The EU, Sustainability Regulations, and the Green Deal

Hello and welcome to Transforming Tomorrow from Appentment Centre for Sustainability in Business. I'm Paul Turner. And I'm Professor James Bevington. We're all aboard the European omnibus this week. What impact is all the change in how EU businesses report on sustainability having on climate goals, investor confidence and on businesses themselves? Can regulation ever be a good thing, John? Of course it can. And decent businesses like and need decent regulation. For one thing, regulation deals with public goods. So things that that won't be generated in any other way. But also it gives a standard set of expectations. So everyone can adhere to those expectations and then compete on other aspects of it. But of course regulation is contested as well. Lots of people would like less. Is it not just red tape and hoops for you to jump through as an organisation and lots of problems stopping you doing what you'd like to be doing? Well, given that you've not been harmed at work or not been harmed when you've consumed products. Mentally every week for one hour I am harmed. But I don't think there's anything that HR can do about that. No, there isn't. So I think when people say they don't like regulation, they don't realise how much of it keeps them safe at work, keeps them safe on transport, keeps them safe when they buy products etc. It is a common gripe, isn't it? When you hear people say this is just too much red tape to go through and governments get blamed and previously in this country the EU got blamed. And anyone and everyone will get blamed for imposing rules that you view as pointless. But you're saying maybe they actually stop us getting run over by a bus if we choose that. Yes, but there's also the cases that sometimes regulations poorly designed and needs to be worked on and developed and taken forward. So in that respect it's, you know, it's not a yes or no, but it's a, I suppose I don't live on the camp that we need loads more. I don't live on the camp that we need none. And it's that that Goldilocks home, which is really hard to get right, which is the right amount for the right targets implemented in a way that's, that's your effect of. I'd like to see that version of Goldilocks where after trying the porridge and going on the seats and lying down in the bed, Goldilocks tries to find just the right amount of regulation. I can feel something coming up. Yes. A new film. I don't think it's going to make much money at the box office, but that's where you want to go. That's fine. So the way we're talking about this today, because we're joined by a guest who is going to be discussing with us various examples of regulation, corporate governance, how it ties in with sustainability, how it ties in with the EU, which is that, and how it ties in with politics as well. Excellent. So who we got? We're joined today by Professor Andreas Rache, who is from the Copenhagen Business School Centre for Sustainability. Sounds like a nice organisation, Jan? It's a fabulous one. I know I know the cent well, and I know Andreas and some of his colleagues, well, they're really smart crew. Of course you're going to say that. He's sat on the other end of the line waiting to speak to us. You're not going to say I know them well and they're horrible. That's true. But I'm also telling the truth. That's fine. Leave me alone. Andreas, welcome to the show. Thank you very much indeed. It's a big pleasure to be with both of you here. Can you tell us a little bit to start with Andreas about yourself and how your work touches on issues of sustainability? As you just mentioned, I'm a professor at Prok-Media Business School. I'm in native German, I must say, I'm not a day. And I moved actually to Denmark from England. I was at warwick business school before. And my work is quite a bit on sustainability regulations. I used to do quite a bit of work on voluntary standards, these things that you sign up to, because you want to enter into voluntary commitments like the UN Global Compact, for instance, or certification initiatives. And then recently I switched more towards the hard law, the legally binding side of things, because this has been an area where we see more and more action by governments, in particular, of course. And a lot of our conversation is going to be about the EU today, which I really like, because the EU has been quite an innovator, particularly in corporate regulation and around sustainability. But also, it's been a site of contestation over the last 12, 18 months as well. So maybe we could start out with you explaining to our listeners how does the EU regulate corporate activity with regard to sustainability outcomes? That's a really good question to start, because I mean, the EU does a lot of things when it comes to sustainability regulation. And sometimes it's perceived as being too much, as you rightly say, so it's good to kind of start with what is the logic behind? Of course, the logic behind it is to try to level the playing field, right? You also said it in the beginning, trying to provide consistency throughout the union. You need to recall, we have 27 different countries here. They all are very different. They need to be somehow aligned and ordered also to function as a single market, because that is