May 5, 2021
Department for Business, Energy & Industrial Strategy
Dear Consultation Working Group,
RE: Consultation on requiring mandatory climate-related financial disclosures by publicly quoted companies, large private companies and Limited Liability Partnerships (LLPs).
Manifest Climate is pleased to provide you with this submission in response to the Consultation on requiring mandatory climate-related financial disclosures by publicly quoted companies, large private companies and Limited Liability Partnerships (LLPs) (the “Consultation“).
The views represented in this submission are informed by the role Manifest Climate plays in the process of promoting and developing transparency in capital markets with respect to climate risks and opportunities. Headquartered in Canada, we work with global financial institutions, including some of Canada’s largest banks and North American asset managers. Our clients monitor developments in the UK closely, both because they often have UK-based operations, and because the UK is playing a leading role in climate-related disclosures, i.e. the UK is seen as an early adopter of what is expected to follow around the world.
Manifest Climate focuses on assisting clients develop climate competence, with a particular focus on improving client alignment with the recommendations of the TCFD (see https://manifestclimate.com). We work with clients at all levels of climate maturity, from industry leaders to those starting out on their disclosure journey. We believe the focus of our work enables us to submit an informed response.
Except as otherwise noted in this response, we use terms as defined in the Consultation.
QUESTION 1: Do you agree with our proposed scope for companies and LLPs?
Generally, yes. We support the spirit and intent of extending mandatory TCFD reporting beyond public issuers, balanced with the need to right-size climate-risk obligations. We also commend the BEIS with respect to its efforts to collaborate with, and align its legislation with the work of other regulators (both domestic and abroad). In this context, we note the difference between the proposed employee threshold for TCFD and the corresponding threshold for SECR, and recommend that that distinction be reviewed further against empirical data (i.e. how many companies would be affected if the employee threshold was lowered to be consistent with SECR), to ensure that the difference is warranted.
The employee and turnover thresholds necessarily capture economically significant companies, which, on balance, are likely to have environmentally significant impacts. We recommend, however, that the proposed Statutory Instrument includes flexibility to: (a) adjust thresholds as additional empirical data become available on both the cost and impact of TCFD reporting on covered entities, (b) mandate TCFD disclosure obligations for entities that have a disproportionate impact on emissions relative to their employee count and turnover (with appropriate concessions), and (c) allow companies in the transition of becoming covered entities (e.g. immediately before the admission as a PIE or rapidly expanding private entities) to shadow mandatory reporting portals that may include guidance for covered sectors (as to which see below).
QUESTION 2: Our proposed scope includes UK registered companies with securities admitted to AIM with more than 500 employees. Do you have any views on expanding this to include other unregulated markets and Multilateral Trading Facilities (MTFs)?
We recommend that the Statutory Instrument permit the expansion of mandatory TCFD reporting to MTFs on a case-by-case basis as empirical data is available. The increasing popularity of MTFs corresponds with greater trading volumes (and by extension greater embedded carbon in the derivative assets). As noted in the Consultation, financial markets only work if they are consistently supplied with timely, comparable and transparent information and data. Although it is not necessarily correct to say that investors in MTFs are fungible with investors in national security exchanges, any trading platform that facilitates the large-scale allocation of capital should, in our view, be subject to mandatory TCFD reporting.
Noting the need to right-size obligations, and to provide impacted markets with predictable regulation, we recommend that the Statutory Instrument permit the imposition of mandatory TCFD reporting where the following conditions are satisfied: (a) the trading volume of the target MTF exceeds a specified threshold, (b) the target MTF trades commodities that are derivative of carbon-intensive industries, and (c) the target MTF has been consulted with appropriate on-ramps for the timing of mandatory disclosure obligations.
QUESTION 3: Do you agree with the proposal to require climate related financial disclosures for companies and LLPs at the group level?
We note the BEIS’ intention to align climate-related financial reporting requirements with the reporting that is of greatest importance to investors, other finance providers and other stakeholders. As the BEIS recognizes, in most cases this will be reporting at the group level on a consolidated basis. There are, however, instances, where consolidated reporting may not facilitate or promote transparent (and comparable) climate-related data, particularly where the operations of a group company are diversified across different industries and sectors. There may be cases where a departure from consolidated reporting may be necessary.
