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How ESG Risks are Under More Scrutiny Than Ever

The European Banking Authority (EBA) through its latest proposed Guidelines on the management of ESG risks has acknowledged that climate change, environmental degradation, social issues, and other ESG factors pose “considerable challenges for the economy that impact the financial sector.”


However, the EBA noted that while the proposal calls for more planning and including ESG factors in risk management; “It is also important to bear in mind that the goal of prudential plans is not to force institutions to exit or divest from carbon-intensive sectors but rather to stimulate institutions to proactively reflect on technological, business and behavioral changes driven by the sustainable transition, the risks and opportunities they entail, and prepare or adapt accordingly through structured transition planning, including by engaging with and where needed supporting their clients, notwithstanding other mitigation actions consistent with sound risk management.”


Banks across Europe may have to include ESG risks in their capital requirements and risk management under the proposal from the EBA.


Reference methodologies including materiality assessment, identification and measurement of ESG risks, metrics, and targets over short-, medium- and long-time horizons and milestones, consistency of prudential plans with other processes and communications, review and integration policies and procedures, climate and environmental scenarios and pathways, transition planning, etc.


The EBA’s Draft Guidelines are not yet final. They are still under consultation until 18 April 2024, and the EBA invites feedback from stakeholders. Other details, such as frequencies of the materiality assessment of ESG risks, impact, scopes, and other required actions to be finalized by end-2024.


Proposed data points needed for the identification and measurement of ESG risks:


a. For environmental risks:

  • geographical location of key assets and exposure to environmental hazards (e.g., floods, water stress, soil erosion) at the level of granularity needed for appropriate physical risk analysis,

  • current and forecasted greenhouse gas (GHG) scope 1, 2, and 3 emissions in absolute and/or intensity such as per million-euro revenues or per unit of production,

  • material impacts on the environment, including climate change and biodiversity, and related mitigation or adaptation policies,

  • dependency on fossil fuels, either in terms of economic factor inputs or revenue base,

  • energy and water demand and/or consumption, either in terms of economic factor inputs or revenue base,

  • energy performance certificates and score in kWh/m² for real estate exposures,

  • adherence to voluntary or mandatory climate and environmental reporting,

  • litigation risk including imminent, pending, or completed litigation cases related to environmental issues,

  • forward-looking adaptive capacity, including transition plans prepared by non-financial corporates by Article 19(a) or Article 29(a) of Directive (EU) 2022/2464, where applicable


b. For social and governance risks:

  • compliance with and due diligence on social standards, such as ILO fundamental conventions or World Bank’s Environmental and Social Standards,

  • governance practices,

  • adherence to voluntary or mandatory social and governance reporting,

  • negative impact on local communities, including due diligence policies to prevent that,

  • litigation risks including imminent, pending, or completed litigation cases related to social or governance issues and due diligence policies.

Institutions’ internal procedures should include tools, methodologies, and capabilities to:

  • identify ESG risk drivers and their transmission channels to prudential risk types and financial risk metrics via the institution’s exposures;

  • map exposures and/or portfolios according to ESG risk drivers, and any concentration within or between them,

  • measure and manage material ESG risks including with a forward-looking perspective.


GC Insights: Under the proposed scrutiny, banks will need to start looking at and assessing projects and portfolio companies with an ESG lens. From the proposed data points, we see a trend in enforcing portfolio companies to be assessed with their ESG performance and ESG reporting results that are currently shaped by the EU Corporate Sustainability Reporting Directive – European Sustainability Reporting Standards (CSRD-ESRS), and IFRS-International Sustainability Standards Board (ISSB) among other ESG frameworks. A strong signal from this proposal is that both institutions and their counterparties should be ready for due diligence in ESG risks. We believe the market will benefit from such scrutiny with an ESG risk lens, while more guidelines and frameworks are needed to secure the material impact of such policies.


The EBA’s draft guidelines are expected to have significant implications for businesses or counterparties in the EU and beyond. Contact us here to assess and seek improvements in your ESG risk profiles and get started with transition planning in need to mitigate ESG risks and capture ESG opportunities. GC Insights offers a range of services for this purpose, including:

·      ESG Risk Management, and ESG Due Diligence,

·      ESG Governance Policy Updates, and Corporate ESG Integration Strategy

·      Monthly Global ESG Regulatory Watch, and ESG Topical Research

·      Sustainability External Communication

·      ESG Training, Workshops, and more customized services to improve ESG profiles for businesses

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