FRC publishes a thematic review of mandatory climate-related financial disclosures by AIM-listed and large private companies

Today, the Financial Reporting Council (FRC) (the independent regulator for auditors, accountants and actuaries in the UK) published a thematic review of climate-related financial disclosures produced by AIM-listed and large private companies. The review focuses on mandatory climate-related financial disclosures (CFD) reporting required under s414C, s414CA and s414CB of the Companies Act 2006 (the Act), in force for accounting periods starting on or after 6 April 2022 onwards. It follows on from the FRC’s annual review of corporate reporting, published in September, and should prove invaluable for in-scope companies currently preparing their 2024 annual report and accounts (ARA). 

To prepare its report, the FRC reviewed 20 in-scope AIM and private companies’ reporting against the CFD requirements set out in the Act, taking a “proportionate approach” that recognises that preparers will continue to develop reporting approaches over time. The report includes the FRC’s key expectations for CFD reporting; suggested areas of improvement; examples of good practice reporting (with helpful commentary to illustrate why the reporting is indicative of good practice, and commentary on issues that reporting entities should avoid); and additional commentary on points such as the location of disclosures and the FRC’s approach to engagement with companies. 

The FRC’s key expectations (described as such and set out on page 27 of the report) are that in-scope entities should:

• Provide all the disclosures required by the Act in the ARA (and not in a separate ESG report). 
• Present an entity-specific analysis of the resilience of the business model and strategy, taking into consideration different climate-related scenarios. This can be prepared on either a qualitative or quantitative basis. 
• Describe their targets and the key performance indicators (KPIs) used to measure progress against them.
• Explain, where material and relevant, the financial statement effect of strategies introduced to manage climate-related risks and opportunities. 
• Ensure that disclosures are clear, concise and entity-specific.

Areas of improvement were identified for most companies reviewed by the FRC and include the following:

• Scenario analysis is acknowledged as a challenging area. However, the FRC notes that several companies failed to provide any analysis and that others provided disclosures that were not sufficiently company-specific. 
• Disclosures in relation to climate-related targets, and the assessment of progress against these targets using KPIs, require improvement. 
• Governance disclosures were sometimes unstructured and spread throughout the ARA, without adequate signposting or cross-referencing. 
• Some companies failed to explain the way in which climate-related risks and opportunities were identified. 
• While climate-related risks were disclosed by most companies, opportunities were not always identified, and applicable timeframes were not always described.
• Some companies chose to base their disclosures on the TCFD framework. However, “a number of these companies failed to present one or more of the disclosures required by the Act”. The FRC notes that good practice when using the TCFD framework is to note that the disclosures have been presented to meet the CFD requirements, and to provide cross-references to disclosures relevant for compliance with the Act. 
• Some companies presented CFD information outside of the ARA, which does not comply with the requirements of the Act. The FRC notes that some of the companies surveyed would have been able to meet more CFD requirements had they replicated some of this information in their ARAs.

Good practice points raised include:

• Governance: good disclosures explain the extent of the integration of climate governance processes with the company’s overall governance process and may include supporting diagrams to illustrate governance arrangements in respect of climate change.
• Risk management: good disclosures clarify the method used to determine whether a risk or opportunity is significant (‘principal’) to the business, and focus on a limited number of the most significant climate-related risks and opportunities to allow for more concise disclosures. If a climate-related risk is included as a principal risk under s414C(2)(b) of the Act, companies should use clear cross-references to reduce duplication in their reporting.
• Strategy: good disclosures clearly and concisely document the specific effects of identified risks and opportunities on the business model. For scenario analysis, good disclosures should be company specific and may use diagrams to convey the effect and likelihood of events occurring within each scenario. 
• Targets: good examples of greenhouse gas (GHG) emission reduction targets disclosures specify the base year, the scope and boundary of GHG emissions, the timescale for their achievement and whether they include global emissions from overseas operations or subsidiaries. 

In addition:

• The FRC reminds preparers that good disclosures do not have to be long or complex; better disclosures were generally more concise and often conveyed information using tables or diagrams. The report reiterates the FRC’s four ‘Cs’ of effective communication (Company specific, Clear, concise and understandable, Clutter free and relevant, and Comparable). 
• The FRC notes that it expects CFD reporting to improve and “will take that into account in our future correspondence with companies”. In relation to its engagement with companies, the FRC notes that it asks companies a substantive question “only when it appears that there is, or may be, a material breach of the relevant reporting requirements”. 
• Approach to the non-binding BEIS guidance on CFD reporting: the FRC notes that it does not “necessarily expect entities to provide all the information [the guidance] suggests; however, it is a useful tool that can aid entities in preparing disclosures that are compliant with the Act”.
• CFD preparers are encouraged to consider the FRC’s previous guidance on consistency and connectivity with the financial statements (as set out in previous thematic TCFD reviews)[1][2], but the FRC notes that this point has not been considered in detail in its review. 
• Scope of disclosures: the FRC notes that good practice examples identify the parts of the group on which the disclosures focus and clearly explain the companies the disclosures cover. 

[1]CRR Thematic review of climate-related metrics and targets

[2]FRC TCFD disclosures and climate in the financial statements_July 2022