QUESTION 4: Do you agree that the Strategic Report is the best place for the disclosure of climate-related financial information by companies?
Yes. Although climate-related financial information might also be disclosed in directors’ reports, we agree with the BEIS that the Strategic Report, which forms a critical part of a company’s annual report, is the best place for the disclosure of climate-related financial information.
That said, we believe that the BEIS should collaborate with the FRC to update its guidance on the Strategic Report to coincide with the adoption of the proposed Statutory Instrument. In our experience, the absence of clear guidance regarding climate-related financial disclosures results in inconsistent reporting, which fundamentally undermines the financial transparency of capital (and other) markets. The effects of this are particularly profound where risks or opportunities are inconsistently weighted or presented by competing companies due to different underlying assumptions or inputs. Conversely, clear and detailed guidance promotes consistent reporting and generally lowers compliance costs, as covered entities have less need to engage in cost- or time-prohibitive pre-compliance assessments.
We note that the BEIS intends to produce non-mandatory Q&As to support companies and LLPs in the application of mandatory TCFD requirements. For the reasons set out above, we recommend that the BEIS pays particular attention to its development of the Q&As, and the overlap between those Q&As and updated FRC guidance. The TCFD provides extensive guidance, including examples of good practice, that helps companies improve the detail and accuracy of their climate-related disclosures. The need for, and purpose of, Q&As is not addressed in the Consultation; we believe that such Q&As (alongside guidance from other regulatory bodies) will be critical for the effective implementation of the TCFD disclosures among covered entities.
By way of example, the BEIS should discourage compliance ‘by reference’, i.e. a reporting entity should not simply note a climate-related risk as a principal risk with reference to a third party report or reference location that is external to the Strategic Report; principal climate risks and opportunities should be sufficiently detailed in the Strategic Report for an investor to make an informed investment decision. Although this is generally the basis of Strategic Report disclosures, its application to climate-related disclosures will require detailed analysis. The BEIS may wish to consider mandating specific risk management standards to accelerate maturity in climate-practices, e.g. mandated oversight of climate risk by board level risk committees and/or the mandated development of a climate change risk position statement.
QUESTION 5: Do you have views on whether LLPs should be required to disclose climate-related financial information in the Strategic Report (where applicable), or the Energy and Carbon Report?
We recommend that traded LLPs and banking LLPs be required to disclose climate-related financial information in the Strategic Report to promote consistency with company disclosures. We acknowledge that this creates an inconsistency with large LLPs (which will necessarily have to report climate-related financial disclosures in their energy and carbon report under SECR). However, we think that if traded LLPs and banking LLPs include references in energy and carbon reports back to the Strategic Report (and the location of climate-related disclosures), the impact of such inconsistency on capital allocation decisions should be limited.
QUESTION 6: Do you agree that requiring disclosure in line with the four pillars of the TCFD recommendations, rather than at the 11 recommendation level is suitable?
A qualified no. We agree that the four pillar framework is the correct overall approach for disclosure requirements. However, we believe that the Statutory Instrument should reference (and mandate) disclosures in more detail, i.e. consistent with the 11 recommendation level. This is for two principal reasons.
First, the 11 recommendations of the TCFD map onto the four pillars of the TCFD in a considered way. When implemented alongside the spirit and intent of the guidance that accompanies the TCFD framework, the 11 recommendations provide an effective road map for developing an organization’s climate competence. In this way, the 11 recommendations support, and do not supersede, the four pillars. Removing reference to the 11 recommendations could allow companies to adopt individualized interpretations of the four pillars, which would compromise reporting consistency.
Second, companies that will be covered by the proposed Statutory Instrument may either (a) already be voluntarily supporting the TCFD, in which case they will almost certainly be working at the 11 recommendation level, and/or (b) become subject to mandatory TCFD disclosure requirements in other jurisdictions, which – we anticipate – will endorse the adoption of the TCFD framework at the 11 recommendation level.
