EU regulatory requirements: debunking misconceptions

At the end of November 2024, the President of the European Commission, Ursula von der Leyen, announced an “omnibus” law whose stated objective is to improve the competitiveness of European companies. However, some of them, particularly the largest ones and some financial players, complain about the risk of being overwhelmed by the new European regulations on sustainability, claiming that they will then no longer be able to fully devote themselves to their economic activities. These voices are echoed in the European Parliament, where some MEPs are taking up these arguments to call for a review of the key texts adopted since 2019 on social, environmental and climate responsibility. This article responds to the main arguments in favour of amending the texts often used to propose their weakening.

Three texts are in their sights.

The Corporate Sustainability Reporting Directive (CSRD). This is the update of an existing transparency directive (the NFRD – Non Financial Reporting Directive) which aims to provide investors and stakeholders with reliable and comparable data on the extra-financial performance of companies. The directive could provide essential information on the impacts of companies’ activities as well as on their exposure to risks related to climate change and environmental changes.
The Corporate Sustainability Due Diligence Directive (CSDDD). This directive supports economic stakeholders in aligning their business strategy with the objectives defined by European laws on the protection of human rights and the environment. Companies present in the European Market will be accountable for the actions they commit for the projects they carry out (such as land expropriations or river pollution, for example). It is also up to these players to publish and implement a transition plan showing the transformation of their activities with the aim of reducing greenhouse gas emissions and limiting global warming.
The taxonomy. This system of classification of so-called “sustainable” activities, necessary for achieving European environmental and climate objectives, aims in particular to provide increased transparency on the origin of income and the allocation of companies’ investments. Thanks to the implementation of the taxonomy, and despite the many flaws it may contain (1), investors can redirect their investments towards these activities and contribute to meeting the massive financing needs.

1st misconception: these new rules are harmful to the competitiveness of European companies

Wrong, these rules strengthen long-term competitiveness

The European Commission’s impact assessment on the CSDDD is very clear: the directive strengthens the competitiveness of European companies. It states that studies “demonstrate a positive correlation between companies paying attention to their stakeholders’ interests, sustainability risks, impacts and opportunities and their financial performance.” (2) Companies that take their due diligence duty seriously in terms of human rights, the environment and climate also benefit from better risk management, avoiding supply chain disruptions and raw material shortages. Added to these benefits are the significant reputational gains for companies.

The national laws on the due diligence duty in force also prove the positive contributions of the regulatory framework and its low cost. The impact assessment study of the law at supply chain level estimates the costs of compliance between 0.005% and 0.1% of turnover, these costs decreasing with the size of the company (3). In addition, these regulations bring competitive advantages in the medium and long term that are much higher than the initial costs (4).

In reality, both the CSDDD and the CSRD offer a “first mover” advantage. They position European companies at the forefront of sustainable and responsible practices, allowing them to respond more effectively to the growing expectations of consumers and financial stakeholders who need transparency to make informed choices.

Moreover, these texts follow the recommendations of international agencies such as the IMF and repeated requests from investors. They also provide the information needed to meet the growing financial supervision requirements aimed at taking climate-related risks into account. By adopting these regulations, the European Union is positioning itself as a leader in sustainable finance, anticipating a trend that will inevitably become established on a global scale in the long term. These regulations relating to sustainable finance are also based on recognized international standards such as the recommendations of the Task Force on Climate Related Financial Disclosures (TCFD) or the OECD standards.

The European Commissioner for Climate, Carbon Neutrality and Clean Growth, Wopke Hoekstra, reminded us of this in a recent interview: “Many companies are asking for predictability and staying the course rather than changing the rules of the game simply because they cannot cope” [..] “One of the main criticisms of business is, stop changing course every half year”. He finally recalls the need for a vision of the transition in the medium and long terms and calls for moving away from short-term thinking: “heavy industry have very long investment cycles, sometimes decades ahead, and you are then not helped by politicians who are in the habit of constantly changing their minds.” (5).

It is therefore necessary to recall that competitiveness is not measured solely in the short term. In recent weeks, many economic and financial players have spoken out in favour of European regulations, particularly by emphasising their need for visibility and stability. (6) In this context where the importance of sustainability issues is growing, companies that have been able to anticipate these changes and adapt their business models will be best positioned to succeed. The CSRD and CSDDD directives are therefore not obstacles, but rather aids to help transform the European economy towards a more sustainable model and, ultimately, ensure European competitiveness.

