The SBTi’s standard aims to clarify the target for net zero emissions, whilst the Common Ground Taxonomy indicates China-EU cooperation on sustainable finance issues.
By Paul A. Davies, Michael D. Green, and James Bee
Last month, the Science Based Targets initiative (SBTi) launched its Net Zero Standard, which aims to provide a globally recognised, science-based target for companies that wish to commit to net zero emissions, to ensure consistency in approach and avoid accusations of greenwashing.
Shortly after the SBTi announcement, the EU and China took a step towards further consolidation of ESG-related standards by agreeing to set out the extent to which their visions for defining green investments are aligned. The Common Ground Taxonomy-Climate Change Mitigation (CGT) builds on the EU Green Taxonomy and Chinese Green Bond Catalogue, and marks the culmination of two years’ work by the International Platform on Sustainable Finance (IPSF), a forum for dialogue between policymakers from numerous countries, with the aim of increasing the amount of private capital channelled into sustainable investments.
What Is the Net Zero Standard?
The Net Zero Standard seeks to provide companies that wish to commit to net zero emissions an opportunity to demonstrate the scientific legitimacy of their targets to investors and the wider public. The Net Zero Standard was developed alongside an independent Expert Advisory Group of the SBTi, which was composed of participants from academia, civil society, science, and business and sought to provide input from these various perspectives on what a universal standard should look like.
Companies adopting the Net Zero Standard will be required to set near-term targets (i.e., the next five to 10 years) and long-term targets (i.e., over 10 years but before 2050), which will align them with the goal of halving global emissions by 2030 and achieving 90% to 95% total emissions reductions by 2050. Notably, the Net Zero Standard covers Scope 1, 2, and 3 emissions, although given the limited influence that a company may have over its Scope 3 emissions, the SBTi “recognises the challenges” involved in including Scope 3 targets as part of any standard and has introduced slightly different rules with respect to Scope 3 on that basis.
The Requirements of the Net Zero Standard
Near-term targets must cover at least 95% of company-wide Scope 1 and Scope 2 emissions. For companies in which Scope 3 emissions amount to at least 40% of the company’s total emissions, at least 67% of Scope 3 emissions must also be included in any near-term target. Companies must also seek to align near-term targets for Scopes 1 and 2 with a below 1.5°C ambition (i.e., keep the earth’s temperature at below 1.5°C higher than pre-industrial times), whereas near-term targets for Scope 3 may be aligned to a “well below 2°C” pathway instead.
Long-term targets must cover at least 95% of a company’s Scope 1 and 2 emissions, but must also cover at least 90% of their Scope 3 emissions. Notably, this Scope 3 requirement applies to all companies (not just those with a minimum percentage of Scope 3 emissions) and must also be aligned with a 1.5°C pathway. The SBTi acknowledges that this will be “challenging” for companies, but is developing plans to provide further support to corporates through a specific follow-on project to be undertaken by the Expert Advisory Group in 2022 in relation to Scope 3 emissions, as well as through a Supplier Engagement Toolkit that will be released this year. Stakeholders will be interested to monitor what comes of the work of the Expert Advisory Group, as Scope 3 emissions will prove to be difficult, especially given that the SBTi has noted that carbon offsets can only be applied to 5% to 10% of a company’s emissions if its target is to be aligned with the Net Zero Standard.
The SBTi has previously introduced specific pathways and guidance for certain sectors, including the power generation sector and the forestry, land use, and agriculture sector. Whilst the “cross-sector” pathway, which is applicable to all companies not in sectors provided with their own bespoke pathway, requires targets to be set on an absolute emissions reduction basis, certain sector pathways permit, or even encourage, intensity-based targets. Notably, oil and gas companies cannot currently have targets verified under the Net Zero Standard, but must wait until an oil and gas sector pathway (which is in development) is released.
The SBTi announced that seven companies have already set targets that are in alignment with the Net Zero Standard. Other companies will not be able to obtain validation for their targets until 2022, but they are now at least (with certain exceptions) in a position to understand what the requirements are likely to involve.
The SBTi also released a consultation document in relation to a Net Zero Standard for financial institutions, recognising the importance that financial entities will play in the transition process and the differing requirements for targets that such institutions will have.
Common Ground Taxonomy
In July 2020, the IPSF initiated a Working Group on taxonomies that aims to assess the existing environmentally sustainable taxonomies and identify commonalities and differences. The announcement of the CGT four months later was the first step of the efforts of the Working Group, covering criteria on climate change, but not yet covering other environmental objectives.
Whilst the CGT is not a legal document obliging the EU or China to change their domestic taxonomies, or a single overarching taxonomy with universal application, it does provide a helpful methodology for comparing the requirements for sustainable investments in each jurisdiction. The IPSF encourages interested parties to use the CGT as a voluntary reference point when engaging in the EU and Chinese markets.
The most notable aspect of the CGT is that it indicates cooperation on sustainable finance issues between the EU and China, which will be of particular interest to companies with operations in both jurisdictions. Interested stakeholders will also be keen to observe whether the collaborative process will expand to include more environmental areas or compare other jurisdictions, or whether the CGT will become a stand-alone work product.
Both the CGT and the Net Zero Standard are, in their own ways, clear steps towards consolidating standards in this space, much in the same way the announcement of the International Sustainability Standards Board signalled consolidation in the ESG disclosures space. This development, which Latham highlighted in ESG in 2021: 10 Things to Look Out For, is unsurprising and clearly indicative of the global ESG market maturing in response to investor demands.
Latham & Watkins will continue to monitor developments in this area.