QUESTION 7: Do you agree that information provided in line with the obligations set out above would provide investors, regulators and other stakeholders with sufficient information to assess the climate-related risks and opportunities facing a company or financial institution?
Yes, with sufficiently precise guidance, the adoption of appropriate taxonomies (as discussed below), and the ability to refine requirements over time.
Climate risk is a systemic risk. It differs from other risks (e.g. market, credit and operational). Climate risk also differs from broader ESG factors. Put differently, climate risk is sui generis, impacting most, if not all, other areas of risk. The same can be said of climate-related opportunities.
The development of a consistent, coherent and system-wide response is key. The adoption of the TCFD and the development of appropriate taxonomies and methodologies (see below) represent the state of the art to improve the definition, identification and measurement of climate-related risks and opportunities, and to understand, and respond to, the impact of such risks and opportunities. The TCFD framework is not perfect, but it is a paradigmatic improvement on the status quo.
We do recommend that – as far as possible – the BEIS standardizes its approach both with other agencies and other jurisdictions. Failure to do so will lead to individualized responses by covered entities, which is inefficient from the market perspective (increased costs for participants to develop bespoke responses). It will also lead to an uneven playing field (investors will not be able to compare institutions consistently). And finally, and crucially, it is more likely to lead to responses by covered entities that are insufficient to address climate risk.
An important part of establishing a level-playing field will be the development of coherent taxonomies and methodologies. In this context, the BEIS should budget for ongoing collaborations with industry and sister agencies to develop climate-risk taxonomies, methodologies and metrics as they apply to covered entities. We note reference in the Consultation to the UK green taxonomy. The development and application of that taxonomy, with definitions that are appropriate to covered entities, will require significant effort and will be an ongoing process. Defining specific climate risks or risk categories in taxonomies and detailing how such taxonomies link to the major risk categories will provide a common language and foundation for climate-related risk identification and assessment.
Most detailed climate-related taxonomies in development today are focused on defining climate opportunities, or on how certain activities contribute to climate change mitigation or adaptation. In other words, they are focused on solutions. Our research has shown that the few published climate-risk taxonomies are usually at a high level. Some list broad categories of climate risk (such as the TCFD recommendations – table 1 page 10), simple groupings of climate issues, or blanket statements on how climate risk interacts with principal risks. These taxonomies are generally missing the link between traditional financial risk categories, such as credit risk or model risk.
The development of a climate-risk taxonomy suitable for use with covered entities presents two main challenges. The first is to sufficiently detail the climate issues such that financial professionals, who may have little to no climate training, are able to consistently recognize them. The second is to map these climate issues to the risk categories in use in the applicable institution. The BEIS should proactively partner with industry and sister agencies to address these challenges.
The development of appropriate taxonomies will also help reveal the need to update certain areas of the existing capital framework that disincentivize green infrastructure investment because of outdated data or assumptions.
The development of taxonomies will necessarily occur in parallel to the development of methodologies and science-based approaches to metrics that are already building on foundational frameworks like the TCFD. Existing bodies (such as CBI Taxonomy and SBTI) have developed or are developing methodologies and core exposure metrics, consistent with the TCFD, that will help investors and other stakeholders develop a clear, comparable and consistent understanding of the exposure of any given asset class. We anticipate that capacity constraints are likely to demand prioritization for the BEIS collaboration that will be required. In this context, the BEIS should focus on specific asset classes (e.g. equities, real assets and fixed income), mapped across climate impact (e.g. support for climate-related resolutions, climate solutions exposure, carbon intensity and/or global warming potential).
QUESTION 8: Do you agree with our proposal that scenario analysis will not be required within a company or LLP’s annual report and accounts?
Scenario analysis and stress testing is a useful tool, although its importance should not be overstated (it is one of 11 TCFD recommendations). Scenario analysis will develop over time, and covered entities who adopt scenario analysis find that at the second and third iteration of analyses they see step-changes in the detail and utility.
Market discipline, through mandated climate-related financial disclosures, and consistent taxonomies and methodologies, is a first step. That discipline will, in effect, compel covered entities to advance climate-risk assessments (including scenario analysis), which will in turn become more sophisticated and allow additional supervisory review.