Misconception 2: The requirements are disproportionate and create excessive bureaucracy

Wrong, the requirements are proportionate and necessary

The challenged EU directives were designed with a significant degree of flexibility and proportionate requirements, aiming to balance the need for increased transparency with the capabilities of businesses.

The CSRD, for example, incorporates a materiality-based approach, allowing companies to focus on the aspects most relevant to their business and their stakeholders. This approach should avoid an overload of information considered by the company as “non-essential” and is thus supposed to allow an efficient allocation of resources. In addition, some indicators are voluntary, offering companies additional leeway in their reporting. In concrete terms, these adjustments allow companies to provide only a limited part of the information contained in the texts. Fears of “excessive bureaucracy” have therefore been taken into account by making entire parts of the texts optional. This flexibility has already been given to the detriment of extra-financial transparency and the comparability of the different reports.

Furthermore, contrary to the assertions of the Vice-President of the European Commission Stéphane Séjourné, there is no “multiplication” of transition plans between the CSRD and the CSDDD (6). Article 22 of the CSDDD clearly states that if a company already publishes its transition plan in accordance with the CSRD, it does not have to produce another one. This fear of “duplication” was therefore taken into account when drafting the texts and is no longer valid today.

It is also necessary to emphasize that these reporting requirements respond to a growing market demand. Investors, regulators and consumers have long demanded more detailed and standardized information on the extra-financial performance of companies, data that is essential for assessing risks, making informed investment decisions and monitoring progress towards a more sustainable economy. Groups are also joining forces in the press to denounce the unraveling of these texts (7).

This so-called “bureaucracy” is therefore in reality a structured framework, necessary to compare actors with each other, which allows companies and financial actors to better understand and manage their environmental and social impacts. This deeper understanding can lead to better risk management, innovation and improved financial performance in the long term. The long-term benefits of these regulations – both for companies and for society as a whole – far outweigh the initial costs of compliance.

3rd misconception: These regulations are unsuitable for SMEs

Wrong, specific adaptations are planned and the overwhelming majority of companies are not subject to the regulations

The fears of an overload effect on SMEs are not new, they have already been the subject of numerous debates and amendments during the development of the texts. Today, the texts therefore take into account the specific challenges faced by small and medium-sized enterprises.

The CSRD has been the subject of extensive discussions regarding its application to SMEs. Significant adaptations have been made to take into account their limited resources and capacities. Thus, only the few listed SMEs are subject to the CSRD reporting obligation. And, even in this case, they are subject to considerable flexibility: they can postpone their first reporting to 2029 upon simple justification, and will benefit from a simplified standard currently being developed by the EFRAG (European Financial Reporting Advisory Group).

In addition, European standards only require value chain data for parent companies if it is available. A SME that is a member of a group will therefore only have to provide the information it has at its disposal. The only mandatory data requested from SMEs through the parent company is scope 3 emissions. This reporting will therefore be done at the level of the parent companies, the information on scope 3 will only go up the value chain.

For the 99.8% of European companies that are unlisted SMEs (8), CSRD reporting therefore remains voluntary and is based on a lighter standard. This approach aims to encourage transparency without imposing a “burden” on these companies whose resources are limited, while allowing them to meet the expectations of consumers and investors.

For the CSDDD, the application thresholds are so high that it only concerns the largest companies. At the end of a gradual implementation, only 5,400 companies would be concerned by 2029, a figure to be put into perspective with the 32 million companies active in the EU, or less than 0.02% of companies active in the European Union.

The regulations in question were thus designed with the constant concern of balancing the requirements of transparency and sustainability with the operational realities of companies of all sizes. They establish a progressive and flexible framework, allowing SMEs to adapt while remaining competitive in a market where ESG criteria are taking an increasingly important place. It should be noted that thanks to the publication of new extra-financial information, small and medium-sized companies that wish to do so will be able to access new financing reserved for companies said to be committed to ESG.

4th misconception: Companies are not ready for these changes, they need more time

Wrong, companies have had time to prepare

The texts, negotiated between 2019 and 2024, include application dates that are far apart and progressive so that stakeholders have time to prepare. European companies have thus benefited from sufficient time to adapt to comply. The voices being raised today are admissions of weakness by stakeholders who have not taken the time at their disposal or deployed the necessary resources to make the changes in their business strategy necessary to comply.

