This article was updated 20th January 2021.
On 6 March 2020, the FCA announced a consultation on its proposal to introduce a new continuing obligation in the Listing Rules that would require commercial companies with a UK premium listing to make climate related disclosures, in line with the Task Force on Climate-related Financial Disclosures’ (TCFD) framework, on a “comply or explain” basis. The FCA also consulted on a Technical Note that clarifies its expectations in relation to the application of the environmental, social and governance related disclosure obligations that already exist for issuers under the FCA’s Listing Rules and Disclosure Guidance and Transparency Rules and under the EU’s Prospectus Regulation and Market Abuse Regulation.
The consultation on the proposal and the Technical Note closed on 1 October 2020. On 21 December 2020, the FCA published the Policy Statement which includes a summary of the feedback to the FCA’s proposals from stakeholders, the finalised rules and the final Technical Note. The FCA also confirmed that the new Listing Rule will be introduced as planned for reporting periods beginning on or after 1 January 2021.
The New Disclosure Obligation
The new Listing Rule will require commercial companies with a premium listing to include a statement in their annual financial report for periods beginning on or after 1 January 2021 setting out:
- whether disclosures consistent with the TCFD recommendations and recommended disclosures have been made in their annual financial report;
- where disclosures are inconsistent with some or all of the TCFD’s recommendations or recommended disclosures, or some or all of the disclosures are included in documents other than their annual financial report, an explanation of why; and
- where in their annual financial report (or other relevant document) the various disclosures can be found.
The first financial reports to include the required statement would be published in 2022.
The TCFD was established in December 2015 by the Financial Stability Board with the aim of developing a set of voluntary, consistent, climate-related disclosures that could be used by companies to provide investors, lenders, insurers and other stakeholders the information they wanted on climate-related risks. The TCFD’s final report, published in 2017, sets out a framework that divides disclosures into four overarching themes:
- Governance: the organisation’s governance around climate-related risks and opportunities;
- Strategy: the actual and potential impacts of climate-related risks and opportunities on the organisation’s businesses, strategy and financial planning where such information is material;
- Risk management: the processes used by the organisation to identify, assess and manage climate-related risks; and
- Metrics and Targets: the metrics and targets used to assess and manage relevant climate-related risks and opportunities where such information is material.
The general disclosure recommendations for the four key themes are supported by 11 more granular recommended disclosures. The TCFD Report along with two other supplementary guidances includes general guidance on the fundamental principles of effective disclosures and sector-focussed guidance setting out key matters that companies should have regard to when developing their disclosures.
Set out below is an example of a disclosure against the TCFD’s governance recommendation made voluntarily by FTSE 250 LondonMetric Property plc in their annual report for 2020:
“The Board is responsible for the Company’s risk management framework, including the consideration of climate-related risks and opportunities as part of its wider oversight for Responsible Business. Implementation of Responsible Business is delegated to the Senior Leadership Team with two of its members, the Finance Director and Head of Responsible Business, leading the Responsible Business working group; other members consist of a representative from each of the investment, asset management and development teams. The Head of Responsible Business ensures that annual Responsible Business targets are delivered and leads engagement and training across the Company on Responsible Business, held by our sustainability advisor JLL”.
Scope of the New Disclosure Obligation
The scope of the new Listing Rule will not extend to open-ended or closed-ended investment companies; but it will include sovereign-controlled commercial companies and financial services firms including asset managers and insurance companies (in their capacity as issuers not FCA-regulated firms), that are premium listed. Even though open-ended and closed-ended investment companies will not be obliged to comply with the new rule, we expect investment companies which consider ESG to be an important part of their annual reporting (particularly in the infrastructure and renewable energy sectors) to voluntarily comply.
In the Policy Statement, the FCA also confirmed that it will consult in the first half of 2021 on extending the new disclosure rule to a wider scope of listed issuers (including open-ended and closed-ended investment funds). At the same time, the FCA plans to consult on TCFD implementation measures for asset managers, life insurers and FCA-regulated pension providers, to aid existing and prospective clients and end-investors in their decision making, with the aim to bring in rules for the largest firms by 2022. The FCA’s plans are also set out in the five-year roadmap toward mandatory climate-related disclosures for companies that was published by the UK’s Joint Government-Regulator TCFD Taskforce on 9 November 2020.
Impact of the New Disclosure Obligation on Issuers
The new Listing Rule will require premium listed commercial companies to wholly adopt TCFD’s framework and become familiar with its requirements. The FCA’s decision to incorporate TCFD’s recommendations wholesale will provide some alignment for companies and industries that currently face challenges with consistency in respect of climate-related disclosures due to the myriad of ESG reporting standards that are available and continue to be developed.
In the development to this consultation, the FCA noted in its summary of responses to the FCA’s climate change and green finance paper in 2019 that issuer respondents widely regarded the TCFD’s recommendations as a useful framework for climate-related disclosures. The TCFD framework was also endorsed by organisations such as The Principles for Responsible Investment (PRI). In January 2019, PRI published a response to the FCA’s discussion paper on climate change and green finance recommending to the FCA a two-step approach to implementing the TCFD framework in the UK.
At present only around a third of companies surveyed by the TCFD in their 2019 Status Report are making disclosures aligned with all 11 of TCFD’s recommended disclosures. This means many companies will still face the one-off costs of first compliance and all companies will incur ongoing compliance costs. The FCA has estimated the total one-off compliance cost per issuer to be £360,000 and ongoing costs per issuer to be £100,000 on a yearly basis (equating to 0.005% and 0.002% of the total market capitalisation of issuers in the UK premium listing category, respectively).
