European taxonomy of sustainable finance: what is it about?

The Regulation on the European Taxonomy aims to encourage sustainable investments and the energy transition in EU countries, but what does it consist of and which fashion companies are interested in the obligations imposed by the taxonomy?

We talked about it with Valentina Morelli, from the Credit and Finance Area of ​​Assolombarda, who in this interview tells us what the European Taxonomy Regulation consists of, providing valuable advice to companies on how to take taxonomy into consideration in their strategic assessments.

Cikis: We hear a lot about the European Taxonomy Regulation and how it can promote green investments and the energy transition in EU countries. In simple words, for those who are not financial experts, what does the Regulation consist of? What are the purposes pursued by it?

Valentina: The taxonomy is a classification system defined by the European Commission which establishes with which criteria and thresholds companies can, to date, define themselves as sustainable from an environmental point of view and access preferential financing channels.

A real common language at European level of "green" economic activities. It is a revolution in the ESG world that will help fight the "greenwashing" phenomenon and make a measurable contribution to the transition towards a more sustainable society.

The element to underline is that, from the outset, the European Commission did not adopt a "brown vs green" approach (brown economy: an economic model based on the exploitation of the planet's resources which are mistakenly considered infinite and based on a lack of attention of human activities to the environmental and social impacts; green economy: recognizes the limits of the planet's resources and represents an economic model based on the sustainable and responsible use of raw materials in order to drastically reduce the environmental and social impacts of human activities) rather that of directing each sector and activity towards a sustainable transition: proof of this is the fact that the sectors that have a greater environmental impact both positively and negatively are considered, specifically 70 activities that produce 93% of polluting emissions Europe: from agriculture to energy production, from ICT to the manufacturing sector, come on transportation to construction.

The taxonomy is a point of reference for the world of finance to measure how sustainable an investment actually is, but also useful to governments, to identify green incentives, to NGOs, to identify cases of green and ethical washing, to businesses, to reporting its impact on the environment and making the path towards more sustainable models tangible.

Attention! The taxonomy is not a list of economic activities in which to invest: it is a compass to guide global finance towards an economy with a lower environmental impact and greater economic and social value, but it does not oblige or constrain the operations of any lender or investor. This distinction is very important because it must not lead to a general selection of business credit.

EU taxonomy and the definition of sustainable activities

Cikis: Pursuant to art. 9 of Regulation 2020/852, what is meant by "environmental objectives" and which ones are relevant for the purposes of the Regulation?

Valentina: To be defined as environmentally sustainable, an economic activity must meet the following requirements:

• Contribute significantly to at least one of the six environmental objectives identified by the European Commission:

1. Climate change mitigation;
2. adaptation to climate change;
3. The sustainable use and protection of water and marine resources;
4. The transition to a circular economy, waste prevention and recycling;
5. Pollution prevention and control;
6. The protection of healthy ecosystems;

• Not significantly harm one of the other environmental objectives (the principle of “Do Not Significant Harm”);
• Comply with defined technical criteria, i.e. the maximum carbon dioxide emission thresholds to be respected in order for a company to be defined as sustainable (to date, only the criteria that meet the first two objectives, i.e. mitigation and adaptation to climate change, have been formally adopted) ;
• Be in line with minimum social guarantees: reference is made to the OECD guidelines for multinational enterprises and the United Nations Guiding Principles on Business and Human Rights, including the principles and rights established by the eight fundamental conventions identified in the declaration of the international organization of labor on fundamental principles and rights at work and by the International Bill of Human Rights.

The categories of companies affected by the obligations of the European taxonomy

Cikis: Which fashion companies are affected by the taxonomy obligations and what do they have to report?

Valentina: To date, according to the "Non Financial Reporting Directive (NFRD)" and the related implementing law in Italy, the subjects obliged to provide a sustainability report, including information on the taxonomy, are listed issuers, banks and insurance companies that have had an average number of employees exceeding 500 during the financial year and who, at the balance sheet date, exceeded one of the following size limits: a balance sheet total exceeding 20 million euros or a total net revenue of sales and services exceeding 40 million euros.

In April 2021, the European Commission published a proposal to amend this Directive, called the "Corporate Sustainability Reporting Directive (CSRD)" to extend the obligation to all large companies and all companies listed on EU regulated markets, except listed micro-enterprises.

Also included are non-EU companies that are listed on EU regulated markets and European branches of non-EU companies.

Starting this year, companies required to comply with the NFRD and in the future with the CSRD will have to disclose in their sustainability reports: the share of turnover deriving from products or services associated with economic activities aligned with the taxonomy; the share of capital expenditure (Capex) and operating expenditure (Opex) relating to assets or processes associated with economic activities aligned with the taxonomy.

A further clarification needs to be made: to give the right amount of time for "digestion" and assimilation of the new rules, it is envisaged that companies can only communicate, in their 2022 financial statements, the percentage of activities included (eligible) in the taxonomy, while from 2023 the percentage of activity aligned (aligned) to the taxonomy.

