Following on from our blog on SFDR requirements (here), we examine the key components required for periodic reporting. According to the SFDR’s classification system, a fund will either be classified as an article 6, 8 or 9 fund depending on their characteristics and level of sustainability:
Article 6: Funds without a sustainability scope
Article 8: Funds that promote environmental or social characteristics (light green)
Article 9: Funds that have sustainable investment as their objective (dark green)
You can read more detailed information here: https://blog.worldfavor.com/sfdr-what-is-article-6-8-9
What are the requirements for pre-contractual and periodic reporting?
The European Supervisory Authority has provided supporting Annex templates for the pre-contractual and periodic reporting on products which can be found here. These templates outline what needs to be reported for Article 6, 8 and 9 products.
Pre-contractual reporting requirements
The main categories of pre-contractual (prospectus) reporting required for Article 6, 8 and 9 are:
Does this financial product have a sustainable investment objective? Article 9 funds need to outline the minimum investment with an environmental and / or social objective.
What environmental and/or social characteristics are promoted by this financial product? This questions looks at sustainable indicators, sustainable objectives (if applicable for Article 9), and "Do No Significant Harm" objectives.
Does this financial product consider principal adverse impacts on sustainability factors? PAI's must be follow a "comply or explain" approach and be disclosed in the appropriate report (annual or periodic) in line with Article 11 of SFRD (see here).
What investment strategy does this financial product follow? This question looks at which factors guide investment decisions, reducing scope of investments and governance practices.
What is the asset allocation planned for this financial product? Considers taxonomy aligned activities as a share of turn-over, CAPEX or OPEX. Also considers whether the fund invests in taxonomy aligned fossil fuels or nuclear products, social objective alignment.
Is a specific index designated as a reference benchmark to determine whether this financial product is aligned with the environmental and/or social characteristics that it promotes? Looks at the reference benchmarks and the methodology to measure whether the financial product attains the environmental or social characteristics that they promote.
Where can I find more product specific information online?
Periodic reporting requirements
The annex also covers the requirements for Article 8 and 9 periodic reporting, which as you would expect is a reflection on the performance of the fund relative to the pre-contractual goals. As such, there is a fair amount of cross-over between the pre-contractual and periodic reporting. The key categories are outlined below:
Does this financial product have a sustainable investment objective? The same as the pre-contractual requirement.
To what extent were the environmental and/or social characteristics promoted by this financial product met? ? This looks at the performance of the sustainability indicators currently and with the previous periods and how the product achieved it's objectives and avoided doing harm.
How did this financial product consider principal adverse impacts on sustainability factors? A review on integrating the PAIs.
What were the top investments of this financial product? A list of the largest holdings of the fund during the relevant period.
What was the proportion of sustainability-related investments? This questions considers taxonomy aligned activities as a share of turn-over, CAPEX or OPEX. Also considers whether the fund invests in taxonomy aligned fossil fuels or nuclear products, social objective alignment.
What actions have been taken to meet the environmental and/or social characteristics during the reference period?
How did this financial product perform compared to the reference benchmark?
Key data sources needed
So in order to complete your pre-contractual and periodic reporting disclosures correctly you need to find data on the following topics:
Sustainable investment data: SFDR outlines a number of methodologies for aligning portfolio company revenue, opex and capex with environmental and social taxonoies, including using the EU taxonomy, for Article 9 funds.
Sustainable indicators: to demonstrate the Environmental and / or Social characteristics promoted in Article 8 funds.
Do No Significant Harm (DNSH) and Principal Adverse Impacts (PAIs)
Good governance indicators (if applicable)
We'll take a look at each of these in more detail now.
Sustainable investment data (EU taxonomy alignment)
The EU Taxonomy is a classification system laid down in Regulation (EU) 2020/852, establishing a list of environmentally sustainable economic activities. That Regulation does not include a list of socially sustainable economic activities. Sustainable investments with an environmental objective might be aligned with the Taxonomy or not.
The Regulation outlines the following as environmental objectives (in Art 8): (a) climate change mitigation; (b) climate change adaptation; (c) the sustainable use and protection of water and marine resources; (d) the transition to a circular economy; (e) pollution prevention and control; (f) the protection and restoration of biodiversity and ecosystems.
For a fund to be classified as Article 8 or 9, the fund needs to disclose information about the proportion of Taxonomy alignment. The alignment should be expressed as percentage in turnover, capex and opex and also separated per transitional and enabling activities.
Sustainable indicators
Sustainability indicators measure how the environmental or social characteristics promoted by the financial product are attained. It can be beneficial to use a reference benchmark to understand the impact of the fund.
Do No Significant Harm (DNSH)
The EU Taxonomy sets out a “do not significant harm” principle by which Taxonomy-aligned investments should not significantly harm EU Taxonomy objectives and is accompanied by specific EU criteria. The Annex looks at a couple of metrics to measure the DNSH theme:
How are the sustainable investments aligned with the OECD Guidelines for Multinational Enterprises and the UN Guiding Principles on Business and Human Rights?
Principal Adverse Impacts (PAIs)
Principal Adverse Impacts (PAIs)
Principal adverse impacts are the most significant negative impacts of investment decisions on sustainability factors relating to environmental, social and employee matters, respect for human rights, anti‐corruption and anti‐bribery matters.
For each PAI, a fund manager should include the current impact, the impact one year ago, an explanation of the change, and any planned actions to be taken to improve the performance of the metric. The European Supervisory Authority has provided supporting Annex templates for the PAI metrics which can be found here.
14 PAIs for corporate issuers
There are 9 climate metrics (across greenhouse gas emissions, biodiversity, water and waste) and 5 social metrics:
Greenhouse gas emission (scope 1, 2, 3 and total)
Carbon footprint
GHG intensity
Exposure to companies active in the fossil fuel sector
Share of non-renewable energy consumption and production
Energy consumption intensity per high impact climate sector
Activities negatively affecting biodiversity-sensitive areas
Emissions to water
Hazardous waste and radioactive waste ratio
Violations of UN Global Compact principles and Organisation for Economic Cooperation and Development (OECD) Guidelines for Multinational Enterprises
Lack of processes and compliance mechanisms to monitor compliance with UN Global Compact principles and OECD Guidelines for Multinational Enterprises
Unadjusted gender pay gap
Board gender diversity
Exposure to controversial weapons (anti-personnel mines, cluster munitions, chemical weapons and biological weapons)
2 PAIs for sovereign and supranational issuers
GHG intensity
Investee countries subject to social violations
2 PAIs for real estate assets
Exposure to fossil fuels through real estate assets
Exposure to energy-inefficient real estate assets
Additional PAI metrics
There are additional metrics recommended for use which include:
Climate metrics: an additional 16 PAIs for corporate issuers, 1 extra PAI for sovereign and supranational, and 5 for real estate.
Social metrics: an additional 17 PAIs for corporate issuers, 7 extra PAI for sovereign and supranational, and 0 for real estate.
Governance Indicators
Finally, good governance practices look at sound management structures, employee relations, remuneration of staff and tax compliance.
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