Series 6 Episode 8: Sustainability regulation - responding to a complex landscape

Transcript

Tessa Norman: Hi everyone and welcome to this episode of Risk and Regulation Rundown. The regular podcast where we share our views and insights on financial services, risk and regulatory hot topics. Today we're recording our first episode of the new year and we're talking about sustainability regulation. Exploring the revolving landscape in the UK and globally and talking about the impacts on financial services firms and some of the steps that firms can take to prepare for upcoming milestones across key initiatives such as the ISSB Standards. To discuss this topic, I'm delighted to be joined by two of our brilliant expert guests, Director Gemma Jones and Senior Manager Lucas Penfold, both of whom work in PwC's financial services sustainability practice. Thank you very much for joining us. 

Gemma Jones: Thank you so much for having me, delighted to be here. 

Lucas Penfold: Good to be here, thanks, Tessa. 

Tessa: 2024 was a very busy year for political change and that's likely to have an impact on sustainability policy both in the UK and elsewhere. Lucas let's start off by talking about the change of government that we've had in the UK and what that's likely to mean for the sustainability agenda. We know from statements that the government’s already made that sustainable finance is going to be really central to the vision that it set out for the financial services sector. It would be great if you could share some more details for us on what do we know so far about the government’s plans for sustainable finance and to what extent is there a change in direction from the previous government. 

Lucas: Yes, you touched on it there, but I'd start by noting that the new government has very much confirmed its commitment to sustainable finance and positioning the UK as a global leader in sustainable finance.  I think on that basis we're expecting to see an active agenda in this space. I think particularly important that point in the context of the governments' agenda around economic growth and competitiveness and what the Chancellor is trying to do there. Thinking back to the Chancellor's Mansion House speech back in November, Rachel Reeves highlighted that there was a clear growth opportunity for the UK that sustainable finance can create. Whether that's through financing the transition to net zero and the real economy and all the opportunities that creates, job creation opportunities, etc. but also growing the sustainable finance ecosystem within the UK and making the UK an attractive place for different types of financial services firms to develop their sustainability focus business - so, products, services that they're offering to their clients. I think there's rightly a focus on ensuring the right regulatory framework to create the conditions for a successful sustainable finance market in the UK. And on that point around regulation which is always a central pillar to the government and regulator activities in this space, there are a few different things that the new government is committed to. Some of those, to your point, are a continuation of previous commitments that the last Conservative government made, but there are also some new areas as well. 

I guess, for me there are probably four key things that stood out from various announcements that we've seen from this government so far. The first is the continued focus on developing and rolling out what's called the SDR framework, the Sustainability Disclosure Requirements framework. That's economy wide and a bit part of that is adopting the ISSB Standards in a UK context through, just to throw another acronym out there, under the SRS, that's the Sustainability Reporting Standards. Essentially, that's the UK version of the ISSB Standards. That’s a key area that our financial services clients will need to monitor. I think linked to that the government's also committed to introducing a set of mandatory transition plan requirements, again for firms across the economy. Labour has set quite a high bar and quite an ambitious agenda, I would say in the transition planning space committing to 1.5 degrees aligned transition plans, which does go further than anything that we saw the previous Conservative government commit to and quite an important point to highlight there. The third area I'd point out as being a key focus, still an area under consideration is this idea of a UK green taxonomy. We've obviously seen the EU develop a green taxonomy, that's been in play and in a very contentious area in the industry for a few years now. There's long been this idea that the UK would develop its own equivalent version of that. That was something that Labour committed to in its manifesto, but interestingly, I think it was just back in November, certainly recently, the government seems to have reopened that debate. It's issued another consultation basically, going back to first principals in a way to say, 'What's the value case for having a UK green taxonomy?' I know that that's an open consultation where lots of our clients are currently focused on. 

Yes, a bit of a mix of new or adapted initiatives compared to the last government. I guess an entirely new area of focus that Labour has been talking about a little bit is this idea of greening the housing stock and the role that green mortgages can play in supporting that. I think I said there were four areas, I think that was the fourth one. Yes, some clear signals that Labour's ambitions and initiatives in sustainable finance are very much there, but I would say just to answer your question around consistently with the previous government’s approach. I would say it represents a slight elevation on the previous government’s approach to sustainable finance and what was planned there, but not a drastic deviation. 

