The Rising Tide of Climate-Related Data

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Against a backdrop of increased climate commitments by governments and businesses and the visible costs of the climate emergency, regulations calling for more granular monitoring of climate-related data and transition plans of companies are hardly surprising. This, coupled with a convergence of standards toward reporting value chain emissions, will vastly increase the amount of valuable climate data available to businesses, investors, credit rating agencies, and other stakeholders. However, additional and more subtle changes are to come, which will empower all stakeholders to tap into the true power of this surge in GHG emissions data.

Mandatory Climate Disclosures on the Rise

Global mandates on businesses reporting their GHG emissions data are growing in number, coverage, and complexity. For example, the EU Commission has proposed to replace the existing Non-Financial Reporting Directive (NFRD) with the broader Corporate Sustainability Reporting Directive. The CSRD greatly increases the scope of coverage and will introduce mandates for specific climate disclosures as investors need.^[i]

Regulatory Changes Impacting Climate Disclosures in the European Union

The regulatory change proposed: Transition from Non-Financial Reporting Directive (NFRD) to Corporate Sustainability Reporting Directive (CSRD).

Number of companies impacted: 50,000+

Mandatory sustainability reporting will be extended from ~ 11,000 companies under NFRD to over 50,000 companies under CSRD. The coverage will be extended from listed large companies to include large unlisted companies and listed SMEs except for micro-enterprises.

Climate change disclosure requirements: While NFRD provided flexibility on what to report, CRSD is expected to have more specific requirements for climate disclosures, such as:

• Transition plan aligned with the Paris Agreement goal of limiting global warming to 1.5 °C
• Disclosures related to EU Climate Transition Benchmarks and EU Paris-aligned Benchmarks^[ii]

More details of mandatory disclosures are expected to be finalized by the EU Commission by 31^st October 2022.

Regulatory Changes Impacting Climate Disclosures in the United States

The regulatory change proposed: US SEC proposed rules on Enhancement and Standardization of Climate-Related Disclosures for Investors.

Number of companies impacted: 4000+

All listed companies in the United States must comply with the rules.

Climate change disclosure requirements:

• Direct greenhouse gas (GHG) emissions (Scope 1) and indirect emissions from purchased electricity or other forms of energy (Scope 2)
• Value chain emissions (Scope 3), if material to the company
• Governance of climate-related risks and relevant risk management processes
• Impact of identified climate risks on business and consolidated financial statements
• Impact of climate risk on company’s strategy, business model, and outlook
• Impact of climate-related events

The Inclusion of Scope 3 Reporting in Mandatory Disclosures

There is widespread recognition that scope 3 data is vital to understanding climate risks. There is a convergence of views among regulators and standard setters that corporate accounting of GHG emissions should include all upstream and downstream emission sources in companies’ value chains. The following key factors accentuate this:

Climate Risks in Value Chains

For many businesses, scope 3 or value chain emissions dwarf emissions from their operations. CDP has reported that, on average, Scope 3 emissions are over 11 times higher than operational emissions.^[iii] Therefore, it follows that the bulk of a company’s climate risks may be hidden in its value chain.

Voluntary Standards for Net Zero

Whether we refer to SBTi Corporate Net Zero Standard^[iv] or the UN-led Race to Zero Campaign^[v], coverage of value chain emissions is an essential criterion for net-zero targets. Given that these voluntary standards are developed through a consultative process and incorporate suggestions from thought leaders in this space, they are likely to influence the regulatory landscape for climate disclosures.

Convergence of Standards for Disclosures

Investors are increasingly favoring a common set of standards globally for sustainability reporting, including climate disclosures. The IFRS Foundation is working on developing such a standard, built on existing frameworks such as TCFD and SASB, and calls for reporting of value chain emissions in its draft requirements for climate-related disclosures. It is expected that regulators will, in the long run, align their climate disclosure requirements with the global accounting standard of the IFRS Foundation.

So, if thousands of companies worldwide must account for value chain emissions, what does it mean? It means there will be a surge in the availability of emissions data. If over 4,000 listed companies in the United States need to report scope 3 emissions to the US SEC within a couple of years, there will be a cascading impact on their suppliers, whose numbers would be much higher. Supplier contracts may be revised to include more commitments for providing emissions and other ESG data. Similarly, for listed financial institutions, there will be a cascading impact on their corporate customers – whether they are family-run businesses or large enterprises. Ultimately, millions of companies cutting across all sectors of the economy will be impacted and need to build internal capacity to account for and ensure the accuracy of GHG emissions data they provide to customers, investors, or regulators.