the underlying idea of the EU. So this is the basic ambition. The EU has different tools for that. The listeners might be familiar with the words directives and regulations. It's important to distinguish between both directives are kind of when the EU sets a framework and basically leaves then implementation to the different member space. Regulations would be if the EU directly regulates whatever is happening in the member space. So these are two different tools. In the sustainability domain, we see both of them being used. And I think it is important to distinguish between them. I think a lot of the regulatory efforts around sustainability, they started actually quite early than in a lot of the other regions. I would say 2013, 2014 was a year of a quite important year. This was when the so-called non-financial reporting directive. So this was a directive that came into force. That was the first legislation around sustainability reporting by the EU. And then in 2019, couple of years later, Ursula von der Leyen came into office and she announced the Green Deal. And the Green Deal in 2019 was a really big thing for the EU, because it was the first time that they really put out a strategic framework, kind of an umbrella for different regulations around sustainability with the overarching goal to make Europe climate neutral by 2050. So this is how the EU approaches it. And this is the umbrella under which all of this is happening. I'm not saying we're fitting into stereo types here, but I think even those who don't like the EU very much, and they'd probably use this as an example in fact, would say that the EU is very good when it comes to directives frameworks and regulations, and that that's where Europe needs to wait for regulating things. So it shouldn't really be a big surprise therefore that the EU has got a lot of structures in this world. And I think that single market point becomes really important as well, because if you want a market to operate well, you need common standards. And then that diversity of approaches also has to then somehow be brought into the frame. Because one of the things that really strikes me and this might come out in the later conversation is that if we're thinking about due diligence and corporate supply chains, member states have rules about that. And what the EU might want to do is to try to standardize those rules. So it's the same rules if you're a US company and you're operating in Denmark and Norway which is associated with some of the rules and in Sweden and in Germany that you're facing the same rules. So there's also this rule making also has an efficiency element to it and a commonality of standards for people who are outside of the block but wanting to operate in that market. I'm having some kind of nightmarish flashback to 10, 11 years ago when all of these discussions were going on during the Brexit talks. So we're going to not mention Brexit. I don't really talk, I've a whole episode about the EU without talking about Brexit. Because a lot of the points that those who were in favour of Brexit were making is the fact that yes, the EU does want to standardize and impose as they would phrase it, rules upon nations within it, removing their sovereignty as a result. Yeah, although you can regulate whatever you like, but they might also be super. Yes, but then their point would be, but then what's the point of us being able to do it? If they're going to have super rules, they're going to have a conversation. We can have a whole 10-year-long discussion about it. There's a lot there, a lot of interesting points that you're making about how this might work and the benefits, and they said the 27 member states that are there and how this affects each and every one of them. So let's leave Brexit aside, Andrew, please be gentle with us, that was still scarred. Can you tell us then something about the formulation of the EU sustainability regulations? And particularly looking after the Green Deal, so we know we've got the non-financial reporting director from 2013, 2019, the Green Deal. What happened next in this area? And that is indeed a very, very. good question. I mean, you really put out big ambitions with a with a great deal. I remember that Ursula Pongaline in her speech, she kind of called it the Europe's man on the moon moment because she said this, these are ambitions here that we are having and in that sense, she framed it that way. It was a number of different regulations that came out and I think maybe before I start to to kind of briefly introducing them, I should say, one of the reasons that a lot of the corporate sustainability regulations came out was that you needed to raise money. They needed to raise money for the green deal because when the green deal came out and you know when when they said we want to be climate neutral by 2050, this of course, it's not for free, right? I mean with somebody in the paper and EU government said, well, you know, we cannot put the bill on ourselves. So we need we need private private actors to actually reallocate capital into clean sectors. What you need for that is you need investors, you need transparency on markets, you need comparability of information and all of this required a different system. So in 2020, the first regulation came out. This was the so-called