Tessa: Sure, thanks, that's a helpful overview and a busy agenda for firms to be dealing with and getting their heads around and it'll be great to unpack some of that throughout our conversation. Let's start with the ISSB Standards, which I know a lot of our clients are increasingly thinking about. Can you tell us a bit more about what are the timelines on this from a UK perspective. When can we expect to see those standards making their way into the UK framework? 

Lucas: Yes, sure, and I guess just for our listeners taking a step back. The ISSB Standards are essentially the global standards that were developed off the back of COP26 in 2021 and those standards are intended to create a greater degree of harmonisation in a way that different organisations report on sustainability issues. The ISSB's currently developed two standards. The so called S1 and S2. S1 is the general sustainability standard looking at a range of sustainability issues. Whereas S2 is a specific standard related to climate change, building on some of the TCFD recommendations and TCFD reporting. There are now various processes being driven by governments and regulators globally across different countries to implement the ISSB Standards locally, including in the UK. The UK's established its own process for thinking about how to bring the ISSB on board into the UK framework. In the UK the government's established a Technical Advisory Committee or the TAC, as it's known and really, the remit of the TAC has been to assess the ISSB Standards and provide an opinion on the extent to which the UK should adopt those, and if so, whether or not they're any points of deviation to make it fit for purpose for the UK market. That advice was published in December 2024 and there were some targeted technical amendments I would say to S1 and S2, but broadly speaking the recommendation there was that the UK should adopt the standards with minimal deviation. 

In terms of what's next, some of us have timings to these things, I think the government is due to publish a consultation on the UK adapted ISSB Standards, the SRSs that I mentioned earlier in Q1 2025. That's something we'd expect to see soon. I think we might then expect a final UK standard sometime later in 2025. So Q3 is being talked about, which firms would then be free to use on a voluntary basis to report against the standards in subsequent years, but a bit of an unknown at this point. A bit of an area of uncertainty is how the SRS will become baked into the formal regulatory framework in the UK. The FCA has talked about introducing that and rolling it out for listed companies. I think we'd expect to see some activity from the FCA once the SRS is finalised later this year, but in terms of what this will mean for unlisted financial services firms, I think that there are some questions around how that's going to make its way into the framework. For example, the SDR regime for asset managers, will this become a formal part of that where firms are explicitly required to report against ISSB? But will there be specific provisions in the companies act in the way that we had for TCFD. A few question marks there but that bit is very much TBC. 

Tessa: It sounds like there's certainly some key milestones on that agenda coming up over the year ahead. Gemma, it would be great to bring in some of your insights here. Given that direction of travel that Lucas has set out in terms of the policy and regulatory agenda, what do you see as the key implications for our clients and for financial services firms and what are the key things that they should really be thinking about? 

Gemma: Yes - we talk about it every day and I still every time I hear it have a tremendous amount of empathy for clients who are trying to grapple with what is both an increasingly pervasive regulatory landscape, many of our clients work in multiple jurisdictions and have to deal with many things at once, but also the difference in the timing and there's a lot of uncertainty about when all of these things are going to land. Where we are at the moment is as you've said, at the outset there, clients are starting to ask about ISSB. A lot of our clients at the moment are predominately fixated on the corporate sustainability reporting directives, CSRD which is a European regulation that's coming in. I know you've already talked about that with Lucas and Esther, so I won't go into too much detail on that, but I think it's an important point around for many global financial services firms they have, ISSB, CSRD, they also have SEC and then they have, depending on which other jurisdictions, etc. To Lucas's point earlier, ISSB is fundamentality there to try and act as a global baseline to provide some standardisation and that outset of that agenda of how do you then move transition finance into the right places? I think thematically it's important to understand that that really is fundamentality what we're trying to do. 

