The European Union (EU) aims to be climate-neutral by 2050. One important lever on this path is the EU Taxonomy Regulation which came into effect this year. It places significant demands on companies when it comes to analysis and documentation about the sustainability of their business model. This article provides an overview of everything you need to look out for.

How do you measure sustainability? The EU has developed a uniform classification system known as the EU Taxonomy Regulation to do just this. It defines binding EU-wide rules that determine which economic activities will be viewed as ecologically sustainable in the future – and which activities will not. “The Taxonomy Regulation aims to encourage investments in environmentally and climate-friendly economic sectors,” says Carsten Ettmann, Senior Business Consultant Risk & Compliance at Dun & Bradstreet.

Spotlight on six environmental goals

The EU Taxonomy Regulation therefore specifies how companies should conduct business in a sustainable manner in the future. To this end, the Regulation comprises six environmental objectives:

• Climate change mitigation
• Climate change adaptation
• The sustainable use and protection of water and marine resources
• The transition to a circular economy
• Pollution prevention and control
• The protection and restoration of biodiversity and ecosystems

Accordingly, a business activity is taxonomy-aligned when it makes a significant contribution to at least one of these six environmental objectives. At the same time, the activity cannot cause harm to any of the other objectives and must adhere to basic social standards (human rights, slavery, child labour, etc.).

New reporting obligations for companies

But what does this mean in practice? “The Regulation has created new reporting obligations for companies,” says Ettmann. As of now, they must regularly assess their business activities to ensure taxonomy alignment, as well as verifying the degree to which their business activities are sustainable as per the Regulation. “While this initially only affects the points of climate change mitigation and climate change adaptation, the remaining environmental goals must be adhered to as of January 2023,” explains Ettmann.

Data on sustainability is required

As such, sustainability is a core component of risk management. This means that additional data on “green” turnover will be required in the future, as well as information on investment and operational costs. However, this will initially only affect a specific group of businesses: the reporting obligation applies to financial market participants which provide financial products in line with Art. 2 No. 12 of the Sustainable Finance Disclosure Regulation (SFDR), or which market a financial product as ecological, as well as companies subject to non-financial reporting obligations. Alongside insurance firms, credit institutions, securities services providers, providers of old-age pension products and capital management companies, this affects all companies that meet at least two of the three following size thresholds: a balance sheet total of over EUR 20 million, a net turnover of over EUR 40 million and an average number of employees exceeding 250. “According to estimates, the number of large corporate entities subject to reporting requirements will grow from 500 to around 15,000 in Germany alone,” emphasises Ettmann.

Drawing on ESG criteria for assessment purposes

The topic is also highly relevant for all other market participants. “Directing cash flows into sustainable investments means almost every industry sector will feel the effects of the Regulation,” explains Ettmann. The expert therefore recommends that companies start to deal with this topic as early as possible – not only companies that are subject to this obligation and are only just beginning to measure their sustainability indicators, but also those that are not directly affected. When doing so, it can be helpful to use the ESG (environmental, social and governance) criteria for orientation.

These criteria include questions such as: are there investments in renewable energies? Are the labour laws and occupational safety and health requirements adhered to? Is sustainability management established at executive board and supervisory board level? “We recommend procuring the requisite information from business partners,” says Ettmann.