory framework forthcoming transition plans, currently being developed by the Transition Path Taskforce, at the request of HM Treasury.
On July 19, it wrote to Chancellor Nadhim Zahawi, stating: “We continue to support the Government’s net zero commitment and are embedding climate considerations across our functions “
Rybarcyk said: “The challenge we can expect to see companies face over the next period is articulating exactly how they are integrating climate change opportunities, risks and impacts in corporate strategy and decision making, including material disclosure in respect of any transition plans.”
Alasdair McKinnon, former CIO of Scottish Investment Trust, cautioned that ever-expanding requirements for ESG-related information from companies may have a perverse effect. “All these disclosures are fine,” he said, “but the more of them there are, the more they can allow investors to pick and choose which parts of these increasingly-bulky statements to alight on to show they are responsible investors.”
He added: “We have to accept that there are some practices that, by definition, have an environmental impact.”