We've come from a landscape of it has been very fragmented voluntary reporting frameworks for sustainability, which make it very difficult to understand, 'Where should this money go?' I think that from a strategy perspective is really important to highlight here because what we see with clients is there's a tremendous amount of complexity but actually, stepping up and saying, 'What's the exam question? What are we trying to help people understand?' Because it's the readers and the preparers of these statements that help drive it through. I think ISSB will be very helpful in that and the reason I bring that up is most clients are supportive of adopting it and implementing it. It's how they do it in aggregate with everything else and how then do they leverage the work that's gone on before around where you deal with the specifics of ISSB versus CSRD which is much, much broader. 

Tessa: It'll be helpful as well to get your thoughts on how those two regulations differ because I know there is a little bit of confusion in the market or there can be, but yes, it'll just be helpful to draw that out a bit more, the difference between CSRD and ISSB. 

Gemma: Yes, of course. ISSB as Lucas said is the global baseline and largely being adopted by many jurisdictions. CSRD is European regulation, and it is much more pervasive. It covers the E the S and the G. ISSB in time will, but at the moment it's much more focused on that cross-cutting climate agenda. What I would say from a client's perspective for companies that are dealing with this is thematically whether you're talking about ISSB or whatever, strategically, all these baselines are asking for strategy and policy, delivery models, data, where is it? How quickly can you access it and then how you report it wrapped around that culture and how we incentivise people through your Rem structures, but they're similar enough that thematically you can think like that but they're divergent enough that you can't take for granted that by doing one, you'll have covered the other. There will be some gaps around how you do that which is throwing up some really interesting questions in complications for clients around how do you create the right operating model and infrastructure to be able to pick up the right data points to satisfy each of the requirements and then how you tag that to pull it through. In a short summary, they're both essentially asking you the same thing in a slightly different way, but clearly if you're doing CSRD, please do not take for granted that you have done ISSB. There will be slight differences there and you will need to go through and check that off. 

Tessa: And I think given that complexity that you've both spoken to and the various competing requirements, it would be helpful to get your thoughts on really what is the most effective way for firms to be approaching that, particularly if they're operating in multiple jurisdictions. 

Lucas: Yes, I can offer a few thoughts on that and I'm sure, Gemma, you've been doing a lot of work on this stuff, you'll have views I'm sure as well. I mean, for me, and Gemma touched on it there, I think such an important point given that challenge that firms are facing with implementing different regulations across different jurisdictions, what's the right model to put in place? What's the right operating model for the coping with the breadth of regulations that you need to be implementing but also actually just monitoring those as well. So, finding that optimal operating model that does both of those things, the monitoring and then identifying the impacts on your business, and crucially to Gemma's point earlier, identifying where there are points of overlap between different regulations. So common requirements between the ISSB standards and CSRD and TCFD and the SEC and all the other things that firms are dealing with, common data points that need to be collected and reported but also common processes that need to be put in place to meet those different requirements and I think taking that type of approach is becoming increasingly important because otherwise we're just going to see that firms will find themselves in this constant state of change having to stand up, brand new, bespoke, stand-alone programmes to implement specific regulations rather than dealing with them all in the round and having a flexible model that allows you to respond to new things as they arise. 

Yes, I think for me, now is an important time to just reflect and think about what's the right operating model to put in place to deal with all of this stuff and I think there has been talk of that across the industry in recent years but I think certainly, the best examples I'm seeing firms coping with those different regulations coming at them are where they're starting to think in terms of operating model, but yes, I don't know, Gemma. 

Gemma: Yes. I one-hundred percent agree with all of that and I think what we see is a very difficult market generally at the moment in financial services and I think there is this reactiveness around these different regulations that are coming down the pipeline as Lucas has said and where people get the most value of it is taking a bit of a pause and a step back to say, 'Okay, as my client.' And you might be a smaller firm, a medium sized firm because these things all apply at different levels. They've got lots of different thresholds, that's complicated as well, 'When do I come into scope and why?' Taking the time at that stage to say, 'Let's do a forecast.' Not ten, twenty years because the reality is it's so fluid, we're very much at the start of the evolution of what this is going to look like in the longer term but the next three to five years, where do we think we're in scope? And then thematically, do we understand what we're going to need before we get into the discussions of assigning that accountability and operating model. Which means for me, then you go back each year to do a bit of a health check. For the ones that are coming off the rail this year, have we covered all the requirements? Are we comfortable and can we lean people into this? Otherwise, my concern is that you end up with multiple programmes essentially trying to do very similar things and that will cost you money, resource and it also creates a bit of internal fatigue. 