Others have already made this transition for several years, particularly at the request of financial players who are demanding more detailed and standardized information on sustainability issues. This growing demand from investors has thus pushed many companies to anticipate regulatory changes, already investing significant financial and human resources to improve their extra-financial reporting practices.

Moreover, these regulations are in reality the logical and expected evolution of existing frameworks. The CSRD, for example, is only the update of the 2014 directive on non-financial reporting (NFRD). The latter was put in place at a time when sustainability issues were much less taken into account. The Paris Climate Agreement had not even been discussed yet. To align European objectives (in particular those of the climate law) and companies’ reporting practices, it was therefore necessary and logical to update this directive.

The gradual and graduated implementation of texts such as the CSRD or the CSDDD therefore offers additional flexibility, allowing companies to adjust their internal processes in a phased manner. This approach takes into account differences in size and capacities between companies, with requirements adapted for SMEs (see previous point).

European companies should therefore be ready to make these changes: they have had time to prepare for them thanks to a gradual implementation of the texts and, for many, already complied with the previous transparency directive. The reporting efforts are in no way new, they are largely an update and an evolution of practices.

The main arguments in favour of rolling back the European texts related to sustainable finance are largely misleading. The rules do not need to be changed for the European Union to be competitive, on the contrary: the regulatory uncertainty – created by the legislative changes while the texts have entered into force – pushes economic and financial actors into a situation of uncertainty that is not desirable. European Commissioner Hoekstra says so himself, even though he belongs to one of the political families that mainly wants to roll back these texts.

The omnibus legislative proposal is part of a dynamic of revision of the texts to prioritize “competitiveness” to the detriment of a strategy aimed at decarbonizing the economic and financial sector by aligning it with a path compatible with the commitments of the Paris Agreement and financing the sustainable activities that Europe needs to achieve its own objectives. However, due to its many flaws and its philosophy based on transparency to guide financial economic flows, the current regulatory framework is insufficient for the EU to fully finance the Green Deal and the transition in Europe. Revising the texts downwards would accentuate the problem. It will therefore be necessary to be ambitious on the next texts relating to sustainable finance, in particular by adding financing exclusions for the most harmful activities for the climate (on ESG or SFDR texts) or by applying the CSDDD to financial services.

Notes:

The taxonomy, for example, classifies fossil gas as a “transition energy.” A major problem at a time when the IEA indicates that no new gas projects can be implemented to stay on a trajectory aligned with the objectives of the Paris Agreement to limit global warming to 1.5°C.
Impact Assessment Study by the European Commission, 52022SC0042 – EN – EUR-Lex: « demonstrate a positive correlation between companies paying attention to their stakeholders’ interests, sustainability risks, impacts and opportunities and their financial performance. »
« For medium-sized companies and listed SMEs, these costs amount to about 0.09 to 0.10% of their revenue, and for midcaps, large and very large companies to about 0.004 to 0.006% », European Commission, CSDDD Impact Assessment Report, 23/02/2022.
« As in the mid to long-term, corporate benefits are expected to outweigh costs (in terms of efficiency gains, more resilience, better financial performance through innovation, etc.) and possibly also lead to first mover advantages in global markets (including securing access to resources, technology, secure market shares in global markets and gain economies of scale vis-à-vis later market entrants), the cumulative impact of these benefits is expected to lead to competitiveness gains for the economy in the mid to longer term. », Ibid.
From Politico, on December 11th, 2024: ““Many companies are asking for predictability and staying the course rather than changing the rules of the game simply because they cannot cope,” he said in an interview on Monday afternoon. “One of the main criticisms of business is, stop changing course every half year,” he added. “Particularly heavy industry have very long investment cycles, sometimes decades ahead, and you are then not helped by politicians who are in the habit of constantly changing their minds.””
Les Echos, Stéphane Séjourné : « Nous allons lancer un choc de simplification de la réglementation européenne », 9 décembre 2024.
See also:
The European Investment Bank recalls that, “In Europe, the 23 million small businesses represent 99.8% of non-financial businesses”, Petites et moyennes entreprises – Tour d’horizon 2021