EU increases pressure for better GHG emissions reporting
Companies are facing growing pressure from the EU to increase their efforts to lower GHG emissions– and accurately report on what they’re doing.
Greenhouse gas (GHG) emissions reporting is a crucial step in tackling air pollution and global warming and meeting the growing list of laws supporting the fight against climate change. Focusing on the latter, reports from the International Panel on Climate Change (IPCC) have proved that human-induced climate change is an immense threat to human well-being and planetary health. The Paris Agreement’s goal of limiting global temperature to well below 2 and preferably 1.5 degrees Celsius above pre-industrial levels has paved the way for a series of measures that look to diminish greenhouse gas (GHG) emissions.
Historic action on GHG emissions reporting
The 2019 European Green Deal is a package of actions centered around reducing GHG emissions while simultaneously fostering economic growth that is decoupled from resource use. To cut emissions by at least 55% by 2030 and ensure carbon neutrality in Europe by 2050, a series of actions have been launched. These include the EU Climate Law (Regulation (EU) 2021/1119) and the Circular Economy Action Plan, under which the European Commission (EC) recently adopted a proposal on green claims.
Notably, the EU has also agreed on transparency and reporting requirements that track companies’ progress against their emission reduction targets. This follows from the adoption of the Directive (EU) 2022/2464 or otherwise known as the Corporate Sustainability Reporting Directive (CSRD), and its corresponding mandatory standards on climate change mitigation. In addition, on 4 July 2022, the European Central Bank announced that it would incorporate climate change into its monetary policy operations. Together, these two developments place more pressure on companies to lower their emissions and change their operations.
GHG emissions reporting in the CSRD
The CSRD was adopted on 16 December 2022. It amends, among others, Directive 2013/34/EU to strengthen and extend sustainability reporting obligations, including GHG emissions reporting, to all large EU companies (whether they are listed or not on the EU-regulated market and without the current 500-employee threshold). Listed small and medium-sized enterprises (SMEs), except micro undertakings, must also start reporting as of 2026 (reporting in 2027), and third-country undertakings with a net turnover above EUR 150 million in the EU having at least one subsidiary or branch in the EU exceeding certain thresholds must comply with the CSRD as of 2028 with reporting obligations being invoked in 2029.
As a novelty, reporting companies will be required to ensure that their sustainability reports are verified by a statutory auditor, an audit firm, or an independent assurance service provider. Additionally, reporting companies will, for the first time, be required to follow mandatory EU sustainability reporting standards (ESRS) to ensure that the reported information is comparable among companies and to facilitate the supervision and enforcement of reports. The first set of ESRS (which is sector-agnostic) was developed by the European Financial Reporting Advisory Group (EFRAG) and submitted to the EU in November 2022. The Commission will publish the final version of the first set for public comment soon and plans to issue the final standards by means of delegated acts in June 2023.
Following the CSRD, sustainability reporting standards must specify the information companies must disclose, which includes, among others, climate change mitigation. As a result, EFRAG developed draft ESRS E1 Climate change, which aims to understand, among others:
- How the undertaking affects climate change concerning positive and negative impacts;
- The company’s mitigation efforts aligned with the Paris Agreement to limit global warming to 1.5°C
- Actions taken and their results to prevent, mitigate, or remediate impacts
- The Financial effects on the company from impacts and dependencies on climate change.
Disclosure requirements under draft ESRS E1 include:
- Transition plans to reach climate neutrality by 2050, including the compatibility of targets with the Paris Agreement, climate mitigation actions, investment and funding supporting the transition plan, and significant amounts invested in coal, oil, and gas-related economic activities
- Policies, actions, and resources related to climate change mitigation, including listing actions by decarbonization lever that includes nature-based solutions
- Targets to reduce GHG emissions for the year 2030 and, if available, for 2050
- Gross scopes 1 (direct emissions), 2 (indirect energy emissions), and 3 (other indirect emissions) and total GHG emissions
- GHG removals and mitigation projects financed through carbon credits
- Application of internal carbon pricing schemes.
On a side note, the CSRD also requires other emissions reporting that constitute air pollution. While draft ESRS E1 covers GHG emissions (carbon dioxide (CO2), methane (CH4), nitrous oxide (N2O), hydrofluorocarbons (HFCs), perfluorocarbons (PCFs), sulfur hexafluoride (SF6) and nitrogen trifluoride (NF3)), draft ESRS E2 Pollution addresses air pollution (indoor and outdoor), as well as the prevention, control, and reduction of these emissions. Draft ESRS E2 covers, among others, sulfur dioxides (SO2), nitrogen oxides (NOx), nonmethane volatile organic compounds (NMVOC), and fine particulate matter (PM2,5).
Litigation has become an increasingly important tool to enforce action on climate change mitigation, including air emissions reporting.
