Getting ready for Non-Financial Reporting in financial services

23 July 2020 Consultancy.eu

Non-Financial Reporting (NFR) is gradually becoming mainstream in the financial services. Experts from Synechron outline the current state of NFR in the industry, and how financial institutions can advance their NFR agenda. 

The current form and shape of NFR is mostly based on the high-level of regulatory requirements as set in the non-financial reporting directive of the EU. Additionally, most financial institutions (particularly big banks) publish detailed information on sustainability performance, either in their regular corporate disclosures or as a separate sustainability report. 

Some banks are already making use of the available voluntary frameworks to make their reporting more mature. The vast number of different approaches and the voluntary nature of the detailed disclosures, however, leads to a scattered reporting landscape in which the users of information cannot easily compare and use the information for decision making. 

With the EU Action Plan as the driving force, 2020 was poised to be a year where financial institutions collectively as an industry would accelerate the march towards a mandatory, rigorous and standardized NFR. However, with the current Coronavirus crisis it is not yet known what will happen to the timelines of NFR and, more generally, sustainable finance.

Maturity of sustainable finance

The below overview shows a selection of the most relevant regulations and initiatives with regard to NFR which we believe are poised to gain traction soon:

EU Parliament (2014) | Directive 2014/95/EU about Non-Financial Reporting
Status: Compulsory. Effective since 2018
Summary: From 2018 onward, EU law requires large companies disclose certain information about the way they operate and manage social and environmental challenges. Review of the directive is underway with a public consultation in H1 2020. 

EU Commission (2019) | Guidelines on reporting climate-related information 
Status: Non-binding guidelines. Effective since 2019
Summary: Explanations of key concepts in relation to reporting climate information under the Non-Financial Reporting Directive.

EU Commission (2020) | Taxonomy on sustainable finance
Status: Compulsory. Effective by end of 2021
Summary: Delegated acts on the classification of activities as ‘sustainable’ or ‘green’, corporate disclosure delegated act expected on 1 June 2021.

European Banking Authority (2020) | Pillar 3 update
Status: Expected application date in June 2022
Summary: The identification of key risk metrics (qualitative and quantitative) and disclosure. Incorporating existing work such as the Guidelines on reporting climate-related information, the EU taxonomy and the Task Force on Climate-related Financial Disclosures (TCFD) recommendations. 

Financial Stability Board (2015) | Taskforce Climate-related Financial Disclosure (TCFD)
Status: Non-binding guidelines
Summary: Recommended by EU. Helping companies understand what financial markets want from disclosure in order to measure and respond to climate change risks and opportunities. 

United Nations (2019) | The Principles for Responsible Banking
Status: 4 years after signing date
Summary: Banks must be transparent and clear about how their products and services create value for their customers, clients, investors, as well as society. Supported by a strong implementation framework that defines clear accountabilities and requires each bank to set, publish, and work toward ambitious targets. 

International Integrated Reporting Framework (2013) | Integrated reporting framework
Status: Non-binding guidelines
Summary: Prescribes disclosure on the most material topics of an organization, and relating it to the company’s strategy, governance, metrics, targets and the impact it has on all stakeholders.

Platform for Carbon Accounting Financials (PCAF)
Status: Non-binding guidelines
Summary: Improve carbon footprinting in the financial sector and to create a harmonised carbon footprinting approach for financial instruments. Enabling transparency, accountability and creating an open-source global carbon accounting standard covering various asset classes.

Moving forward

For any financial services institution, it can be a daunting task to interpret all of the above regulations and initiatives, particularly when there is considerable overlap. An overview of some key highlights that institutions should pay attention to, in particular:

  • Broad Impact: Sustainable finance is bound to impact not only the reporting department of a given bank, but other critical areas including governance, strategy, risk management and finance
  • Climate in Focus: The current focus in the EU is mostly on climate action, evidenced by the recent publication of the Technical Expert Group on sustainable finance. Two of the six main objectives of the EU action plan have been worked out in detail, namely: climate mitigation and climate adaption. The other four have only been defined in the context of do-no-significant-harm criteria. Implementation timelines for climate-related objectives and other objectives vary considerably.
  • Impactful Disclosures: Disclosures from banks should cover the areas where they make the biggest impact – their client investment and lending portfolios. This means that new client data is probably needed, and interaction is necessary with all client segments to obtain the needed data.
  • Current Practices: In their approach, the EU surely takes into account the current market practice – for example the green bond standards or green loan standards that were already published by industry associations.
  • Disclosure Alignment: The EU action plan is expected to further push for mandatory disclosures based on the existing EU Directive. This implies that NFR will need to be closely aligned to financial reporting in terms of policies, data, internal governance and controls.

Beyond reporting

Strategy, governance, risk management and client data are important topics which are all expected to be impacted in one way or another by the NFR initiatives. In short, these initiatives will spark a much broader debate than just reporting and discussions could even go up to the level of the managing board.

An overview of some considerations that can help institutions with getting started on NFR and the broader area of sustainable finance: 

Create urgency within the institution
With the EU action plan initiatives coming into effect already in 2020, there is a unique opportunity to create urgency and priority. Also, the pledges made by a large amount of financial institutions to comply with the Principles of Responsible Banking can assist you here. 

Set up a clear (data) governance process
Assign ownership, with senior management sponsorship, and assigned data stewards on an operational level to ensure data quality as close to the source as possible and/or quick response in case of data quality issues.

Think about data early
Clearly define data requirements needed to support (future) reporting requirements and identify the key sources of this data. Ensure consistent definitions, data-gathering, storage and controls and think about how to collect data from prospective clients.

Involve a broad range of departments
Involve finance to leverage on the existing financial reporting processes to embed non-financial data and reporting in your organisation. Involve risk management, strategy and governance departments to ensure embedding in key processes within the institution. 

From obligation to opportunity

One lesson to be learned from the last financial crisis is that regulations/initiatives should not only be seen as an obligation but also an opportunity to create competitive advantage. This can hold true especially for initiatives in which the society benefits from the outcome; for example, the reduction of greenhouse gas emissions. 

Food for thought: If the lack of action regarding sustainable finance has the potential to threaten our very existence, it is advisable for financial institutions to follow a proactive approach. To this end, they should consider to not only adhere to the regulation and latest initiatives, but also to convert the momentum into an opportunity to enhance outcomes for the broader society. 

Authors of this article are Rajul Mittal, Jasper Meijer and Gonzalo Martin Camarero, consultants at Synechron in its Amsterdam office.