taxonomy, the environmental taxonomy. This is basically a classification system for environmental activities, which tells investors, you know, how many other companies activities are kind of sustainable or not sustainable. Then in 21, actually the so-called SFDR, the sustainable finance disclosure regulation came because the EU said, if we want people like you and me, if we want them to buy sustainable funds to invest their money into sustainable funds, the people have a right to know what's in these funds. Because up to this point, there was admittedly quite a bit of greenwashing out there. You were buying ESG funds and you know, you had big oil and gas companies listed in these funds. So there was a lack of transparency, there was greenwashing there. So the EU said through the SFDR, we tried to provide transparency and in order for people really to understand what is in these what is in these financial product. And then in 22 came the successor regulation for the NFRD. So on the reporting side again, the so-called CSRD, and I know it's a lot of abbreviation and I don't blame anyone for not kind of getting. You'll be tested on this at the end. I'll put it in the show notes as well, what these abbreviations are, so that people can follow along, but yes, CSRD, it just rolls off for time. Yeah, you say so. It rolls off the time indeed. So it stands for corporate sustainability reporting directive. And as indicated, this is the successor to the NFRD. And that was Europe's first attempt really to standardize sustainability reporting, also in the sense that they put out a common standard with indicators behind them. And the standard is called ESRS, sorry, another abbreviation, the European sustainability reporting standards ESRS. And they are regulated under the CSRD. So in that sense, what Europe hoped to do was let's standardize sustainability reporting and let's do it on a pretty large scale. So under the original CSRD in 2022, you had roughly 47,000 European companies plus another 10,000 non-European companies being in scope because the EU said if you sell on our markets and if you sell to a significant extent on our markets, you will also need to report according to the framework. Then in 2024 came the last corporate sustainability regulation, the so-called CSRD, last abbreviation for today. And this stands for the corporate sustainability due diligence directive. And this actually has not much to do with reporting. It basically are companies to identify risk, identify human rights risk, identify environmental rights risk in their own operations and along their value chains. So that was kind of the thinking that if we want companies to improve their practices, we cannot just rely on reporting. They also really need to improve substantively their practices. And in order for this to happen, they need to identify the risk. For these four, the taxonomy, the SFDR, the CSRD and the CSRD, I would say they form a system. And the system evolved since 2019 when the Green Deal was announced. And we were all academic researchers looking at this, seeking to understand it. And then the world blew up and we got some political pushbacks. So can you talk us through that process? And ultimately where we end up from that. And here we're going to use Omnibus. That'll come into the number 25, number 25. And it's an Omnibus. Omnibus shambles as well. So this became politically contentious, all of a sudden. It became all of a sudden politically contentious indeed. And that was actually not that much of a surprise. We saw the first signs of political parties discussing the potential rollback of these regulations in late 2023. And then we had European elections in 2024. The parliament was swinging more towards the conservative side. Ursula von the Line. She got her second term as the commission president. And right after she was voted into office, actually, she announced that there will be a big simplification move. And the EU, I must say, uses the word simplification in this context. And simplification, we may have means here, the reduction of burden, burden defined as compliance costs and the reduction of complexity of the underlying regulations. So this in itself, I think you discussed it in the beginning is actually quite good, right? I mean, who can disagree with reducing burden or who doesn't want to reduce compliance costs? So this agenda in the beginning actually was also perceived as quite a good thing, actually. Unfortunately, the European commission, they never really defined what they mean by simplification precisely. So it left kind of the politicians with quite a bit of freedom to define precise initiatives under this umbrella. In the end, you said, a gen, they defined so called omnibus packages. And let me say something about the word omnibus here, because an omnibus, obviously it's not about, is illegal vehicle. It's illegal vehicle to amend multiple regulations at the same time. And this is done for efficiency reasons. You don't need to open up each file individually. You basically bundle them into a process and hand you kind of, yeah, let them all step on an omnibus. So to say, kind of metaphorically speaking. And what we will be discussing in a moment was the so called omnibus one, which simplified the reporting legislation, the CSRD, the due diligence