Tessa: Really helpful advice there for our listeners and interesting your points, Gemma about taking that three to five year view, but if we bring it back to the year ahead and Lucas, you talked about some of the key milestones that we're expecting this year and given we're in January and lots of firms will be doing their planning for the year ahead, it'll be great to finish our discussion with a key takeaway really for the next twelve months that you really think firms should be focusing on in order to get on top of this agenda. Gemma, do you want to go first? 

Gemma: Yes. What would be my top tip? Engage your other teams. I think what we see happening is that there has traditionally been a lot of focus quite rightly from the sustainability team, the risk team and more so now the finance team. As we move into this next evolution you will absolutely need your data teams, your tax teams, your HR teams, everybody in the business to a greater or lesser extent but with a wrap round with that accountability model because when it's everyone's problem, it becomes no one's problem, we know how that plays out, but if you're a sustainability person, lean into your risk person and vice versa and across the piece because as I say you look at all these complexities and you go, 'Oh my goodness, this is just so overwhelming, it's so difficult.' But we can always help inform the future path with past instances. So, I use that in if you take something like an IFRS 17 or any of the other big change programmes, there will be lessons learned there that you can apply to your own business and how then do you integrate what you need to do from a sustainability reporting process with what else is already happening in your organisation. Don't create it in silo, one, because the regulation is denoting that you should not do that. They want to see you integrate it and I think that sometimes gets a bit lost. People feel like they have to be doing something different. Go back to your strategy as a business, what is it we're trying to do with sustainability because the one thing that is important and I think is so valuable from a strategy perspective, from the regulation is it allows you to really lean in with your stakeholders to figure what is material to us because sustainability is a massive topic. 

There is a lot to cover, you cannot do everything at once and what these regulations help you do is really define what's that materiality for this moment in time in the next three years, it will change, which helps you really think about as an organisation, 'Where am I going to lend my resources? Where am I going to align my processes and what do I need to fix for?' Lean into the broader organisation, listen and learn to what's going on before. Clearly sustainability is a different subject but there will absolutely be lessons you can lift from other programmes and try and bring it together as much as you can. 

Tessa: That's a really crucial point there and that could be applied to all sorts of different risks and regulatory change programmes that firms are grappling with. Lucas, what would you add to that? 

Lucas: I'd probably come back to the start of the conversation today around just the volume of new activity in this space. Particularly with the new government here in the UK but globally as well. I think, don't take your eye off the fact that there will be further regulatory change. I think this is a busy year ahead with the implementation of the ISSB Standards, as I say here in the UK but also more broadly. The introduction of transition plan requirements. These are all significant developments and long awaited as well. I think don’t take your eye off that and I guess, linked to the conversation on establishing the right operating model. I think again, at the risk of labouring that point, now is a really pivotal time to get a handle on that and really focus on that and actually, now arguably more than ever, particularly in a world where there's a more complex set of geo-political risks and questions over the direction of travel in the US with the incoming Trump presidency all giving rise to the potential for a more fragmented policy framework. I think it's going to be a busy year and some of the challenges that we've seen in recent years will continue this year. 

Gemma: I know you're trying to wrap up, but can I just say one quick thing based on what Luke has said there? The one thing that does trip most clients up is they move through, whether it be CSRD, ISSB, SEC, is not assigning accountabilities for the subject matter and that sounds simple but who’s accountable for the activity? Not the reporting, the reporting's clear, but the activity and I think we do see time and time again that that's a discussion that people think, 'Well, we'll get to that.' But that would save you a lot of pain further down the line. 

Tessa: Brilliant. Thank you both so much. It's been a fascinating discussion and lots of food for thought there for our listeners and it'll be interesting to see how all this agenda unfolds over the coming months and year and I'm sure it's a topic we'll be returning to. To our listeners, I hope you found our conversation useful and thank you as ever for listening. As always, please subscribe to future episodes and please rate and review this series, as it helps other people to find us. If you'd like to hear more from us on risk and regulation, please look out for our regular publications on our website which we'll link to in the show notes and we'll be back next month with our next episode.