Achieving net zero emissions has become a priority in the United Kingdom. As the country aims to become “the world’s first net zero-aligned financial center,” financial institutions are being required to have “a robust firm-level transition plan setting out how they will decarbonize.”

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Plotting a path toward net zero is a serious challenge. Where should financial institutions start?

The state of play

The specific requirements of transition plans remain to be fleshed out. Regulated entities are taking different approaches toward the issue.

“Looking at the annual reports of the big financial firms, there is a spectrum between those that haven’t said anything yet on climate change—who will have a significant jump to make this year—and those that have given it considerable thought,” said Jeremy Irving, head of financial services at law firm Browne Jacobson.

For some, the strategic significance of climate change has been demonstrated by the appointment of senior individuals with responsibility for climate risk. “We’ve seen many organizations appointing a chief sustainability officer (CSO) either reporting to, or sitting as a peer to, the chief risk officer,” Irving said. “For a lot of firms, the strategy is geared around the CSO being effectively the in-house adviser on climate change, acting as an interface with the regulator, monitoring the issues, and explaining their ramifications across the business.”

One major obstacle to developing transition plans is the issue of Scope 3 emissions generated by third parties in a company’s supply chain.

“Banks are struggling to gain visibility when it comes to their investment and lending portfolios,” explained Jessica Camus, chief corporate affairs officer at sustainability reporting software firm Diginex. “They currently have no visibility of the footprints of the companies they are financing or investing in.”

This is particularly concerning, Camus continued, because the CO2 impact within a bank’s supply chain can be more than 80 percent of the bank’s total carbon footprint.

Getting a handle on Scope 3 emissions has been stymied by a lack of understanding among partners within the supply chain. Moreover, the complexity of supply chains—particularly for global organizations—can introduce additional challenges, including the risk of double-counting or the improper recording, circulation, and tracing of carbon-offsetting certificates.

“Organizations focused on the consumer industries generally have a clearer picture of their emissions,” said Camus. “Many sectors, such as extractives, agriculture, and forestry, are only now catching up, although the challenge here is significant given the complexity of these supply chains.”

Small businesses are also behind the curve. A recent poll conducted by O2 and the British Chambers of Commerce found only 11 percent of U.K.-based small- and medium-sized businesses (SMEs) were measuring greenhouse gas emissions annually or more regularly.

“Banks are trying to understand the disclosures, metrics, tools, and approaches they should be using when engaging their SME banking clients in the conversation around setting emissions reductions targets,” said Camus. “But even having that dialogue is difficult because the SMEs often don’t understand what they are supposed to do in order to take responsibility for their own carbon footprints.”

Many banks are therefore viewing their role as one of engagement in the first instance. “Some are taking steps to educate their SME partners around what carbon footprinting is, organizing workshops, or offering an extended range of services and tools to them,” Camus explained. “Others are tying their lending or investment terms to certain performance levels when it comes to CO2, making it a requirement for SMEs to report and outlining the tools they will use to collect that data as part of their due diligence process.”

Although obtaining a clear picture of the climate impact of their investment and lending portfolios represents a considerable challenge for banks, some already view it as an opportunity.

“For financial services to play a role in a more sustainable future, we need to ensure financial institutions are accountable for the impact of their portfolios, and transparency is key to this,” suggested Neil Sellers, head of credit risk at Triodos Bank UK.

This article is an excerpt from the full story by the International Compliance Association. The ICA is a sister company to Compliance Week. Both organizations are under the umbrella of Wilmington plc.

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