The idiom “Put your money where your mouth is” is a call to put noble intentions into practice. When talking about the European Union’s climate targets, we should now take this idiom even more literally. Money must be invested into the topics on everyone’s lips: climate and environmental protection.

The EU has set itself ambitious climate targets with the Green Deal as part of the European Climate Pact. It wants to be the world’s first climate-neutral industrial region by 2050. However, this won’t happen without considerable effort by governments and companies alike, including financial institutions. That’s why the EU’s motto from now on is: talk must be followed by action.

The European Green Deal Investment Plan aims to mobilise public investment and unlock private funds through EU financial instruments, enabling at least 1 trillion euros of investment in sustainable change.

To ensure that this money is invested in line with the European Climate Pact, the EU Commission has proposed to establish regulations and definitions as part of its Sustainable Finance Action Plan. But what constitutes a sustainable investment? After all, sustainability or sustainable development don’t have a generally accepted definition. This is how the EU Taxonomy came about, which was adopted in 2020.

What is the EU Taxonomy?

The taxonomy is an EU classification system for sustainable economic activities. It’s used to classify which financial products and investments actually contribute to achieving environmental goals such as climate protection and therefore may be considered sustainable. It forms a regulatory framework and includes six environmental objectives in addition to social aspects (see below). This catalogue was drawn up by the Technical Expert Group for Sustainable Finance (TEG).

The EU Taxonomy is the first uniform standard that enables economic parties to drive sustainable development and the transformation to low-carbon, resilient and sustainable businesses in line with the European Green Deal. The benefits are crystal clear: it creates a collective understanding of which economic activities are considered environmentally sustainable across the EU, rewards investment in sustainable activities with greater visibility and helps to prevent greenwashing.

The first directives of the EU Taxonomy will come into force by the end of 2021; all others during the course of 2022. The industry is certainly under pressure!

Who Does the EU Taxonomy Affect?

The EU Taxonomy Regulation requires both financial institutions and non-financial companies that have to submit a declaration in accordance with the Non-Financial Reporting Directive (NFRD) to provide evidence of the sustainability of their investments in the areas of agriculture, production, energy, mobility, communications or even real estate. In the buildings sector, a distinction is made between investments in new buildings, renovations and the acquisition of existing buildings.

What Are the Criteria Used by the EU Taxonomy?

The taxonomy regulations include social aspects as well as six very specific environmental objectives:

1. The sustainable use and protection of water and marine resources
2. The transition to a circular economy
3. Pollution prevention and control
4. The protection and restoration of biodiversity and ecosystems
5. Climate change mitigation
6. Climate change adaptation

The latter two points are currently the most crucial. This is also reflected in the fact that proof of whether or not a financial or non-financial company complies with the guidelines will be required by January 2022. Natural disasters in the recent past, such as heavy rain and floods or heatwaves and fires, have made it abundantly clear how important risk mitigation and resilience can be in relation to the dramatic consequences of climate change.

To comply with the EU taxonomy, companies must:

• Contribute substantially to one or more of the six environmental objectives (see above).
• Do no significant harm to the other environmental objectives.
• Meet minimum social safeguard standards.

How Exactly Is it Measured?

Companies must show the extent to which their financial ratios comply with the criteria of the taxonomy. The result is stated as a percentage of total sales or total revenue derived from the corresponding economic activities.

The first step in this process is to identify activities that are eligible for screening, such as building construction. Once the revenue for each of the activities is identified, the eligible activities are screened against the technical screening criteria. Screening is based on metrics and thresholds.

You want to know how to put Sustainable Finance, Strategy & Management into practice? Talk to our experts!

Industry-Specific Criticism of the EU Taxonomy

However, this is precisely where critics still see problems, as not all the necessary data is always available. Depending on the situation, the effort required for verification can be extremely high. This was the result concluded by a study conducted by the German Sustainable Building Council - DGNB e.V. together with partners from Denmark, Austria and Spain. 

Of 62 real estate projects, only one was able to demonstrate full taxonomy compliance. “While more than half in new construction were more than two-thirds compliant, this figure for acquisition and ownership was less than 15 percent”, according to the report on the study.

The “Climate Change Mitigation” criterion was what especially caused problems. In terms of content requirements, the “Climate Change Adaptation” criterion was the most difficult to meet across all buildings. After conducting a reality check, experts are now calling for the EU Commission to make improvements, particularly when it comes to formulating individual criteria.

Want to know more about the EU Taxonomy and the opportunities and challenges of sustainable finance? Then get in touch! Arrange a meeting with our experts now at Expo Real 2021 from 11-13th October in Munich!

Why You Should Urgently Deal with the EU Taxonomy

Sustainability is becoming an essential success factor for companies. There’s an urgent need to create transparency about investments in projects and economic activities that have a positive impact on the climate and environment - for investors and companies alike. The EU Taxonomy is not simply a necessary evil; it can generate real competitive advantages to forward-looking companies.

• Compliance: The EU Taxonomy will be mandatory for many European companies as part of the EU’s sustainability strategy. Anyone offering financial products or who is covered by the NFRD must comply with this obligation.
• Reputation and risk management: The taxonomy can provide clarity and protect against greenwashing accusations. Once a company discloses its alignment with the screening criteria, it provides detailed insights into its actual environmental impact and the sustainable performance of its economic activities.
• Access to fresh money: Those who meet the requirements of the EU Taxonomy provide visibility and transparency. This attracts investors who are serious about sustainability and transformation and desire to have a positive impact on the environment.
• Assessing and communicating the sustainable impact of your company’s actions: By assessing economic activities against the taxonomy’s best practice benchmarks, companies gain a better understanding of how sustainable their actions really are and what impact they’re having. This assessment enables them to compare themselves with the best and see where there’s even more optimisation potential.
• Resilience capability: The key to future-proofing a company is resilience. Having documented evidence of your readiness to adapt and change, or measures that are already in place, helps to mitigate a degree of uncertainty. This can increase the overall value of the company.

Although your first instinct may always be a desire for fewer regulations, in the case of the EU Taxonomy we recommend you quickly move past this and throw yourself into the topic.