This is a guest article written by the team at Kara. Kara helps venture capital investors and technology companies streamline their climate disclosures and ESG reporting needs.
As we kick off this year 2024, Sustainable Finance Disclosures Regulation (SFDR) reporting for 2023 sustainability data is here. For many investors, this will be the first time they report on their portfolio companies and/or their firms under SFDR requirements.
Here are some key takeaways about SFDR for venture capital investors:
SFDR is a European regulation standardizing ESG disclosures in finance, aiming to increase transparency and prevent greenwashing.
It is part of a series of regulations designed to encourage and regulate sustainable investing. SFDR seeks to ensure consistent sustainability reporting and aid informed investment decisions.
While SFDR is called the “Sustainable Finance Disclosures Regulation,” SFDR makes disclosures mandatory for all firms, whether the firm has sustainability-related investments or not.
SFDR applies to all financial market participants (FMPs) and financial advisors based in and/or marketed in the EU. FMPs are defined as:
While the SFDR is from the EU, it applies beyond its borders to any international firm marketing to EU-based investors. While European investors have been the first ones to adopt SFDR, all other investors have to become compliant if they want to access European capital.
SFDR includes standards that apply to both a firm (entity-level disclosures) and its funds (financial product disclosures).
Here is what is required at the entity level.
Entity-level disclosures help clients and potential clients understand how the firm approaches ESG. All VC firms need to report on their entity-level disclosures, including:
FMPs with fewer than 500 employees do not need to comply with the entity-level PAI statement requirement, but they need to explain why they are not complying.
Firms should report these entity-level disclosures on their website and in any marketing materials.
Next, firms must examine each investment product and determine the required disclosures. The first step is to categorize their funds according to the SFDR classifications.
SFDR lays out three fund categories and requires different disclosures for each.
Once the firm has established which article applies to each of their funds, it can review the corresponding reporting requirements. Each article has pre-contractual and periodic disclosure reporting requirements.
These include marketing or sales materials linked to the fund that are shared with potential investors. The goal is to ensure that potential investors are fully informed about the sustainability aspects of a financial product before making investment decisions.
These include annual reporting that must be completed by June 30 annually and include the previous calendar year’s details. The goal is to provide ongoing information on how the product's environmental or social characteristics are being met or how its sustainable investment objectives are being achieved over time.
Funds covered under Article 6 have limited reporting obligations. Under Article 6, the firm needs to disclose the following:
- A description of how ESG risks are integrated into investment decisions
- The results of an assessment of the impact of ESG risks on the financial returns of the fund
- If ESG risks are not considered, an explanation as to why, as well as the corresponding statement
- If ESG risks are considered, how and when ESG is taken into account, including related policies and practices
Article 6 periodic reporting (annual reporting included on website disclosures)
- If ESG risks are not considered, a corresponding statement
- If ESG risks are considered, how and when ESG is taken into account, including related policies and practices
- A description of how ESG risks are integrated into investment decisions
- The results of an assessment of the impact of ESG risks on the financial returns of the fund
- A description of how the environmental and social characteristics the fund promotes are met
- If the fund relies on an index as a benchmark, an explanation of whether and how the benchmark index is consistent with these environmental and social characteristics, and a reference to the index calculation methodology
- Information on the EU Taxonomy environmental objectives the fund seeks to meet, if any
- A description of how the fund investments qualify as environmentally sustainable under the EU Taxonomy and the percentage of investments that qualify, if any
Article 8 periodic reporting (annual reporting included on website disclosures)
- A description of how the environmental and social characteristics of the fund promotes are met
- Information on the EU Taxonomy environmental objectives the fund seeks to meet
- A description of how the fund investments qualify as environmentally sustainable under the EU Taxonomy, and the percentage of investments that qualify, if any
- A description of how ESG risks are integrated into investment decisions
- The results of an assessment of the impact of ESG risks on the financial returns of the fund
- If the fund relies on an index as a benchmark, an explanation of how the index is aligned with the fund’s sustainable investment objective, how the index differs from a broad market index, and a reference to the index calculation methodology
- If the fund does not rely on an index, an explanation of how the sustainable investment objective is achieved
- Information on the EU Taxonomy environmental objectives the fund seeks to meet
- A description of how the fund investments qualify as environmentally sustainable under the EU Taxonomy, and the percentage of investments that qualify
Article 9 periodic reporting (annual reporting included on website disclosures)
- A statement on how the fund considers and incorporates both mandatory and voluntary PAIs
- The overall sustainability impact of the fund, with reference to relevant sustainability indicators
- If the fund relies on an index as a benchmark, a comparison of how the fund and the index’s overall sustainability impacts, with reference to relevant sustainability indicators
- Information on the EU Taxonomy environmental objectives the fund seeks to meet
- A description of how the fund investments qualify as environmentally sustainable under the EU Taxonomy, and the percentage of investments that qualify
Firms that must report on required and voluntary PAIs can use Kara to collect the underlying data from each portfolio company and automatically generate a PAI statement
Firms will need to report the required disclosures for the calendar year 2023 by June 30, 2024
Kara helps firms manage their SFDR disclosure requirements. Yearly reporting and disclosures can be onerous - Kara makes it easy with indicator selection, seamless portfolio communication, and data collection.
The platform is designed to match your funds with the correct article, collect PAI data from portfolio companies and create disclosures for precontractual and website location. Reach out to us to learn more.
1/ Define: Kara will find and match a set of indicators for data collection to match SFDR’s periodic requirements. You can add more indicators that are relevant to your firm, or that are required by some of your LPs.
2/ Connect with companies: upload one or two contacts per company in order to collect relevant SFDR data from portfolio companies.
3/ Collect and measure: Once the above are in place, let Kara do its magic! The platform collects data through smart surveys and API integrations directly connected to the systems of record of companies saving time and resources.
4/ Share: automatically generate disclosures and custom reports that are ready to be published.
If you have any questions about how the regulation applies to your firm, our experts are available to help!
Sign up for a demo of the platform today: https://www.joinkara.com/contact
Legal disclosure: This blog is not a substitute for legal advice. The data outlined here applies to firms with less than 500 employees. We encourage all firms that fall under SFDR to read the legislation in its entirety.
