The contents of this article do not constitute legal advice, they are our interpretation and are provided for general information purposes only
At TEXpert AI, we enable companies to conform to their social impact reporting requirements which are largely focused on Diversity, Equity & Inclusion (DEI), by managing the complexities in their diversity data collection processes to produce powerful DEI insights and metrics from our data analytics offering - a part of our broader offering. Our approach is driven by relevant frameworks such as ESG and by aligning with the market practice and cultural aspect of the jurisdiction in which we are collecting data.
Classifying Sustainable Activities Under ESG
The term ESG has attracted a lot of attention and controversies lately, mainly due to the complexity of measuring and reporting sustainable activities. It is a term used to refer to the impact a business or company has on the environment and society as well as its transparency in terms of its governance. ESG is essentially a set of standards for a company’s behaviour used by socially conscious investors amongst other stakeholders to assess how sustainable it is[1]. To facilitate the measurement and reporting of sustainable activities, a common language or classification was created in the EU known as the EU Taxonomy followed by the UK with the UK Green Taxonomy. However, both taxonomies remained almost entirely environment centric.
Green Taxonomy in the EU & the UK
The Social and Governance aspects of ESG were features, rather than the focus, of the EU Taxonomy Regulation, which is currently only dedicated to environmental considerations. Therefore, the European Commission gave the Platform on Sustainable Finance the mandate to extend the taxonomy to social objectives, following which, a final report on Social Taxonomy was produced in February 2022. Meanwhile in the UK, the development of the Green Taxonomy is still in progress and remains heavily weighted on the environmental aspect of ESG.
Social Taxonomy in the UK & the EU
Since 80% of UK-managed assets are invested in international capital markets, there’s a solid inclination for the UK to optimise the taxonomy's international interoperability by aligning with the EU Framework.[2] There’s also an interest from investors for a “UK Social Taxonomy” to provide the criteria to measure social sustainability goals as it would help them make informed investment decisions and minimise risks in the event, they are not sufficiently evaluating the social implications of their investments.[3]
What is the EU Social Taxonomy about?
The EU social taxonomy was set to distinguish between inherent benefits and additional social benefits that directly contribute to the realisation of human rights. The objectives originated from internationally agreed documents on human rights and were set out as follows:
Decent work (including for value-chain workers)
Adequate living standards and well-being for end-users
Inclusive and sustainable communities and societies
These objectives were based on the type of stakeholders that the above economic activities can affect, for example:
Own workforce (including value-chain workers)
End-users/consumers
Affected communities (directly or through the value chain)
The Social Aspect Under EU CSRD
These three groups of stakeholders also form the basis of sustainability reporting under the EU Corporate Sustainability Reporting Directive (CSRD) which the EU Parliament voted to pass into law on 10th November 2022. The CSRD is a major ESG regulation as it establishes environmental, social and governance reporting requirements for organisations. The resulting reporting requirements for the social aspect of the ESG include:
Equal treatment and opportunities which includes gender equality and equal pay for equal work, training and skills development and employment and inclusion of people with disabilities.
Work conditions which include work-life balance, secure and adaptable employment, wages, social dialogue, collective bargaining and involvement of workers, work-life balance and a healthy, safe and well-adapted work environment.
Human rights, including respect for the rights, fundamental freedoms, democratic principles and standards established in the International Bill of Human Rights and other core United Nations Human Rights Conventions.
Who is impacted by the CSRD?
The CSRD rules will apply to all large EU companies, non-EU companies with substantial activity in the EU market, companies with an annual turnover of 150 million euros in the EU and which have at least one subsidiary in the EU and SMEs with securities admitted to trading on an EU regulated market. This excludes companies with less than 10 employees or has an annual turnover of fewer than 20 million euros. That said, companies of any size can voluntarily comply with ESG standards as a competitive edge and/or for a better world. The sooner the adaptation, the lesser the cost of incorporating sustainable practices down the road.
One might ask how the CSRD applies to the UK. Firstly, most companies in the UK have at least one subsidiary that operates in the EU which brings them directly under the umbrella of the CSRD rules. Secondly, the UK SDR, which is the UK’s take on ESG also reflects the principles of global frameworks such as the SEC, EU CSRD & IOSCO. Therefore, it will not be surprising that the EU CSRD will inform future UK legislation more specifically on the topic of Social Taxonomy.
UK Sustainability Disclosure Requirements (SDR)
The UK is moving its ESG agenda faster with a set of proposed rules issued by the UK’s Financial Conduct Authority (FCA), the SDR, than with its Taxonomy. The SDR will aim to put a check on greenwashing by providing Sustainable Investment Labels, Disclosure Requirements and Restrictions on the use of environmentally and/or socially sustainable in product naming and marketing.[4] The rules have been estimated to be published in a policy statement by the FCA around the end of the first half of 2023 whilst the UK Taxonomy is still pending.
Who will be impacted by the UK SDR?
The SDR will apply to UK-registered corporates and certain UK-listed issuers, UK asset managers and asset owners such as pension schemes and insurers, and investment products. Further consultation will be sought on whether the rules will apply to non-UK investment managers.[5]
Companies that have reporting requirements in both the UK & the EU will have to manage a balance between the two regimes.
Mercy Wambui Mungai
Co-author
Q-Legal
LLM in Technology, Media & Telecommunication Law
Drishdey Caullychurn
Co-author
Founder
TEXpert AI