In a fascinating article in the Financial Times, Mark Carney, the former Governor of the Bank of England, has estimated that drastic rewiring of our economy to achieve net zero – to the tune of reallocating a minimum of $100tn worth of assets and investments over the next 30 years – is required.
This is the amount of capital that he believes needs to be moved away from carbon intensive investments towards funding green initiatives, to achieve the Paris Climate Agreement target of keeping global temperature rises within 1.5C above pre-industrial levels. To do this, it is imperative that we build a financial system in which minimising negative impacts on the climate is the priority over profits.
His call has seen membership of the Glasgow Financial Alliance for Net Zero (GFANZ) grow throughout the COP26 conference to surpass more than $130trn (£95trn) of private capital being committed to transforming the economy for net zero.
All major western banks have now committed to the pledge – but are the positive incentives enough for them to follow through, or will it require binding regulatory pressure?
In response to the GFANZ Call to Action, and taking an initial step towards applying such regulatory pressure, the UK Government announced at COP26 its intention to become the world’s first Net Zero-aligned Financial Centre.
However, the proposed rules stop short of requiring companies to make net-zero commitments. Equally the terminology used by the Government is vague, and not at all definitive in scope.
We will have to wait to see how effective the standards set out by the proposed Transition Plan Taskforce is at tackling such potential greenwashing. And also, how effective the investor response is to encourage companies to publish genuinely meaningful transition plans which include carbon neutral or negative commitments, and the steps taken to achieve these.
This development demonstrates the need for governments to lead by example, deploying their own solid decarbonisation strategies with measurable metrics and KPIs.
For companies the targets they are working towards should be clear. The progress towards meeting these targets should be explained and defined in the corporate reporting narrative and intrinsically linked to the business model. The strategy should provide the means to fulfilling the purpose, which should indicate a commitment to wider value creation.
However, as indicated by the recent alleged concerns over the supply chain of sustainability leader, Ikea, companies making bold sustainability commitments still face many challenges in actually implementing the targets they are setting themselves.
What this example demonstrates is that companies must work to closely integrate their sustainability strategy into ways of doing business at every level, and throughout their value chain, communicating a clear approach between looking good and being good.
Where do companies currently stand in terms of environmental disclosures and actions?
Looking into how companies have reported their environmental considerations and targets in their annual reports so far, findings clearly show that still disclosures are unclear.
While companies might be reporting successful progress towards sustainability commitments, they are failing to disclose exactly how the progress towards these targets has been achieved and monitored. Climate change disclosures in financial statements also lags behind narrative reporting.
The FRC has identified areas of potential non-compliance with the requirements of international financial reporting standards IFRS in its November 2020 report How are companies developing their reporting on climate-related challenges?
The Lab’s report identified that investors wanted to understand the challenges a company faces about climate change and the strategy for addressing these issues, but this wasn’t always clear.
The critical question investors ask relates to the resilience and sustainability of the business model. This also links to the expectations of scenario analysis and disclosures and through to assessments of the sustainability and resilience of the business model.
Unfortunately, many companies are failing to articulate properly about this. Investors echo these insights, including the finding that generic comments and lack of specificity as to actual business plans are unhelpful towards making investment decisions.
Metrics and targets remain another area of concern for investors, with many investors reporting that targets are non-specific and lack substance, particularly interim milestones.
The announcement of the formation of the Integrated Sustainability Standard Board (ISSB) at COP26 has been received positively by the markets as its scope is to improve transparency and consistency of ESG reporting, and provide uniformity and guidance to corporates on formulating sustainability strategies that are of substance and easily assessed by investors.
The introduced climate-related disclosures prototype’s general purpose is to provide standardised guidance to the financial reporting for more consistent, complete, comparable and verifiable information and act as a benchmark to certain metrics and risk scenario analysis.
Related links
ISSB – Climate-related Disclosures Prototype
GRI revised Universal Standards
The Sustainable Development Goals Compass
Integrating the sustainable Development Goals into Corporate Reporting: A practical Guide