Harnessing the Power of Climate Disclosure Data

Mandates are not game-changing, at least for large industries in most markets. However, the increase in standardization, comparability and accessibility of GHG emissions data is likely to change. Many companies voluntarily disclose their emissions data via annual ESG reports aligned with the GHG Protocol, TCFD, SASB, and other frameworks.

Today, a financial analyst with the right tools can instantaneously compare EBIDTA margins of 20,000 listed companies. Structured datasets are readily available. However, if the task is to compare the decarbonization rates for the same companies, the analysis will likely be constrained by incomplete data. The current tide of regulations and standard settings aims to close this gap. The following transformations will help to accelerate this process.

Digitization of Climate-related Disclosures

The EU Commission has committed to introducing a legislative proposal for a European Single Access Point (ESAP), an EU-wide digital access platform to companies’ public financial and sustainability information. One of the EU CSRD proposal provisions is that it will require companies to digitally tag reported data, making it machine readable. The benefits of machine-readable digital formats include opportunities to exploit information more efficiently and save costs for both users and undertakings.   

In the US, the SEC had mandated in 2009 that all information in financial statements included in registration documents and reports were to be submitted in a structured, machine-readable data language using Extensible Business Reporting Language (XBRL). In 2022, the US SEC stated in its proposed climate disclosures rules that, “Requiring Inline XBRL tagging of the proposed climate-related disclosures would benefit investors by making the disclosures more readily available and easily accessible to investors, market participants, and other users for aggregation, comparison, filtering, and other analysis.”

Frequency of Data Capture

One of the many disparities in how financial data and most ESG data are treated is the frequency of disclosures and internal monitoring. Financial performance is made public every quarter and is internally tracked on a daily or near real-time basis. This is not the case for climate-related disclosures for several reasons, including:

• Manual compilation: Businesses are still figuring out how to capture data from across the value chain, and it usually involves intensive efforts that take several months.
• Quality of data: Even when data aggregation is taken care of, there are usually issues with the quality of data. Validating the data is an effort-intensive exercise and involves interaction between multiple stakeholders.
• Annual KPIs: Climate-related data is usually tracked as part of the more extensive sustainability data management program within a corporate organization. Many of the sustainability KPIs are by default tracked at an annual frequency. For example, a company may be interested in monitoring the impact of CSR or local community-related programs yearly rather than every quarter, as activities may be concentrated in a particular part of the year and not evenly distributed over 12 months.

Therefore, companies that do track their emissions and other climate-related data typically follow an annual reporting cycle. Since there are obvious advantages to monitoring (at least internally) climate data on a near real-time basis, this is a missed opportunity.

Consider a retail business that monitors the impact of extreme weather on its sales figures and HVAC costs. This would generate insights into the financial implications of climate change and potential opportunities to reduce Scope 2 emissions and energy costs. However, this is only possible if all the variables are monitored daily. The increasing adoption of data platforms for monitoring climate-related variables will undoubtedly help in this transformation.

Forging Ahead

Investors have complained for several years about the lack of useful climate data. This has been the force behind the formulation of the TCFD framework and many current regulatory changes. So, are we ready to put behind us the days of inadequate climate-related data? Are we at the start of an era where businesses can finally integrate climate transition priorities in decisions related to projects, supplier due diligence, acquisitions, or equity investments?   

The change will not happen overnight. However, the transformation is undoubtedly underway. Businesses will find it easier to integrate climate-related data in business decisions with increasing digitization of emissions data and with the adoption of AI-enabled data platforms. The twin effect of improved accessibility of data and increased speed to insights will drive forward this integration.

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References

[i] European Commission – Sustainable Finance Package, ec.europa.eu, 21 Apr. 2021

[ii] Directive of the European Parliament and of the council, corporate sustainability reporting, eur-lex.europa.eu

[iii] CDP. (2022). Engaging the chain: Driving Speed and Scale, CDP Supply Chain Report 2021

[iv] SBTi. (2021). SBTi Corporate Net-Zero Standard

[v] Climate Champions (2022). Race to Zero’ campaign updates criteria to raise the bar on net zero delivery