In March 2022, the Securities and Exchange Commission, or SEC, released its proposed rule, The Enhancement and Standardization of Climate-Related Disclosures for Investors.
Voluntary environmental disclosures have become increasingly common as part of reporting to investors. In fact, many businesses are already reporting on their environmental impact as part of formalized Environmental Social and Governance (ESG) programs that follow frameworks like the Task Force on Climate-Related Financial Disclosures, or TCFD.
Others though, may only be starting out in building an ESG program and are unfamiliar with the TCFD framework.
In this article, we take a high-level look at what the TCFD is, how it works, who it applies to and what to consider when building a TCFD-compliant ESG program to ensure your company is providing the highest-possible quality data to investors.
What is the TCFD?
The TCFD was formed by the Financial Stability Board to develop recommendations around climate-related financial disclosures. The need for these recommendations was identified by G20 Finance Ministers and Central Bank Governors.
Specifically, the goal of the TCFD’s recommendations is to form the basis of a framework that:
- Promotes more informed investment, credit, and insurance underwriting decisions
- Enables investor stakeholders to better understand the presence of carbon-related assets in the financial sector
- Identifies the financial sector’s exposure to climate-related risks
Overall, the TCFD aims to facilitate effective disclosure from reporting companies to investors. While ESG reporting in the past has often been a relatively DIY process, standards and frameworks like TCFD aim to make sure that the data reported is presented in a way that is meaningful to investors and consistent across businesses.
How Does the TCFD Work?
The TCFD’s recommendations and standards aim to provide guidance to all businesses, while also providing sector-specific support. This sector-specific support is divided into two groups:
- Financial Sector Industries
- Banks
- Insurance Companies
- Asset Managers
- Asset Owners
- Non-Financial Groups
- Energy
- Transportation
- Materials and Buildings
- Agriculture, Food, and Forest Products
The non-financial sectors have been specifically identified as accounting for the largest proportion of global GHG emissions, energy usage, and water usage.
The guidance documents include a wide variety of TFCD disclosure examples for both financial and non-financial reporting companies, as well as step by step assistance to help businesses ensure their climate-related risk management processes are fully integrated with the company’s larger operational and management practices.
What are the TCFD’s Recommendations?
First published in 2017, the TCFD made recommendations under four pillars:
- Governance
- Strategy
- Risk Management
- Metrics & Targets
Governance
While ESG reporting standards all include a governance portion, the TCFD’s framework has two specific recommended disclosures. Reporting companies are asked to describe both board oversight of and management’s role in assessment and management of climate-related risks and opportunities.
Strategy
The TCFD aims to provide future-focused disclosures. A simple “state-of-the-environment” report is not sufficient. As a result, under the Strategy pillar, the recommended disclosures ask companies to describe:
- Identified climate-related risks and opportunities over the short, medium, and long term
- Potential impacts of climate-related risks and opportunities for business, strategy, and financial planning
- The overall resilience of their business strategy to a number of different climate scenarios, including limiting global warming to 2°C or lower
Risk Management
This pillar is heavily focused on processes, and in particular how a reporting organization identifies, assesses and manages climate-related risks. The disclosure also asks businesses to describe how these processes are integrated into the organization’s overall risk management, highlighting how ESG reporting and climate-related financial disclosures cannot exist in a silo within the company.
Metrics & Targets
Many organizations, when they think of climate or ESG reporting, often jump straight to metrics and targets, rather than providing a more holistic picture. While the TCFD’s recommendations aim to remedy that, the final pillar does require numerical disclosures, including:
- The metrics used to assess climate risks and opportunities, and how those are in line with the organization’s strategies and risk management processes
- Scopes 1, 2, and (as needed) 3 greenhouse gas emissions and related risks
- The targets used to manage climate risks and opportunities, as well as performance against these documented targets
What are TCFD’s Principles for Effective Disclosure?
Climate and ESG reporting is an evolving field, with new sectors and companies implementing reporting programs and frameworks every year. The TCFD understands that no standard is a one-size-fits-all solution and so along with its recommendations and guidance documents has also published principles for effective disclosure, to ensure high-quality data reporting over time.
These principles are:
- Principle 1: Disclosures should present relevant information
- Principle 2: Disclosures should be specific and complete
- Principle 3: Disclosures should be clear, balanced, and understandable
- Principle 4: Disclosures should be consistent over time
- Principle 5: Disclosures should be comparable among organizations within a sector, industry or portfolio
- Principle 6: Disclosures should be reliable, verifiable, and objective
- Principle 7: Disclosures should be provided on a timely basis
Companies pursuing TCFD implementation should make sure their reporting follows these principles from the beginning to give investors the confidence they need to make good financial decisions.
Are There Other ESG Reporting Frameworks?
While many companies choose to follow the TCFD framework and recommendation because of its focus on providing consistent and useful data to the financial industry, it is not the only standard available. New ESG frameworks are being published regularly, while others are being revised and consolidated to help provide a harmonized view of the impacts of business on climate change and the world at large.
If you’re looking for information on other ESG frameworks, read our article: An Introduction to ESG Reporting Frameworks.
