Market participants have welcomed a proposed climate-first approach to implementing the UK’s sustainability reporting standards, although there are some concerns around interoperability and Scope 3 carve-outs.
The Financial Conduct Authority (FCA) opened its consultation on the long-awaited proposals in late January. UK-listed companies are expected to report climate-related information set out by the International Sustainability Standards Board (ISSB) standards from January 2027, but with an opt-out of reporting Scope 3 emissions for one year.
Similarly, companies can opt out of reporting non-climate sustainability information for two years until 2029, with Scope 3 and non-climate information implemented on a comply-or-explain basis.
The Scope 3 delay is in line with ISSB recommendations but the climate-first approach is only recommended for one year – not two – by the ISSB.
Donato Calace, senior vice president at Datamaran, told Responsible Investor that the FCA was taking “a very reasonable and pragmatic approach”. However, he warned that the potential opt-outs create an “internal interoperability” problem.
The FCA acknowledged in its proposals that opting to explain an omission of Scope 3 and non-climate sustainability disclosures could mean a company is not compliant with the UK Sustainability Reporting Standards, a final version of which is expected to be published by the Department of Trade this month.
“If you’re a multinational company operating in the UK and Australia, you’re faced with different timelines for your ISSB reports with different scopes and requirements,” Calace said.
“You may end up issuing one report for the UK and another for Australia, complete opposites of the global baseline. This type of fragmentation leads to local entity-specific reports, which are of limited interest for investors.
“In order for the global baseline promise to be kept, the ISSB really needs to work hard on the idea proposed on passporting – where one report can be used in other countries – and subsidiary exemption.”
Leo Donnachie, senior policy specialist on sustainable finance at the Institutional Investors Group on Climate Change (IIGCC), said the industry body would like clarity on whether the FCA plans to extend these rules to asset managers and asset owners it regulates, as it did with mandatory Taskforce on Climate-related Financial Disclosures requirements.
Similarly, as reporting standards evolve, Donnachie said the relevance and need for a comply-or-explain approach should be revisited in future, especially in the context of nature-related disclosures.
Rachel Barrett, ESG partner at Linklaters, said the comply-or-explain approach is typically used by the regulator “where it seeks to drive behaviour through market practice, which itself will be underpinned by what is possible in terms of data capture”.
“This approach is also more palatable to the UK government’s growth agenda, where the introduction of new regulatory requirements needs to be proportionate to the risk they address,” she said. “Broadly we therefore expect companies to be in favour of the approach being proposed by the FCA.”
Building capacity
Lucas Penfold, head of sustainability reporting at Impax Asset Management, said the FCA’s approach made sense.
Impax, which is UK-listed, would like to see firms evolve sustainability reporting beyond climate, such as where their operations and value chain are materially exposed to nature or social-related risks and opportunities.
However, Penfold said the transitional reliefs were helpful as they would give firms time to build capability. Similarly, the optional reliefs for Scope 3 reporting allow more advanced companies to report their emissions data sooner.
“The FCA’s proposed one-year relief for Scope 3 emissions recognises the challenges some companies have experienced in obtaining this data and provides them with more time to adjust systems to report on this metric,” he said.
Other market observers were also broadly positive on the proposals.
Cassondra Polegri, a partner at EY working on financial services, climate and sustainability, said the FCA was “sensible” to provide firms more time to prepare their Scope 3 disclosures.
“Scope 3 is one of the largest and most complex sources of financed emissions data, requiring detailed analysis and strong controls to ensure high-quality, reliable reporting, and as such will require more time to prepare,” she said.
“Many institutions may also choose to obtain voluntary assurance on their disclosures, which requires further consideration and enhancement of the data, process and controls.”
However, she warned that Scope 3 was especially meaningful for financial institutions, so taking advantage of the opt-out for financial services firms is “not a decision they should take lightly”.
Barrett also said she expected some companies to be relieved by the FCA’s approach, “noting the significant pushback that other international regimes have faced when requiring reporting on Scope 3 data”.
“Equally, however, the FCA itself acknowledges feedback that this data can be material and important for investors,” she added.
“Some of these investors can be expected to query whether a more pragmatic approach would be to require mandatory disclosures but to provide more guidance or assistance on how Scope 3 emissions can be calculated.”
The consultation on the FCA proposals is open until 20 March.