By Edel Brophy, Head of ESG & Regulatory Compliance, Fenergo

Environmental, Social and Governance (ESG) regulations continue to evolve at pace across the world, meaning financial institutions (FIs) need to get smarter about how they manage and report matters related to ESG. Like other areas of compliance, access to accurate data and the ability to process it will be key to the time, resource and cost of remaining compliant.

ESG compliance is a relatively new and fast-evolving regulatory field. A recent Fenergo survey of around 70 C-suite executives at leading FIs found that nearly four in ten (38%) are yet to implement an operating model for ESG compliance processes. Just six percent have implemented their operating models.

The ESG regulatory landscape going into 2023

There is no common standard worldwide on ESG scoring, reporting and disclosure, and this presents a challenge to FIs as they need to be aware of the ESG disclosure and reporting requirements in every jurisdiction in which they operate.

The good news is that there’s a global trend to create a standard ESG baseline from which FIs can all work. Let’s look at a few examples.

On environmental standards, the International Sustainability Standards Board (ISSB) was founded at COP26. The ISSB wants companies to disclose greenhouse gas (GHG) emissions across their entire supply chain:

Scope 1: Direct emissions generated by the company

Scope 2: Indirect emissions from immediate vendors or utilities that supply the company

Scope 3: All indirect emissions throughout the value chain worldwide

Given the complexity of data collection this requires, perhaps it’s no surprise that Fenergo’s research finds that the biggest challenge facing FIs is the lack of standardization and data quality (39%).

The ISSB aims to clarify what information will need to be provided, and describing what sustainability risks and opportunities firms must disclose, and the interoperability of regulations across jurisdictions. At COP27 in November 2022 the ISSB Chair, Emmanuel Faber, stated that he was “hopeful of reaching in the coming weeks a big milestone towards aligning the European Union’s (EU) corporate disclosures” with his board’s global norms. However despite the ISSB’s attempt to converge with the EU rules, there appears to be some divergence over what should be counted when assessing a company.

The ISSB is in discussions with the European Commission and the European Corporate Reporting Lab (EFRAG) to agree when is practical to implement the framework. Faber also announced the introduction of the ISSB’s new partnership framework with more than 20 organizations including the Carbon Disclosure Project (CDP) and Principles for Responsible Investment (PRI) with the aim to help firms prepare and implement their disclosures under the International Financial Reporting Standard’s (IFRS) sustainability disclosure requirements. The standards are due to be implemented in early 2023 and in their most recent update in October ‘22 it stated that companies will be required to disclose Scope 1, 2 and 3 greenhouse gas emissions, but will potentially have more time to report on Scope 3 disclosures. As we get closer to finalizing the standards we see more and more jurisdictions coming onboard with a view to making disclosure requirements mandatory. Fenergo is watching this space very closely as we have integrated disclosure requirements into our ESG solution.

Also, in June this year, the Basel Committee on Banking Supervision issued its principles for addressing climate-related financial risks. We also see a number of jurisdictions, including the UK and Canada, looking to align environmental rules with the Task Force on Climate-related Financial Disclosures (TCFD). Movements are also ongoing in Hong Kong, Singapore and Australia around disclosure and taxonomy.

In the EU rules such as the Sustainable Finance Disclose Regulation (SFDR) and Corporate Sustainability Reporting Directive (CSRD) are currently being phased in. They aim to increase transparency across organizational activities and form part of the 2018 Sustainable Finance Action plan and the EU 2021 sustainable finance strategy. The ultimate aim of these imminent rules is to achieve climate and energy targets across the bloc by 2030.

How technology can reduce the complexity of ESG reporting

There is a lot for FIs to take on board when navigating the ESG regulatory landscape. During our ESG webinar, we asked attendees if they are confident that their org is fully aware of the ESG regulations that are in scope for their firm or FI. Two-thirds (62%) said ‘no’, reinforcing our wider industry survey that found that one in five (20%) FIs say regulatory complexity is their top challenge.

Just over half (53%) of webinar attendees said that their organization’s ESG strategy is suitable and mature. These findings are indicative of what we see in the market, with many FIs lacking confidence in the maturity of their ESG approach. While FIs are figuring out their position on what their ESG should look like, they are all at different stages in adopting technology and working out how to factor tech solutions into their existing processes.

Data is key to the success of any ESG reporting programme. Just a quarter (25%) of webinar attendees we polled said they had addressed the data challenge at their organization. From a logistical point of view, there is a significant overlap between Know Your Customer (KYC) data collection and processing and ESG, so FIs should already have access to much of the information they need from their existing compliance processes.

During our webinar, my colleague Daragh Tracey, Senior Manager of Strategy at Fenergo, ran a demo of how the Fenergo ESG solution can help FIs meet existing and fast-evolving ESG regulations across the world. Fenergo taps into existing data from the market and minimizes the work that FIs need to do. “Data really tackles the greenwashing problem,” Daragh says.

Fenergo ESG is a Software-as-a-Service (SaaS)-based solution that draws on existing data – such as KYC information and annual reports – combined with external market data to calculate the climate, reputational and other ESG risks for FIs and their supply chains. The Fenergo ESG process also includes a questionnaire, which flags topics such as human rights, animal abuse and LGBTQ+ representation. At the end of the process, FIs receive an overall ESG rating, plus separate ratings for each category of Environmental, Social and Governance.

Fenergo ESG enables FIs to meet their regulatory requirements, including the EU’s SFDR and CSRD regulations. We also ensure our technology keeps up with the latest regulatory requirements across multiple jurisdictions worldwide, so Fenergo users can be confident they are working to the latest standards.

Getting ESG-ready in 2023

FIs want to remain compliant, but the answer is not to hire armies of additional people – we cannot create an operational problem while solving a compliance problem. the right way is to explore automation of data and processes, and to consolidate the operating model. Daragh explained that ESG is typically built into the wider customer lifecycle management (CLM) process of due diligence but can also sit in isolation as a standalone process.

Standardization of regulations across the world is key to helping FIs understand their ESG responsibilities, make policy changes to meet regulations and report on ESG activities accurately.

There is still a lot of work to be done. When we polled webinar attendees to see if they were confident that their organization is ready to meet the regulatory challenge of ESG, six in ten (60%) said yes.

FIs are facing a range of complex challenges around ESG regulations and reporting, and many leaders are struggling to navigate the future. Regulations will continue to evolve rapidly across jurisdictions, but technology can help reduce much of the complexity, so FIs can focus on other mission-critical work.