The activities included (eligible) are economic activities for which technical evaluation criteria are available to verify their contribution to one or more environmental objectives envisaged by the European Commission and the absence of significant damage to the other objectives.

Among the activities included in the taxonomy there are some "aligned" with the evaluation criteria defined by article 3 of Regulation (EU) 2020/852 and, therefore, aligned with the taxonomy. These economic activities contribute to at least one of the environmental objectives defined by the European Commission and do not cause significant damage to any of the other objectives.

For example, starting this year a company that manufactures basic organic chemical products will only have to declare that it carries out an activity included in the taxonomy while, from 2023, it will also have to verify and communicate whether it complies with the technical screening criteria, for example the maximum threshold of greenhouse gas emissions deriving from the manufacturing processes of the same chemical products.

European taxonomy and sustainability: here are the advantages for companies

Cikis: Going beyond the legislation, why should companies, even those not required to report, communicate sustainability and take the taxonomy into consideration?

Valentina: Today it is the market itself that requires this information: on the one hand, the financial stakeholders who, both for reasons of regulatory compliance and for strong interest on the part of the investors themselves, are required or inclined to take into consideration and evaluate the elements ESG of companies in their investment decisions, on the other SMEs, although not subject to any obligation, are involved in the reporting process of large companies and, therefore, in the request for this type of information to qualify in their supply chains.

At the same time, I would like to underline a message that, like Assolombarda, we are carrying forward with strength and energy: communicating sustainability even voluntarily and using sustainable finance tools, such as taxonomy, is convenient both as a tool that can contribute to the "management" business, and to intercept new public and private resources put in place at national and European level, such as the PNRR for example.

Returning to the taxonomy, the calls published on the PNRR are based on the principle of "Do No Signficant Harm", i.e. not to cause significant damage to the six environmental objectives envisaged by the Taxonomy.

Communicating sustainability, including the information required by the taxonomy, makes it possible to improve internal company management, thanks also to the necessary interaction and cooperation between different areas and functions; increase customer and supplier loyalty, given that one's impact on the environment and the community is reported in a tangible and credible way, exercise greater relational power with new partners and attract young talent, given that the new generations are very aware of the issue of sustainability.

Cikis: What advice would you give to fashion companies that want to intercept the flow of investments promoted by these measures?

Valentina: The advice is to start approaching sustainability in an "integrated" way, i.e. considering and including ESG elements in one's business model and corporate strategies.

This involves a process of awareness, enhancement and communication of sustainability as a source of competitive advantage, because it has concrete and tangible effects on one's financial statements.

What are the possible steps to follow? Here are some of the recommendations contained in Assolombarda's "Sustainable Finance" position paper:

1. Launch a gradual and medium-long term path, which goes from the mapping and engagement of its main stakeholders, to the analysis of the company's positioning with respect to them, to the implementation of the sustainability check-up and the definition of objectives and operational projects;
2. Integrate financial reporting with sustainability reporting: companies that voluntarily prepare and represent their set of ESG and economic-financial information in an organic, orderly and systematic way will certainly have a better advantage both from a competitive point of view and in intercepting capital private and public at European and national level. This exercise can be included both in a dedicated part of the notes to the "ordinary" financial statements and in a real sustainability report or integrated report;
3.  Consolidate the trust of one's stakeholders: it is necessary to have a method and frequency of involvement of one's stakeholders so that the mechanism of stakeholder engagement, i.e. the exchange and listening to information and "material" topics of the company, is not just a moment of form, but a guarantee of real sustainability in the corporate ecosystem. It is necessary that the stakeholders of interest perceive how sustainability is inherent in the corporate culture itself. It is useful to take advantage of and expand the certification approach, in particular those linked to the company management system - for quality, environmental or integrated - which have already provided SMEs with a reporting method for communicating with their stakeholders, with the use of indicators that value non-financial elements that are distinctive of their business models and differentiate them from competitors;
4. Make explicit your commitment to sustainability, also using all the ideas that can emerge from the new "business models" that are appearing on the market. Among these, the main one is that of benefit companies which voluntarily pursue, in addition to the purpose of profit, also one or more purposes of common benefit, generating positive value in the long term and reporting to public entities and shareholders the results achieved and future objectives . Reviewing the traditional business model is a priority in order to be able to face current economic, social and environmental challenges.

Conclusions

The European Taxonomy Regulation represents a fundamental tool for orienting global finance towards sustainable development.

The importance for SMEs to report their activities aligned with the sustainable development goals and to take into account the taxonomy in their strategic choices emerges strongly, not only to be able to maintain their position within the supply chain of large companies, but also to access national and European resources, such as the PNRR for example. The work of Assolombarda in increasing the awareness of companies is fundamental.

Companies with a high level of sustainability will have a better chance of being able to access any financing.