Many UK companies will soon be mandated to make TCFD-aligned disclosures. This follows the Financial Conduct Authority’s (FCA) introduction of the Listing Rules (Disclosure of Climate-Related Financial Information) Instrument in December 2020, which requires companies with a UK premium listing to disclose on a comply-or-explain basis against the Task Force on Climate-related Financial Disclosures (TCFD) recommendations in their annual reports. The FCA and UK Government have held consultations on extending this requirement to standard-listed and large private companies.
To help companies comply with these disclosure requirements, the Financial Reporting Council’s Financial Reporting Lab (the ‘Lab‘) has recently published a ‘TCFD: ahead of mandatory reporting’ report (the ‘Report‘), which provides examples of good disclosure practices by companies that have already voluntarily adopted the TCFD framework. The Report refers to research recently conducted by the Alliance Manchester Business School on the approaches companies have taken to conducting climate-related scenario analysis (the ‘Research‘), which is required in order to comply with the TCFD recommendations. Together, the Report and the Research provide holistic practical advice for companies on making TCFD-aligned disclosures, which is also relevant for non UK based companies who are considering how best to address the TCFD recommendations.
Making TCFD-aligned disclosures
As discussed in our recent blog post, the eleven TCFD recommendations are structured around four thematic areas: Governance, Strategy; Risk Management; and Metrics and Targets. To ensure that companies are able to make TCFD-aligned disclosures, the Report suggests that companies should address the questions set out in the Lab’s Climate Thematic Review, published in November 2020, in relation to each of these thematic areas. For instance, in relation to the ‘Strategy’ thematic area, the Report suggests that companies should address the following questions:
- What opportunities and risks concerning climate-related issues are most relevant to the company’s business model and strategy?
- What does the company look like in the future and how will it continue to generate value?
- What strategy has been put in place to reach Net Zero or other targets, and what operational or capital expenditures are needed to address any necessary business model changes?
- How are the risks and opportunities reflected in the financial statements?
The Report subsequently discusses examples of companies that have already sufficiently addressed these questions in their current disclosure practices. Continuing with the example of the ‘Strategy’ thematic area, the Report demonstrates that companies have addressed the above questions by taking actions including, but not limited to, highlighting the actions and disclosures they will make in the following year in their annual reports, and explaining how their planned actions relate to meeting their greenhouse gas emissions reduction targets. Companies are, therefore, encouraged to familiarise themselves with these examples to ensure that they are well-positioned to make TCFD-aligned disclosures.
Conducting climate-related scenario analysis
Scenario analysis is one of the more challenging aspects of the TCFD framework (as discussed in our Climate Disclosure and Risk Management: Global Approaches report). As mentioned in the Report, companies should also familiarise themselves with the guidance in the Research, which provides a framework to help companies tailor their own processes and approaches to climate-related scenario analysis. In examining the processes through which a selection of companies currently produce scenario analyses, and how these shape their strategic outcomes, four ‘best practice observations’ emerge from the Research:
- Establishing a climate change working group creates the conditions for effective climate governance;
- The outcomes of climate-related scenario analysis are used to shape future iterations;
- Best practice is increasingly sector-specific. The team leading the climate-related scenario analysis should be active in industry-led debates; and
- Companies should use climate-related scenario analysis to develop climate transition strategy and to manage climate risk.
Best-in-class companies are already observing these practices to ensure that the results of their climate-related scenario analyses are reflected in their annual reports, thereby mitigating the risk of non-compliance with the TCFD recommendations.