Scenario analysis will become increasingly useful, but the early imposition of market discipline through mandatory climate-related financial disclosures (without the mandatory imposition of scenario analysis) is a step that will have meaningful results.
QUESTION 9: Would alignment of the scope for climate-related financial disclosures and SECR requirements, such that large unquoted companies and LLPs would be subject to the same reporting requirements under SECR as quoted companies, aid reporting of climate related financial disclosures and simplify reporting procedures? Do you have any views on the continuation of voluntary Scope 3 emissions reporting under SECR requirements?
Yes, we believe alignment of climate-related financial disclosures and SECR requirements would, as noted in the Consultation, help to bring consistency in annual report disclosures (on the basis that both TCFD and SECR reporting requirements would be based on all direct emissions (Scope 1 and 2) and could simplify procedures for businesses in scope of both schemes and for those in corporate groups made up of both quoted and unquoted companies).
As to Scope 3 emissions, we note that the pace at which companies are able to obtain and assess Scope 3 data is increasing over time. Accordingly, although reporting Scope 3 emissions under SECR should continue to be voluntary at present, we recommend that the BEIS and SECR contemplate the introduction of, and plan appropriate on-ramps for, mandatory Scope 3 reporting.
QUESTION 10: Do you have comments on the proposed qualification to a company’s duty to make climate-related financial disclosures for companies?
None that are not already covered by other responses.
QUESTION 11: Do you have comments on the proposed timing for these regulations coming in to force?
We support the BEIS’ proposed timing (i.e. as soon as possible). The early participation of covered entities is likely to accelerate the development of a standardized approach. That is to say, the sooner entities are mandated to disclose climate-risk and opportunities, the sooner the market will reach maturity on them. Although empirical data may not yet be comprehensive, there is sufficient information to act now; the imperative is to radically reduce emissions and embrace innovation to effect capital re-allocation to address climate change.
QUESTION 12: Do you have any comments regarding the existing enforcement provisions and the BEIS proposal not to impose further provisions?
As noted in the Consultation, the Companies Act and applicable LLP Regulations, and the associated powers of the court, Secretary of State and FRC, provide an existing monitoring and enforcement regime that can be appropriately applied to climate-related financial disclosures. We note that the BEIS does not propose to introduce new monitoring or enforcement powers “at this stage”. We agree with this approach, i.e. the BEIS can reserve the right to impose additional sanctions as empirical data emerge. We also anticipate that capital reallocation and investment decisions will be a key driver for company behaviour, i.e. beyond the sanctions regime.
We would, however, recommend that the BEIS provides guidance accompanying the new Statutory Instrument on untrue, misleading or reckless statements as they apply to climate-related disclosures. This will help directors, members and enforcement agencies apply existing rules to novel situations.
QUESTION 13: Do you have any comments regarding duties and enforcements for LLPs?
QUESTION 13: Do you have any comments regarding duties and enforcements for LLPs?
None that are not already covered by other responses.
QUESTION 14: Do you have any comments on the responsibilities of auditors in relation to climate-related financial disclosures?
We note that the BEIS does not intend to alter the role of auditors in relation to climate-related financial disclosures, and will continue to follow developments in ongoing audit reform to ensure alignment. We agree with this approach at this stage. We do anticipate that audit of quantitative climate-related disclosures will be required over time, but recommend that such audit provisions be the subject of future development/legislation.
QUESTION 15: Do you have any comments regarding the proposed enforcement of our disclosure requirements?
None that are not already covered by other responses.
QUESTION 16: Do you have any comments regarding the impact of our proposals on protected groups and/or how any negative effects may be mitigated?
None at this time.
QUESTION 17: Do you have any further comments about our proposals?
None at this time.
* * * * * * * * * * *
We thank the BEIS for the opportunity to provide response, and support the BEIS’ endorsement of the mandatory adoption of climate-related financial disclosures.
We are available to discuss any aspect of this consultation response, and would welcome the opportunity to present our views and work at your convenience.
Laura Zizzo BES, JD
+1 (877) 762-6433