On June 13, 2023, the European Commission (EC) released a new Sustainable Finance Package with the aim to strengthen the current EU sustainable finance framework. The Package includes requirements pertaining to: (1) the EU Taxonomy; (2) ESG ratings; and (3) transition finance.
EU Taxonomy
The EU Taxonomy provides a “market transparency tool that helps direct investments to the economic activities most needed for a green transition”.
The new proposed EU Taxonomy Delegated Regulation provides additional criteria for economic activities making a substantial contribution to climate change mitigation and adaptation. More specifically, the proposed regulation specifies the technical screening criteria under which certain economic activities qualify as contributing substantially to:
The sustainable use and protection of water and marine resources
The transition to a circular economy
Pollution prevention and control
The protection and restoration of biodiversity and ecosystems.
The delegated act also includes criteria for determining whether those economic activities cause significant harm to any of the other environmental objectives. The six environmental objectives as defined in the Taxonomy Regulation are as follows: (a) climate change mitigation; (b) climate change adaptation; (c) the sustainable use and protection of water and marine resources; (d) the transition to a circular economy; (e) pollution prevention and control; and (f) the protection and restoration of biodiversity and ecosystem.
ESG ratings
Environmental, Social and Governance (ESG) ratings provide information to investors and financial institutions regarding, for example, investment strategies and risk management on ESG factors. The ESG Rating Regulation seeks to address the lack of transparency in the ESG rating market through, amongst others, clear requirements on the prevention of conflicts of interest.
Other key requirements pertains to the following:
Application for an authorisation to provide an ESG rating
Provision of ESG ratings in the Union by third country ESG rating providers
Register of ESG rating providers and accessibility of information on the European
Single Access Point (ESAP)
Integrity and reliability of ESG rating activities (e.g. organisational requirements, processes and documents concerning governance; separation of business and activities; record-keeping requirement; complaints-handling mechanism; outsourcing etc.)
Transparency requirements (e.g. disclosure of the methodologies, models and key rating assumptions used in ESG rating activities to the public; disclosures to subscribers of ESG ratings and rated entities)
Independence and conflicts of interest (e.g. management of potential conflicts of interests from employees; fair, reasonable, transparent and non-discriminatory treatment of users of ESG ratings etc.)
Transition finance
The Commission Recommendation on transition finance provides guidance as well as practical examples for companies and the financial sector.
The Commission Recommendation includes the following:
Clarification of the concept of transition finance, including the acknowledgement of the significant role that market participants can play by voluntarily using tools from the Union sustainable finance framework.
Guidance to financial intermediaries and investors to help them set transition targets and design transition finance approaches for portfolios and investment or lending strategies.
Guidance to small and medium-sized enterprises on how the tools they should consider if they seek transition finance (e.g. new green technologies; upgrading existing economic activities or assets; investing in enabling technologies; green sourcing policies (e.g. renewable energy); activities greening their support functions etc.)