Non–EU companies with a significant presence in the EU or with securities listed on a EU-regulated market will become subject to new EU rules on corporate sustainability disclosures (the Corporate Sustainability Reporting Directive, or CSRD). The text of the CSRD has now been agreed by the EU institutions.1 CSRD is expected to become EU law later this year. Once implemented into the national law of EU member states, its requirements will be phased in from 2024.
CSRD will significantly expand the scope and content of the EU’s existing non-financial reporting regime under the Non-Financial Reporting Directive (NFRD). Under Article 8 of the EU Taxonomy Regulation, entities in scope of NFRD are also required to report on their Taxonomy alignment. The amendments made by CSRD therefore mean that a broader range of entities will also be required to make disclosures of their Taxonomy alignment. Another key difference between NFRD and CSRD is that the new rules will introduce a mandatory audit and assurance regime to ensure the reliability of data and avoid greenwashing and/or double accounting.
The new EU rules differ substantially from approaches taken in the U.S. and the UK. This Sidley Update explores the implications of CSRD for companies with headquarters outside the EU, including the scope of application of CSRD and the content of its disclosure requirements.
Scope and timing
CSRD will apply to all large EU companies, that is, EU companies (including EU subsidiaries of non-EU parent companies) exceeding at least two of the following criteria:
- more than 250 employees;
- a turnover of more than €40 million; or
- total assets of €20 million.
CSRD will also apply to companies with securities listed on a EU-regulated market, irrespective of whether the issuer is established in the EU or a non-EU country. This includes listed small and medium-size enterprises (SMEs), except for certain listed micro-enterprises.
For financial years starting on or after 1 January 2024, CSRD will apply to companies that are already subject to NFRD, with the first report expected to be produced in 2025. Large companies that are not presently subject to NFRD will have to apply CSRD from financial years starting on or after 1 January 2025 and therefore report in 2026 on 2025 data. For financial years starting on or after 1 January 2026, CSRD will be rolled out to listed SMEs, albeit subject to an opt-out until 2028, with the report in 2027 being based on 2026 data.
Additionally, CSRD will have an impact on non-EU undertakings with annual EU-generated revenues in excess of €150 million and which also have either a large or listed EU subsidiary or a significant EU branch (generating €40 million in revenues). The respective subsidiary or branch will be responsible for publishing CSRD-style sustainability reports for these non-EU undertakings at a consolidated level from 2028 onwards.
Sustainability disclosure standards
Entities in scope of CSRD will be required to comply with detailed sustainability reporting standards (the European Sustainability Reporting Standards (ESRS)) being developed by the European Financial Reporting Advisory Group (EFRAG).
The European Commission is required to adopt the first set of reporting standards by 30 June 2023; such standards will specify the information that undertakings should disclose with regard to all reporting areas and sustainability matters and ensure alignment with regards to existing disclosure obligations set out in the Sustainable Finance Disclosure Regulation (see our Sidley Updates here, here, and here). The Commission is required to adopt a second set of reporting standards by 30 June 2024 that will specify complementary information requirements and sector-specific standards.
Sustainability information will be required to be reported in a clearly identifiable dedicated section of the company’s management report, which must be made publicly available.
We have summarised some of the key aspects to be required by CSRD to highlight the extent to which the requirements will extend beyond the sustainability information currently reported by undertakings (either within or outside the EU):
(a) General standards. Generally applicable sustainability disclosures will be required across a number of key topic areas, including environmental matters (such as climate change and biodiversity) as well as social factors (such as working conditions, equality, non-discrimination, diversity and inclusion, human rights, and the effects of the undertaking on people and on human health). Entities will be required to disclose information about their business strategy and the resilience of the business model and strategy to risks related to sustainability matters.
(b) Sector-specific standards. EFRAG will also develop sector-specific standards. The standards are intended to be proportionate to the scale of the risks and effects related to sustainability matters of the relevant sector, noting that risks and effects are higher for some sectors than others. Sector-specific standards are therefore identified as being especially important in the case of sectors associated with high sustainability risks and/or effects.