Eurosystem’s monetary policy framework and air emissions reporting
The European Central Bank (ECB) is also incorporating climate change reporting into the Eurosystems monetary policy framework. In July 2022, the ECB announced it will adjust corporate bond holdings and its collateral framework, and introduce climate-related disclosure requirements, to align with the objectives of the Paris Agreement.
The Bank plans to shift its holdings toward issuers with better climate change performance. This means companies that have lower GHG emissions and ambitious carbon targets and that disclose climate-related issues. From 2026, the Eurosystem (which means EU Central Banks) “will only accept marketable assets and credit claims from companies and debtors that comply with the Corporate Sustainability Reporting Directive (CSRD).” This puts added pressure on companies to comply with the CSRD.
The Eurosystem will also limit the share of assets issued by companies “with a high carbon footprint that can be pledged as collateral by individual counterparties when borrowing from the Eurosystem.” Non-financial corporations’ marketable debt instruments will be the first to be subject to such limits, which will be introduced by the end of 2024. The Bank is already considering climate change risks when reviewing reductions based on risks that are applied to corporate bonds used as collateral.
These monetary policy adjustments have two aims. First, they will incentivize companies to improve climate disclosure and reduce their carbon emissions. Second, they will ensure that climate-related financial risks on the Eurosystem balance sheet are mitigated, and the EU’s climate neutrality objectives are reached. EU companies will soon only be able to rely on help from central banks if they comply with the CSRD. This, therefore, encourages companies to take steps to lower their greenhouse gas emissions, incorporate ambitious carbon targets, and ensure their climate-related issues are properly disclosed.
Increased pressure to cut GHG emissions: the rise of climate litigation cases
Litigation has become an increasingly important tool to enforce action on climate change mitigation, including air emissions reporting. For many years, claimants had to prove that the defendant’s actions or inactions were the primary cause of their harm. However, the global nature of climate change made it difficult to establish a causal link between a defendant, carbon emissions, and the damages suffered by the plaintiff. This all changed in 2021 with a landmark case against one of the largest oil and gas companies in the world.
In the case, the plaintiffs argued that the Paris Agreement’s goals and the clear scientific consensus on the dangers of climate change meant that a large-scale oil company had a duty of care to reduce its GHGs. They invoked Article 2 (right to life) and Article 8 (right to private life, family life and home) of the European Convention on Human Rights. In the end, the court found for the plaintiffs and ordered the company to reduce its emissions by 45% by 2030, relative to 2019, across its own emissions and end-use emissions, including from the oil that it produces.
This was the first time that a multi-national corporation had been found liable for deficient climate policies under the Paris Agreement. It made clear that feeble voluntary ‘ambitions’ cannot absolve a company of risk of liability. In practice, it sent strong signals to companies and investors, especially high emitters, to make the necessary changes to lower emissions. By doing so, it is likely to be considerably cheaper and less disruptive to business than being forced to do so by investor action, rapid regulatory developments, or court orders.
Inaccurate air emissions reporting may also be subject to litigation. Public awareness about the cause and impact of climate change means that plaintiffs have increasingly been bringing misleading corporate statements about climate change to court. These suits have included plaintiffs challenging company climate statements that have shaped financial decisions. For example, calling out organizations’ carbon-neutral advertising as false and misleading. Governments have also brought cases enforcing securities disclosure and consumer protection laws.
Similarly, investors have forced action on ‘greenwashing,’ where companies claim they are doing more for the environment than is actually the case. For example, some investors have claimed that climate disclosure statements by companies were misleading or even fraudulent. There is added pressure to ensure accurate emissions statements following a sweep on greenwashing by the EC and national consumer authorities.
The press release document issued by the EU on “screening of websites for ‘greenwashing’: half of green claims lack evidence” outlined that 42% of online claims from business sectors, including garments, cosmetics, and household equipment, were considered to have been potentially false or deceptive. This could, therefore, potentially amount to unfair commercial practice under the Unfair Commercial Practices Directive (UCPD).
As previously mentioned, the EU adopted on 23 March 2023 the Proposal for a Directive on substantiation and communication of explicit environmental claims or Green Claims Directive. The current text of the proposal would apply to explicit environmental claims (meaning an environmental claim that is in textual form or contained in an environmental label) made by traders about their products or traders in business-to-consumer commercial practices. To avoid misleading claims, traders would have to comply with substantiation requirements (including accurate information according to recognized scientific evidence), as well as communication, labeling, and certification obligations.
The future adoption of the Green Claims Directive can further provide grounds for climate litigation but also sets clear rules for companies to better substantiate their emissions reduction claims.
Preparing for better GHG emissions reporting
There has therefore been growing pressure from the European Union on companies to lower GHG emissions and improve emissions reporting across their whole value chain. The EU is likely to continue to introduce measures to assist it in reaching its goal of climate neutrality. Reducing emissions, and improving air emissions reporting, are likely to open up opportunities. Voluntary reporting often paves the way for mandatory changes. Ensuring that air emissions reporting is accurate and transparent is likely to be a more beneficial long-term strategy.