16 September 2020

SMSG advice to the ESA’s Joint Consultation Paper on ESG Disclosures

SMSG advice to the ESA’s Joint Consultation Paper on ESG Disclosures (draft regulatory technical standards with regard to the content, methodologies and presentation pursuant to Article 2a, Article 4(6) and (7), Article 8(3), Article 9(5), Article 10(2) and Article 11(4) of Regulation EU 2019/2088.

The SMSG believes that the synergy between different pieces of legislation (in particular the Non-Financial Reporting Directive (NFRD), the Taxonomy Regulation, and the Sustainable Finance Disclosure Regulation (SFDR), but also adjacent legislation such as the Shareholders Rights Directive II and the scheduled reviews of MiFID and UCITS/AIFMD) can contribute significantly to enhancing sustainability in the economy. How-ever, neither the timings nor the concepts of these different pieces of legislation are fully synchronized or aligned with one another. The SMSG believes in the usefulness of setting a significant step forward now, while enabling the possibility of an iterative process resulting from the interaction between the different pieces of legislation.

To optimally exploit this synergy, enhance effectiveness of the different pieces of legislation and maintain simplicity, the SMSG believes in the usefulness of an iterative process between these different pieces of legislation, probably for at least two-three years. This could be organized to culminate with the scheduled review of the SFDR end 2022. However, to allow sufficient degrees of freedom for the iterative process, the SMSG suggests a phased approach with regard to the draft RTS. This is particularly relevant for the pro-posed set of mandatory reference indicators to describe adverse impact. It is feared that introducing these indicators in a ‘Big Bang’ would set path dependency, which makes it difficult to finetune them at a later stage.

The SMSG believes it is important to set a first step forward. In this respect, it notes that the draft RTS entail many aspects such as the use of a format, the description of policies, engagement etc. Among all these is also the use of descriptive indicators. It is on the latter that the discussion is focused. The SMSG contests the use of an extended set of indicators for the following reasons:

• There will be a problem of data availability for a substantial period to come
• The proposed set requires fine-tuning, which could possibly come by as a result of the iterative process described above. However, there is a risk that introducing these indicators in a one-off Big Bang seals the possibility for later adjustments.

An alternative could for example be to start with a much smaller core set of reference indicators to be used whenever relevant following a comply or explain mode, while maintaining the policy indicators. Over time, this set could possibly expand.

While it is useful, as a common toolbox for cross-sector non-financial analysis and as input to the review of the NFRD, to suggest, already at this stage, a set of potential reference indicators, the SMSG believes in the need to finetune them. This toolbox should also be viewed as a common language between inves-tors/analysts on one side and issuers on the other. The dialogue with issuers is paramount to reach mean-ingful transparency and the establishment of indicators should not pre-empt the review of the NFRD.

The present proposals reflect the status of the current political decision making in the EU. As such, the Social indicators (for which the ESA mandate provides a later deadline) are underdeveloped as compared to the Environmental indicators. While the SMSG values that the ESA’s try to insert indicators for Govern-ance into the draft RTS, through for example the indicators for ‘social and employee matters’, it regrets that Level 1 legislation has not given them an explicit mandate to develop Governance indicators.
One of the reasons for development of the SFDR was the need for comparability of information disclosed to investors. Regarding this, the SMSG would like to point ESA’s attention to the issue of precise definitions of particular indicators. The definitions of particular indicators provided in the draft RTS may have precise names, but they need to be accompanied by detailed instructions as to what data need to be used to calcu-late these indicators. Without these instructions companies may provide financial institutions with data as seems appropriate to the companies and that would result in incomparability of data from different Member States.

On a conceptual level, the SMSG questions the usefulness of an extended set of descriptive indicators at entity level, as the most relevant level for the investor is the product level. Also, the SMSG believes that the relevance of individual indicators may vary depending on the type of product. However, if one allows a degree of flexibility, one should also demand transparency and disclosure regarding this flexibility. For this reason, the SMSG suggests that:

• the field “description of policies to identify and prioritise principal adverse sustainability impacts” (template under article 4), should disclose (i) which criteria are used to select and prioritize indica-tors for adverse impact at product level and (ii) the process (governance) through which this done.
• Specifically for art. 8 and 9 products, the templates (still to be developed) should disclose why par-ticular indicators are used and why others are not.

The SMSG asks the ESA’s and the Commission to take their responsibility and provide more clarity on what exactly is meant by article 8 and 9 products. Given the wide range of products that could possibly fit under article 8, transparency about the degree of sustainability is important. Hence a graphic representation illus-trating the degree of sustainability is useful, combined with a narrative which is simple and straightforward. In this respect, it is also important that there is consistency between marketing communication and website information /precontractual disclosure. The SMSG points at the possibility (article 13, draft RTS) for the ESA’s to ensure this consistency through draft RTS. For reasons of simplicity, the SMSG proposes to integrate the warning referred to in draft article 16(1) in the narrative accompanying the graph and reformu-late it accordingly, with reference to the graph (for example: “only the part indicated in the graph … promotes environmental or social characteristics”). Also, the SMSG suggests to reinforce the link between the Tax-onomy Regulation and the Sustainable Finance Disclosure Regulation with regard to sustainable invest-ment.

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