Although the new Listing Rule will certainly be more onerous for those companies that have not yet started to make disclosures in line with the TCFD framework, in our view the new Listing Rule will cause an expedited evolution of the efforts that some companies have already begun to put in place, such as including metrics on environment and climate change policies in their annual reports, rather than a revolution in respect of ESG reporting. Most companies will already have in place a number of processes for capturing and reporting on ESG factors. Many of these will be voluntary processes and some, in the carbon sphere, will be mandatory such as the current SECR and ESOS regimes. Setting out such metrics against the TCFD framework will initially take time but once the disclosures have been drafted into a company’s annual report, the framework of which can then be used going forward, we believe that ongoing compliance will not be overly burdensome given so many companies already do report, such as FTSE 100 bp plc and FTSE 250 LondonMetric Property plc.
It might also be noted that there is a connection between this new Listing Rule, section 172 of the Companies Act 2006 and companies’ annual strategic reports. Section 172 imposes a duty on directors to promote the success of the company. In doing so directors are to have regard (among other things) to the impact of the company’s operations on the community and the environment (and likewise, we would argue, the impact of a deteriorating environment on the success of the company). Under section 172 directors also must have regard to the “likely consequences of any decision in the long term”, which is an important consideration for decisions which the Board might take which would result in a lock in of carbon emissions for many years. Compliance with the new Listing Rule may help directors to steer clear of potential actions by climate related activists under section 172. It is further noted that the Department for Business, Energy and Industrial Strategy (BEIS) is expected to consult on new Companies Act 2006 obligations in early 2021 to expand the scope of companies required to make TCFD-aligned disclosures in their annual reports and accounts. BEIS’ proposals include expanding the scope to (i) companies asked to report against a corporate governance code or (ii) companies within the revised definition of public interest entity (PIE) which would include certain listed, publicly quoted and private companies.
Additionally, rather than imposing mandatory disclosure obligations, the new Listing Rule adopts the “comply or explain” approach, consistent with the Corporate Governance Code, with issuers either making the required disclosures, or having to explain why they have not done so. This approach acknowledges that this is an evolving area and that the capabilities of issuers are still developing. The FCA also noted in its Policy Statement that most respondents supported the ‘comply or explain’ basis as they considered flexibility in respect of compliance with the new Listing Rule as important, particularly where companies faced data, modelling or analytical challenges. However, there have also been criticisms to the proposed approach, for example by the Climate Disclosure Standards Board (CDSB) which advocates a mandatory Listing Rule considering the significant risks arising from climate change on the UK and global economy. The CDSB warns that without enhanced disclosures from companies, financial markets will struggle with managing and pricing climate change risks appropriately. The FCA have recently confirmed that they will consider consulting on making the new Listing Rule mandatory rather than on a “comply or explain” basis. This proposal is reflected in the UK TCFD Taskforce’s roadmap toward mandatory climate-related disclosures.
Another important consideration in respect of the impact of the FCA’s decision is raised by the Joint Working Party of the Company Law Committees of the City of London Law Society and the Law Society of England and Wales (JWP) in its response to the consultation. The JWP stresses that as the London market attracts global companies, consideration should be given to “legislative developments in the UK, the EU and further afield to ensure the proposals remain applicable to the UK whilst staying at the forefront of any converging global standards and/or market practices”. The JWP further suggests that the FCA should consider how these developments will fit with the Climate Financial Risk Forum’s (CFRF) work in relation to TCFD and ensure there is consistency between the new Listing Rule and the CFRF’s guidance.
Impact on Sponsors
It is worth noting that the new Listing Rule will also impact sponsors in respect of their role in guiding companies through a number of circumstances (pursuant to LR 8.2R), such as initial public offerings and significant transactions. In order to satisfy their role, sponsors will be required to provide assurances to the FCA that the company understands their responsibilities and obligations under the LR and DTR and that any significant transaction will not have an adverse impact on the company’s ability to comply with the new Listing Rule’s obligations. Sponsors will therefore need to understand the TCFD’s framework, provide guidance on the new Listing Rule and be able to analyse whether the company has the ability and necessary procedures in place to comply with the new Listing Rule along with the company’s other ongoing disclosure obligations. The FCA reports that feedback to its consultation suggests sponsors will look to subject-matter experts including auditors and reporting accountants to support them with their new obligations as they do in respect of engaging third parties to help them with their due diligence to support declarations under LR 8.4R.
Timeline for Implementation of the New Listing Rule
The consultation period was originally set to close on 5 June 2020 but on 17 March 2020 the FCA extended the deadline to 1 October 2020, due to the COVID-19 pandemic. On 21 December 2020, the FCA published the Policy Statement, the finalised rules and the final Technical Note and confirmed that the new Listing Rule will be implemented as planned for reporting periods beginning on or after 1 January 2021.
Many issuers are already reporting against the TCFD but it may be challenging for those issuers not yet reporting to be in a position to comply with the new Listing Rule for their 2021 financial year. They will need to ensure they have systems in place to track their activity in line with the TCFD framework from the start of that financial year and not just by the time their annual reports for that year are due to be published in 2022. The FCA also notes in its Policy Statement that most respondents to the consultation were supportive of the timeframe given the urgency of the climate crisis and increased investor demand for more complete and higher quality climate-related disclosures from issuers.