On 14 April 2023, the European Commission published its responses1to the questions2raised by the European Supervisory Authorities (ESAs) on a number of areas of uncertainty in the Sustainable Finance Disclosure Regulation (SFDR) requiring interpretation of Union law. The responses generally reinforce the message that the SFDR regime is strategy-neutral and non-prescriptive as to which products are or can be considered to amount to Article 8 or 9 products. Accordingly, market participants should make their own assessments regarding their investments and should ensure that their disclosures clearly set out their assumptions and methodologies.
Definition of "sustainable investment"
The Commission clarified that financial products such as undertakings for the collective investment in transferable securities (UCITS) and alternative investment funds (AIFs) can invest in the general equity or debt of a company and this could count as a sustainable investment, provided that they are able to explain how they have determined the contribution of the investments to environmental or social objectives, how the investments do not cause significant harm to any environmental or social investment objectives and how the investee companies meet the 'good governance' requirement.
"Investment in an activity that contributes to an environmental objective"
The Commission noted that the SFDR does not prescribe minimum requirements in respect of the concepts of 'contribution', 'do no significant harm' or 'good governance'. Financial market participants are required to make their own assessments and ensure that they adequately disclose their assumptions underpinning those assessments. However, the Commission did note that, in respect of the 'do no significant harm' principle, it would likely be insufficient to include a transition plan that aims to achieve that the investment does no significant harm in the future.
Article 9(3) products that have an objective of reduction in carbon emissions
As the requirements of Article 9(3) are neutral as to product design, the Commission confirmed that financial products that have an objective of reduction in carbon emissions could follow either an active or a passive investment strategy. If using an active strategy and not passively tracking the Paris-Aligned Benchmarks (PABs), the Climate Transition Benchmarks (CTBs) or any other index, financial market participants should provide a detailed explanation of how the continued effort of attaining the objective of reducing carbon emissions is ensured with respect to achieving the long-term global warming objectives of the Paris Agreement.
Where financial products are passively tracking PABs and CTBs, financial market participants are not required to provide a detailed explanation of how the continued effort of attaining the objective of reducing carbon emissions is ensured with respect to achieving the long-term global warming objectives of the Paris Agreement.
'Promotion' of reduction in carbon emissions for the purposes of Article 8
The Commission confirmed that it is possible for a product to merely 'promote' the reduction in carbon emissions for the purposes of Article 8 SFDR, rather than have it as an 'objective' pursuant to Article 9. However, pre-contractual, periodic and website disclosures and marketing materials should be clear so that investors are not misled into thinking that reduction in carbon emissions is an objective and that the product therefore has sustainable investment as an objective.
What does "consider" mean in relation to consideration of principal adverse impacts?
Under Article 7(1), financial market participants are required to disclose how they consider principal adverse impacts (PAI) on sustainability factors in respect of a financial product. The Commission has clarified that the description related to adverse impacts should include both a description of the adverse impacts and the procedures put in place to mitigate them.
The 500 employee PAI threshold
When considering who should be included in the definition of 'employee' for the purposes of determining whether the 500 employee PAI threshold has been crossed, reference should be made to the relevant definition of 'employee' under applicable national law.
In addition, the exemption under Article 23 of the Accounting Directive (exempting parent companies that are subsidiaries of a larger group from drawing up consolidated financial statements and a consolidated management report) does not apply when considering the meaning of "parent undertakings of a large group" under Article 4(4) SFDR.
Periodic disclosure frequency for portfolio management services
The Commission clarified that periodic reports required in relation to the provision of portfolio management services pursuant to Article 11 SFDR should be carried out annually and not quarterly. These reports should be based on the periodic report templates set out in the SFDR Commission Delegated Regulation (EU) 2022/1288.
Footnotes
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