Regulatory developments on transition plans applicable to investment managers

Since COP26, regulatory expectations in relation to transition plans have evolved rapidly. The developments form a complex regulatory landscape which investment managers, and their Risk and Compliance functions, will need to navigate.

Broadly speaking, the largest UK investment managers and all UK listed investment managers will be encouraged under guidance contained in Financial Conduct Authority (FCA) rules aligned to the Taskforce for Climate-related Financial Disclosures (TCFD) to disclose aspects of their transition plans in 2023, with the guidance applying to smaller investment managers above an exemption threshold the following year. In-scope firms are encouraged to consider net zero or explain why not.

The UK Government then intends to go further by requiring disclosure on transition plans under the forthcoming Sustainability Disclosure Requirements (SDR). Initial indications are that such transition plans will be expected to align with the economy-wide net zero transition⁶.

At this stage, it is unclear what the supervisory consequences will be if firms fail to have credible net zero plans or fail to meet targets.

Investment managers with operations in other jurisdictions, such as the EU, and to a lesser extent the US, may face similar local rules in relation to the disclosure of transition plans.

Investment managers which have made net zero or low carbon commitments should develop their transition plans and consider their related disclosures. All other investment managers should consider starting this work now to meet FCA guidance, where applicable, and in advance of regulatory deadlines. This will help investment managers to meet increasing stakeholder expectations and position themselves competitively in the market.

Please see Box A for an overview of regulatory developments across key jurisdictions.

Box A: Overview of regulatory developments on transition plans applicable to investment managers

International: The TCFD published guidance⁷ in October 2021 which recommended that certain organisations⁸, which would include UK investment managers, disclose aspects of their transition plans and report on progress against their plans annually.

More recently, the International Sustainability Standards Board (ISSB) consulted in March 2022 on standards for sustainability disclosures⁹, which included proposals on transition plan disclosure in the context of strategy. While there are some differences, these standards broadly reflect TCFD guidance.

EU: The Corporate Sustainability Due Diligence Directive (CSDDD¹⁰) is expected to require in-scope companies to adopt a transition plan, compatible with the Paris Agreement. Under the proposals, the plan should be considered when setting directors’ variable remuneration. The CSDDD goes hand in hand with the Corporate Sustainability Reporting Directive (CSRD¹¹), which is expected to require in-scope companies to make disclosures in relation to their transition plans.

Under the proposals, the CSDDD would apply to companies and to regulated financial undertakings, such as investment firms, AIFMs, UCITS management companies, AIFs and UCITS which meet certain size thresholds. The CSRD is expected to apply to companies which meet certain size thresholds, all companies listed on regulated markets, and to listed small and medium-sized enterprises (SMEs). Both Directives would also apply to non-EU companies which meet certain size thresholds and have an EU presence.

The CSDDD is still subject to negotiation and expected to apply from around 2025. A political agreement has been reached on the CSRD and it is expected to apply on a phased basis: from 1 January 2024 for companies already subject to the Non-Financial Reporting Directive (NFRD); from 1 January 2025 for large companies that are not currently subject to the NFRD; and from 1 January 2026 for listed SMEs, small and non-complex credit institutions and captive insurance undertakings (with an opt-out possible for SMEs for a further two years).

Box A: Overview of regulatory developments on transition plans applicable to investment managers

UK: At COP26 in November 2021, the UK Government announced¹² that the publication of transition plans will become mandatory across the economy. Initially, this has been taken forward via the rollout of TCFD-aligned disclosure requirements. New FCA climate-related disclosure rules became applicable for certain asset managers, life insurers and FCA-regulated pension providers from 1 January 2022¹³.

In relation to transition plans, in-scope firms will be encouraged to take “reasonable” steps to ensure that their entity-level TCFD disclosures are consistent with TCFD transition plan guidance. Where making such disclosures, FCA guidance also encourages firms headquartered, or operating, in a country that has made a commitment to a net zero economy (e.g., the UK) to assess the extent to which they have considered that commitment when developing and disclosing their transition plan. If they have not considered this commitment, they are encouraged to explain why. Some investment managers in scope of these rules may also be subject to climate-related disclosure requirements in their capacity as listed issuers, or entities within a listed issuer group¹⁴.

Moving forward, a Transition Plan Taskforce (TPT), launched in April 2022 by HM Treasury, will consult by the end of 2022 on a sector-neutral framework for private sector transition plans¹⁵. It will then develop sectoral transition plan templates. The work of the TPT is expected to inform and align with work being undertaken by other UK and international groups. For example, the Climate Financial Risk Forum (CFRF) has a working group on the transition to net zero¹⁶ and GFANZ has consulted on recommendations and guidance for financial institutions on net zero transition plans and published accompanying tools and resources¹⁷.

The FCA will draw on the findings of the TPT in implementing the UK’s SDR, which, among other requirements, will require disclosure on transition plans. HM Treasury also expects the ISSB standards to form a core component of the SDR and will create a mechanism to adopt and endorse ISSB-issued standards for use in the UK¹⁸. More broadly, the FCA intends to engage proactively on the design and governance of transition plans¹⁹ and, as more firms publish details of their transition plans, we expect them to be subject to increasing supervisory scrutiny.

Box A: Overview of regulatory developments on transition plans applicable to investment managers

US: In March 2021, the Securities and Exchange Commission (SEC) proposed a rule²⁰ that would enhance and standardise the climate-related disclosures provided by public companies. Where a registrant has adopted a transition plan, it would be expected to disclose a description of the plan, including the relevant metrics and targets used to identify and manage any physical and transition risks. While still at the proposal stage and expected to be subject to legal challenge, the SEC intends the rule to apply on a phased basis from 2023, with first filings in 2024.