Insights
23 November 2022

EU Taxonomy - What your organization needs to know

Ashlyn Anderson

By Ashlyn Anderson

EU Taxonomy - What your organization needs to know

Three years ago, the EU revealed the EU Green Deal, a strategy to make Europe the first climate-neutral continent by 2050. The challenge: decarbonizing all sectors of the economy without compromising economic growth or leaving the most vulnerable behind.

A variety of policy strategies have followed to define the rules, mechanisms, and incentives that are needed to realize the goal of the EU Green Deal–a goal that the continent is legally committed to with the passage of the European Climate Law. In particular, these policies seek to shift public and private sector capital away from activities that detract from the EU’s decarbonization goals and toward sustainable activities and projects.

But the determination of what is “green” or “sustainable” at a given point in time and place is more challenging than one may think. That’s where the EU Taxonomy comes in.

What is the EU Taxonomy?

The EU Taxonomy is a classification system for economic activity. It’s a policy response to the subjectivity of different businesses’ ESG claims and widespread “greenwashing” of activities in the marketplace. The EU Taxonomy lays out criteria for various economic activities that companies under its jurisdiction must follow. By doing so, it seeks to give consumers and investors more confidence about the sustainability of assets, activities, and investments carried out by these organizations.

What makes a business activity sustainable?

For a business activity to be considered sustainable, companies need to be able to provide evidence that it 1) contributes to one of the six environmental objectives of the EU Taxonomy, and 2) does not cause harm to any of the other environmental objectives and respects labor and human rights standards.

The six environmental objectives are:

  1. Climate change mitigation

  2. Climate change adaptation

  3. Sustainable use and protection of water and marine resources

  4. Transition to a circular economy

  5. Pollution prevention and control

  6. Protection and restoration of biodiversity and ecosystems

Alongside the regulation, the EU has published Technical Screening Criteria (TSC) for each of the six environmental objectives. These include definitions and examples of what is meant by each of the six objectives, which will change over time as progress is made towards environmental goals. For example, nuclear and natural gas activities are considered “transitional activities” and therefore could be deemed sustainable at this point in time, provided they meet certain criteria. However as we transition away from these power sources, they are likely to be removed from the definition, forcing companies to rely on greener sources of energy.

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What does the EU Taxonomy mean for ESG disclosures and reporting?

The EU Taxonomy classification system was designed so that companies and financial institutions could more accurately and simply report how their business activities align with the goals of the Green Deal.

The classification system is set up to enable companies and financial institutions to provide key performance indicators (KPIs) that allow for easy interpretation and comparison of their sustainability performance and credentials. For companies, these KPIs are the percentages of turnover, capital expenditures, and operating expenditures in a given year that are aligned with the Taxonomy’s environmental objectives. For financial institutions, KPIs that show the alignment of the underlying activities of their investments with the Taxonomy will be required.

Companies and financial institutions will be required to report their Taxonomy alignment under the Non-Financial Reporting Directive (soon to be replaced by the Corporate Sustainability Reporting Directive) and Sustainable Finance Disclosure Regulation, respectively. However, the Taxonomy will also be used as an underlying framework for the EU Green Bond Standard and EU Ecolabel regulation for financial products. In essence, the EU Taxonomy is foundational to the emerging policies across sectors aimed at achieving the objectives of the Green Deal.

How can EarthScan help companies meet EU Taxonomy requirements?

EarthScan™ helps companies undertake the annual climate risk and vulnerability assessments that the EU Taxonomy requires in order to show that a business activity contributes to environmental objective 2, climate adaptation.

This kind of climate risk assessment is also required for other business activities to ensure that they do not harm climate adaptation objectives. You can read our EU Taxonomy Use Case to see how EarthScan’s capabilities map to the Taxonomy requirements.

At Cervest, we want to ensure that environmental reporting processes aren’t just annual check box routines. We want to embed these insights into companies’ forward-looking strategies. That’s EarthScan’s true value-add. On an ongoing basis, EarthScan can help companies identify physical climate risks and prioritize Taxonomy-aligned climate adaptation solutions in future business cycles.

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