regulation, the CS Triple D, the taxonomy, and also the European carbon border adjustment mechanism. So all of this was bundled into omnibus one. And until today, the European Commission has actually put out 10 different omnibus packages in very different areas. Sustainability is just one of them agriculture, defend chemicals, and so on. So this is the background for everything that has happened mostly in 2024. I don't know if the carbon border adjustment mechanism has an acronym, but it should be because C-BAM. That's good. That's a good acronym. It seems that for an organisation, it creates acronyms like the European Commission and the EU do a route of notes. That's definitely one they should have gone for. It does indeed. So rather than looking at it blow by blow, because certainly we're following it on the media, blow by blow, in general terms, what has the omnibus resulted in with regard to these regulations and directives that we've been talking about? I mean, there was quite a bit of changes, significant changes, and I think that's why it also has been so much in the media. And before I briefly outlined the changes, let me maybe say, I mean, there was a lot of back and forth, a lot of pushback also, not just from within the EU. You know, I mean, of course, political party significantly disagreed. The conservatives like kind of the simplification, the other political blocks, particularly the social democrats and the Greens, they kind of challenge that. But a lot of pushback also came from outside. It was the US, the Trump administration, that pushed heavy pressure on the EU in the trade negotiations to actually scale down these regulations. And I think that's something that often goes unnoted, but the US actually was what the key actor here. So what did they do in the end? Well, one of the key changes was that the scope of the reporting directives, so the CSRD and the due diligence directive, was reduced very significantly. So the scope of the reporting directive was reduced by 19%, 90. In other words, they We extended 42,000 companies in Europe from sustainability reporting. And of course, that got people really angry because people said, I mean, come on, we just actually adopted this directive. And now you're telling us that we need to redo things. And for many that sent the message, okay, sustainability, suddenly is only something called the giant firms for the really big companies because they remained in scope. So the midsize firms were out mostly firms below 1,000 employees on the reporting side and below 5,000 employees on the due diligence side, they were kind of put out. What also was very contested was that the omnibus led to delete it, the so-called climate transition plans under the due diligence directive. Under the due diligence directive companies actually had an obligation to implement climate transition plans. This was completely deleted. However, what the legislators retained was that companies still need to report on these plans. So now also lots of legal scholars are saying, hold on, we are supposed to report on something for which we don't have an obligation to implement it anymore. So strictly speaking, that opens up a significant area or significant space for greenwashing risk because companies don't have these kind of implementation obligation anymore. So this is quite a lot being discussed in these days. And then the third quite important change was that they introduced so-called value chain caps. The EU was quite concerned with the fact that small companies might say a lot of disclosure requests by their bigger kind of buyer companies. And I must say rightly so, right? I mean, this is a problem and if you are a small company and you continuously receive information requests that can become quite burdensome. So they limited that on both the due diligence and the reporting side. So I think these were probably the main issues that were discussed and that they were agreed upon just before Christmas. So Andreas, if you've got 42,000 companies that have been excluded, if you've got regulations which require you to report on your transitions but not to actually do anything with regards to transitions. And if you've got small firms not included in order to not burden them with too many requirements in it, are these revised reproaches going to be fit for purpose? Are they going to be effective? Paul, depends on how you define purpose, I would say. So I think if the purpose is to keep these things on the agenda, I think these regulations are still fit for purpose, right? They keep these things on the agenda, the legal obligation is still there. And let's remember, before the due diligence directive, we had no legal obligation at all. So now we have it in a very reduced way. So in a sense, that's something good. So I would not claim and I do not kind of support those who kind of say, you know, the green deal is dead and the green deal has been abandoned. I think the green deal has been weakened in some selected parks and it also has been reframed a lot. The EU these days talks a lot about competitiveness and ensuring that companies are competitive. So in that sense, I think we need to accept, you know, that the purpose of these regulations might still exist if we define the purpose on a very based level, but of course, you