Will TCFD Final Recommendations Change the Landscape of Climate-related Financial Disclosure?

by Latham & Watkins LLP
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On 29 June 2017, the Task Force on Climate-related Financial Disclosure (TCFD) published its final recommendations. The TCFD set out information that companies should disclose to enable investors, lenders, and insurance underwriters to better understand how companies oversee and manage climate-related financial risk. Ultimately, the aim is to strike a balance between the need to raise standards for existing climate disclosure standards and the desire to achieve widespread adoption.

The TCFD released its draft report in December 2016, and updated the recommendations in the final report based on industry and public feedback from a public consultation.

The key updates to the final report:

  • Materiality: the recommended disclosures on strategy, metrics, and targets are subject to materiality tests. Disclosures related to governance and risk management recommendations should be provided (regardless of materiality) as many investors want an insight into the governance and risk management context in which an organisation’s financial and operating results are achieved. Furthermore, the TCFD also established a threshold for organisations that should consider conducting a more robust scenario analysis to assess the resilience of their strategies (this covers those in the four non-financial groups[i] with more than US$1 billion in annual revenue).
  • Simplification: simplifying the metrics and targets for non-financial sectors to provide:
    –  Clarity and consistency
    –  Encouragement for further development of metrics in the financial sector (typically, this covers banks, insurers, asset owners, and asset managers)
    –  Clarity regarding the link to financial impact
    –  Additional guidance and standard scenarios to ease implementation
  • Climate-related Financial Risk: providing additional information on the link between financial impact and climate-related risk and opportunities.

These recommendations have shifted the landscape on disclosure in three crucial ways:

  • Shift in focus: towards a forward looking, financially focused view and away from the more traditional backward looking sustainability focused viewpoint.
  • Physical and transition risks: focus on climate change’s impact to the company through physical and transition risks rather than just through the company’s impact on climate change. An interesting aspect is the proposal that companies consider how their businesses will fare under the “2 degrees scenario” (a common reference point generally aligned with the objectives of the Paris Agreement) and other climate scenarios.
  • Mainstream reporting: the shift of climate-related disclosures into mainstream reporting and away from standalone sustainability reports, which would elevate such disclosures to require the same rigorous governance processes as financial reporting.

These recommendations will arguably create a more effective form of climate-related financial disclosure by:

  • Providing a consistent methodology
  • Increasing investor and lender confidence that climate-related risks are being appropriately assessed and managed
  • Creating a better appreciation of climate-related risks resulting in better risk management and more informed strategic planning
  • Proactively addressing investor demand for climate-related information in a framework that investors are increasingly prioritising, which could reduce the number of climate-related information requests received

The TCFD recommends that companies provide climate-related financial disclosures in their public, annual financial filings but does not prescribe where in the financial filings companies should disclose such information (although the shift towards mainstream reporting is apparent in the recommendation). If certain elements are incompatible with national disclosure requirements, the TCFD encourages companies to disclose those elements in other official company reports. When the TCFD does not deem information material and the information is not included in financial filings, companies that fall in the four non-financial groups with more than US$1 billion equivalent in annual revenue should consider disclosing strategy, metrics, and targets information in other reports.

Companies are encouraged to implement these recommendations as soon as possible, although the TCFD recognises that organisations may differ in their capabilities to effect this. The TCFD anticipates that the reporting of climate-related information will develop over time as companies, investors, and others contribute to the quality and consistency of the information they disclose.

For the rest of 2017 and throughout 2018, the TCFD will continue to focus on outreach, engagement, and implementation monitoring through a series of webinars, events, and outreach with third-party partners. The TCFD will also address areas of further work (such as developing or identifying example disclosures) and will work with industry associations, non-governmental organisations, and others to ensure that these recommendations change the landscape of climate-related financial disclosure in the long term.

[i] Notably, in addition to guidance for all sectors, the TCFD developed supplemental guidance for financial and non-financial organisations to assist them in implementing the recommended disclosures. The financial sector was organised into banks, insurance companies, asset managers, and asset owners; and the non-financial groups covered energy, transportation, materials and building, agriculture, food, and forest products.

This post was prepared with the assistance of Ei Nge Htut in the London office of Latham & Watkins.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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