New Challenges for Corporate Finance
More and more investors, insurers and investment funds consider a company’s adherence to ecological and social standards when making lending and investment decisions. In December 2016, the Task Force on Climate-related Financial Disclosures published a recommendation on the disclosure of information on climate-related risks for companies. In the past year, a high-level expert group of the EU Commission drafted various laws addressing the integration of sustainability topics into the EU’s regulatory and economic frameworks and into corporate reporting. The idea is to provide uniform standards to allow an assessment of whether ESG (environmental, social, governance) factors have been fulfilled.
This regulatory initiative aims to promote investments in climate protection in order to achieve the 2030 targets of the Paris Agreement on Climate Protection. Accordingly, the European Commission sees a central role in the financial system when it comes to implementing the sustainability strategy. The aim is not only to increase direct investment in sustainable projects but also to achieve an indirect impact by taking into account financing decisions to determine whether the borrower is complying with the ESG criteria. The regulations aim to obtain comprehensive sustainability while preventing the “greenwashing” of investment products or individual investments.
Current surveys say that 66% of investors are convinced that considering ESG factors helps to identify and mitigate risks, while 56% indicate that they get their ESG information on companies from annual reports and that this data influences their decisions and investment strategies. For instance, at the beginning of February 2019, HSBC communicated that it was going to calculate the CO2 output of its credit portfolios and that it would provide a significant portion of its loans to sustainable projects. Union Investment announced that sustainable criteria should apply to investments for all of its managed assets within five years. Other large financial institutions, such as the Norwegian State Fund, Allianz, Munich Re, Blackrock, DZ Bank and Deka, have declared that they were going to integrate sustainability considerations in their business decisions.
Among other things, the aim of the regulation is to integrate the relevant information into corporate reports. For Corporate Finance, it is therefore only a matter of time before they have to give investors answers on their company’s adherence to ESG criteria. These criteria include:
- Investments in renewable energy
- Reduction of CO2 emissions
- Efficient use of energy, commodities and water
- Eco-friendly production
- Work conditions, including the avoidance of forced labor and child labor
- Employees’ freedom to assemble and join a union
- High work safety and health standards
- Fair working conditions, adequate remuneration, training and CPD, as well as non-discrimination
- Linking of management remuneration to attainment of sustainability goals
- Prevention of bribery and corruption
- Fair tax strategy
- Measures to improve cyber security
Beyond that, a company should also be able to present how it is/will be affected by climate change, which financial repercussions it expects from this and what its mitigating strategies are.
The law drafted by the EU Commission in May 2018 foresees that economic activities are classified as eco-friendly or sustainable as soon as at least one of six EU environmental objectives is being pursued:
- Climate protection
- Adjustment to climate change
- Sustainable use and protection of water and maritime resources
- Development of closed-loop economy, waste reduction and recycling
- Avoidance/mitigation of environmental pollution
- Protection of a healthy eco-system
To this end, a taxonomy should be prepared which defines the criteria for an assessment of these, so that investments may be classified along standardized categories. This taxonomy is expected to be presented by mid-2020, along with an eco-certification of financial products, which will then be a characteristic of debt instruments, notes payable and other financing instruments.
In the future, treasurers will have to make it even more their business to be part of such decisions and processes to ensure that these aspects are adequately taken into account in the company and that investors’ questions can be answered to secure the necessary financing. Treasurers will have to get involved in areas such as investments, the selection of suppliers and customers, production processes, HR policies, IT security and the internal control system, as all these will have to meet the standards expected by investors.
Treasurers who are wondering where their job is going in view of the increasing automation and digitalization thus see that they will still have a job, albeit a different one but just as important.
Source: KPMG Corporate Treasury News, Edition 88, Januar-February 2019
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