do not have scale anymore and that's, I think, the biggest change. I've got a couple of questions which are very much aligned to what Paul just asked. For some companies who are out of scope now, but were in the scope before and had done the work in order to be able to provide information on these elements, are some of those companies carrying on anyway, even though it's not now a formal regulation. And I know from your background, looking at voluntary things, you know, some voluntary things are actually quite well adhered to. So are we seeing firms doing this that don't have to? Definitely we do. I think we will see a new paradigm emerging and I would call this smart compliance, compliance that is not legal compliance, but compliance that is also not purely voluntary, but that kind of responds to changing market expectations because a lot of these 42,000 companies that have been exempted, of course, they cannot simply stop reporting and they have to provide data because their banks are asking for this information, their investors are asking for this information, their business partners are asking for this information. So in a sense, these changing market realities, they push companies into voluntary reporting, the big challenge gen that I'm seeing is that we might see a more fragmented reporting approach because obviously if you report voluntarily, it's up to you to choose a standard. And the companies might not choose the European standards, but they are free to choose any other standard as well, they could also go, for instance, to the global reporting initiative and report according to their standards. So that will be a challenge in the future. And you've answered at least part of my second question, which is the capital allocation question because people aren't, well, they might be reporting for making sense and being accountable to themselves where they might be reporting so people might start to admire them as responsible companies, etc. But at the core of us, reporting is to inform capital market participants as to what they would like to buy and what kind of risk they're buying. And if you're a bank, who would you like to lend money to and what risk is associated with it? So I'm going to circle round to the sustainable, to the SFDR, which is where there was requirement that if you say you're investing in sustainability use, you have to provide information about that. Is that survived the omnibus? And will that capital allocation with banks and investors still keep some of these expectations alive? Yes, I think that has survived the omnibus. The SFDR is being simplified at the moment outside of the omnibus. So this is this separate process. But here I'm afraid actually the process is really more constructive on the the the the legislator there, they really try to improve the system, make it more workable. And definitely, I mean, you, you, you have, of course, still a situation where, at least in Europe, the demand for sustainable investing product is high. If you look at all sustainable fund efforts in the world, 85% of them are in Europe. A lot of people don't know this. A lot of people always think this is an American agenda, it's not. It's not at all, and particularly not since Mr Trump came into office last last January. So in that sense, this is something where Europe still needs a good deal of legislation also to build up trust trust on the client side that those people who buy these funds really can be sure that sustainability also is on the pump, right? And it's not just an anti promise. And I think also, especially given our previous guest, that while the US has no intention of following this framework, other parts of the world are, and particularly asian countries, you know, Thailand, Malaysia, et cetera. So if you like the carryover of the institutional innovation and doing it this way is aimed at, is coming to the fore in different parts of the world, I'd say. I don't know if that's an accurate thing to say, but you're no better than me. Well, it's definitely, it's definitely accurate. I mean, I think last time I counted, I counted around 40 different countries in the world that have sustainability taxonomies. That's a lot. You know, I mean, we often see this as a European agenda, we kind of say our Europe is just doing an isolated thing. No, no, no, no. I mean, this is also other countries are acting on this China in particular. They have released their reporting standards earlier this month, this month. So in that sense, a lot is happening also in other parts of the world, markets are changing. And I think Europe needs to be careful to not kind of change from being a rule maker to becoming a rule taker. And you know what I'm trying to say is European companies might, at some point, basically accept the rules that are written elsewhere in the world. But there are used to reality where Europe was writing these rules. And there is a nice literature which basically calls this the Brussels effect. Right? So the effect that Brussels regulate beyond just Europe. 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Who may indeed have a view on whether or not they were going to have to report under CSRD and who may no longer have to report under CSRD. Until then, thank you very much for listening and it's goodbye from me, Paul Turner.