EFRAG has indicated that its sector-specific standards (which have yet to be consulted on) will be developed independently of the sector-specific standards published by the Sustainability Accounting Standards Board (SASB) but that sector-specific standards will be mapped to SASB standards in later versions of the ESRS.
(c) Targets and transition plans. Undertakings will be required to disclose their sustainability targets and the transition plans (if any) that they have established to ensure their business model and strategy are compatible with:
(i) the transition to a sustainable economy;
(ii) the objectives of limiting global warming to 1.5°C in line with the Paris Agreement; and
(iii) achieving climate neutrality by 2050 in line with the EU’s goals in the European Climate Law, with no or limited overshoot.
Transition plans should be science-based, including by reference to Intergovernmental Panel on Climate Change reports and reports by the European Scientific Advisory Board on Climate Change.
(d) Value chains. Undertakings will be obliged to disclose their due diligence process with regard to sustainability matters in their own operations and their value chain and the principal actual or potential adverse effects connected thereto. Undertakings should also disclose any actions taken to prevent, mitigate, remediate, or bring an end to actual or potential adverse effects.
A number of EU member states have already imposed value chain due diligence obligations on companies; proposals put forward by the Commission under the draft Corporate Sustainability Due Diligence Directive will require undertakings to identify and, where necessary, prevent, end, or mitigate adverse effects of their activities on the environment and human rights.
Companies will need to engage with their value chains, including suppliers; however, for the first three years of CSRD, if information regarding the value chain is not available, undertakings can elect to explain their inability to obtain such information rather than comply fully with the disclosure requirement.
(e) Intangible resources. Undertakings will be required to report on their “key intangible resources,” being resources without physical substance on which the undertaking’s business fundamentally depends and that are a source of value creation for the undertaking. Intangible resources may be relevant to sustainability information in some cases, including the undertaking’s relationships with its stakeholders.
(f) Forward-looking disclosures. Sustainability information shall be provided on a forward-looking as well as retrospective basis, both in qualitative and quantitative terms, and based on conclusive scientific evidence where appropriate. Uniform indicators will be developed in the ESRS.
SMEs will be subject to a more limited set of reporting requirements based on the principle of proportionality that will not cover all reporting areas.
In relation to non-EU undertakings that will be subject to CSRD from 2028, CSRD requires the publication of a sustainability report in accordance with specific disclosure standards to be developed further. To ensure a level playing field for companies operating in the EU market, these reports will have to include information especially on the non-EU undertakings’ “impact regarding social and environmental matters.”
Interoperability with other reporting frameworks
CSRD recognises the need for convergence of sustainability reporting standards at global level and refers expressly to the global baseline standards being developed by the International Sustainability Standards Board. However, the EU rules differ significantly from recent proposals for climate-related disclosures from the U.S. Securities and Exchange Commission (SEC); see Sidley’s recent updates on the SEC’s proposals here and here. In particular, under CSRD, companies will be required to publicly disclose information about a broad range of environmental, social, and governance matters on a “double materiality” basis — that is, both (i) how the company is affected by external factors that influence its position, development, and performance (outside-in materiality) and (ii) the extent to which the company generates significant effects on the environment and the society (inside-out materiality). By contrast, the SEC’s current proposals deal only with climate matters. In addition, with the exception of disclosing greenhouse gas emissions from the relevant company and its value chain, the rules proposed by the SEC will focus on outside-in materiality rather than double materiality. CSRD also goes beyond the UK’s current climate-focussed disclosure requirements for large UK companies, and for London Stock Exchange–listed issuers.
To reduce the reporting burden for globally active companies, CSRD provides for an equivalence regime that will allow for substituted compliance under certain non-EU disclosure regimes. For example, under certain conditions, non-EU parent undertakings may report on a consolidated basis for their EU subsidiaries, provided that the consolidated sustainability reporting of the non-EU parent undertaking is prepared in an equivalent manner to the EU standards. However, at present it is unclear whether substituted compliance will be available to U.S. or UK companies and their EU subsidiaries, given the divergence between local disclosure standards.