The UK's new climate-related financial disclosures: mandatory requirements to come clean

Background

As part of an increased focus on environmental, social and corporate governance (ESG) matters, the importance of climate-related issues to businesses has been growing consistently and rapidly in recent years. As well as the physical risks associated with climate change, such as frequent or severe weather events, companies are also facing transition risks as the UK moves towards becoming a low carbon economy. These include changes in regulation and government policies, as well as changes to market and consumer sentiment, all of which can have material impacts on the operations and value of companies and their assets.

It is no longer just governments and regulators that are assessing companies' climate-related commitments: as part of their broader assessment of ESG criteria, lenders, investors, insurers, employees and customers are increasingly factoring climate risk and disclosures into their decision making.

New UK climate-related financial disclosure regulations

On 17 January 2022, the UK government published the Companies (Strategic Report) (Climate-related Financial Disclosure) Regulations 2022 and the Limited Liability Partnerships (Climate-related Financial Disclosure) Regulations 2022 (together, the Regulations). The Regulations introduce new requirements for in-scope companies and limited liability partnerships (LLPs) to disclose climate-related financial information broadly in line with the Recommendations of the Financial Stability Board's Taskforce on Climate-related Financial Disclosures (TCFD)1 (the Recommendations).

In its guidance published in February 20222 , the Department of Business, Energy and Industrial Strategy (BEIS) stated how disclosures of material climate-related financial information is a tool which can be utilised to support smarter investment decisions as the UK, and the rest of the world, moves towards a low carbon economy. The easier it is to compare companies' exposure to climate-related risks and opportunities, the better investors will be able to incorporate these risks into their business decisions, while at the same time making information more accessible to stakeholders and third parties for relevant decisions.

When do the Regulations take effect?

The Regulations came into force on 6 April 2022 and apply to accounting periods starting on or after that date. This means that, where applicable, companies and LLPs will need to include the relevant disclosures in annual reports prepared for the relevant accounting periods.

Which companies do the Regulations apply to?

The Regulations will apply to UK registered companies or LLPs that meet the following criteria:

  • companies that are currently required to produce a non-financial information statement in their annual report – these are companies that have more than 500 employees and have either shares or other transferable securities admitted to trading on a UK regulated market, such as the Main Market of the London Stock Exchange, or are banking companies or insurance companies (Relevant Public Interest Entities);
  • companies with securities admitted to the AIM Market of the London Stock Exchange with more than 500 employees;
  • companies not included in the categories above which have more than 500 employees and an annual turnover of more than £500 million;
  • LLPs, which are not traded or banking LLPs, and have more than 500 employees and an annual turnover of more than £500 million and;
  • traded3 or banking4 LLPs.

What are the new climate-related financial disclosure requirements?

Companies and LLPs within scope will be required to include specific disclosures in their annual report on climate change where these are material to the value of a company and its assets, or material to an understanding of the business or its strategy. The information required to be disclosed is:

a) a description of the governance arrangements of the company or LLP in relation to assessing and managing climate-related risks and opportunities; b) a description of how the company or LLP identifies, assesses, and manages climate-related risks and opportunities; c) a description of how processes for identifying, assessing, and managing climate-related risks are integrated into the overall risk management process in the company or LLP; d) a description of— (i) the principal climate-related risks and opportunities arising in connection with the operations of the company or LLP, and (ii) the time periods by reference to which those risks and opportunities are assessed; e) a description of the actual and potential impacts of the principal climate-related risks and opportunities on the business model and strategy of the company or LLP; f) an analysis of the resilience of the business model and strategy of the company or LLP, taking into consideration of different climate-related scenarios; g) a description of the targets used by the company or LLPs to manage climate-related risks and to realise climate-related opportunities and of performance against those targets; and h) the key performance indicators used to assess progress against targets used to manage climate-related risks and realise climate-related opportunities and a description of the calculations on which those key performance indicators are based.

Are there different group and subsidiary level reporting requirements?

Companies are expected to report at the group level (or at the company level if not included within consolidated group reporting). Subsidiaries whose activities are included within a consolidated group report of a UK parent that complies with the climate-related financial disclosures requirements are not required to report separately.

What about overseas operations?

When a UK group is in scope the top UK parent is expected to report, within its Annual Report, on the global operations of the UK group (regardless of whether activities are conducted through a UK subsidiary or an overseas subsidiary).

Are UK companies with an overseas parent exempt?

A UK company is exempt from the disclosure requirements at company level where that company's activities are included in a consolidated report and there is a UK parent company. Where a UK company has an overseas parent that reports on a consolidated basis, that exemption does not apply, and that UK company must include the necessary disclosures in its Annual Report.

Where do the disclosures need to be made?

Companies should include these disclosure requirements in their non-financial and sustainability information section that forms part of the strategic report in their annual report. LLPs should include it in either the energy and carbon report that forms part of the directors' report in their annual report, or for those LLPs which prepare a strategic report, in that report.

What happens in the event of non-compliance?

The Financial Reporting Council (FRC) is responsible for monitoring the contents of strategic reports and has the power ultimately to make an application to the court for a declaration that the annual report and accounts of a company do not comply, or a strategic report or a directors’ report does not comply, with the requirements of the Companies Act. The court may then order the preparation of revised accounts (including the revision of the strategic report) and other such matters the court thinks fit.

The responsibilities of the company’s auditor still apply as with the rest of the strategic report. Accordingly, in instances where the auditor has reviewed the climate disclosures and determines these contain uncorrected material misstatements, this should then be recorded in the auditor’s report.