The EU Taxonomy came into force as part of the European Green Deal in July 2020 and will affect over 50,000 companies in the European Union due to the future non-financial reporting requirements (CSRD) from 2024. Listed companies in the EU are already required to provide information on the Taxonomy.
Analyzing the Taxonomy eligibility up to the finished report according to the EU Taxonomy requires a structured approach. Even the first step, which seems simple, can be challenging: identifying your own "external" business activities. In addition to product and service-related activities (revenue-generating), internal activities must also be considered in detail (investments and operating expenses). Imagine a globally operating group with various subsidiaries, production sites, and administrative companies - are you really aware of all activities throughout the group?
Therefore, the question arises: How does a company identify its business activities according to the EU Taxonomy requirements? In this article, we will take a closer look at the first step in the disclosure process for the EU Taxonomy requirements.
For a comprehensive overview of the EU Taxonomy reporting process, check out 4 steps to report on the EU Taxonomy.
How to identify your "external" business activities (core activities) for the EU Taxonomy
Identifying your business activities is at the very beginning of the disclosure and compliance process to meet the EU Taxonomy requirements.
To identify the business activities, the first step is to review the entire external product and service portfolio. A possible derivation of the activities can be made from, for example, internal sales reporting or external reporting. Related investments (CapEx) and operating expenses must also be analyzed. In a second step, workshops with the business units serve to validate the assessments that have been made. Validations should be carried out and documented, particularly with regard to the audit of the financial statements. This facilitates the traceability of the process (often the focus of the auditor's inspection; also in the sense of IDW EPS 352).
Consider an automotive supplier that specializes in the manufacture of batteries. Based on the internal reporting, there are two business areas: The production of rechargeable batteries for e-mobility and the production of automotive batteries for combustion vehicles. It is now necessary to analyze to what extent the products in these business areas fall within the scope of the EU Taxonomy and therefore can be considered taxonomy-eligible. However, this is preceded by a sustainable and detailed product portfolio analysis.
How to identify your internal business activities for the EU Taxonomy
However, not only the external core activities but also activities from all internal projects need to be analyzed. While external activities relate to the product or service, purely internal activities in practice often include mobility (e.g., the company's vehicle fleet) and real estate (e.g., investments in non-production buildings).
Such activities are usually not directly related to sales generated by the company but are reflected in the investments (CapEx) and operating expenses (OpEx) associated with them. Learn more about the EU Taxonomy KPIs turnover, CapEx and Opex here.
Let us consider a company in the energy sector. In addition to energy production activities, the company is constructing a new administration building. This building is not directly related to the company's products and therefore has to be considered an internal activity. The investment (CapEx) will have to be further analyzed in the following steps.
Application outside the EU
Parent companies in the European Union - if they fall under the non-financial reporting requirements - must comply with the requirements of the EU Taxonomy at the level of the entire group. This also applies to subsidiaries headquartered outside the EU. Thus, a de facto application obligation also arises for these companies.
An international group based in the EU with subsidiaries in China must also apply the requirements of the regulation to its subsidiaries when analyzing taxonomy-eligible and -aligned economic activities.
Practical tips for identifying business activities
- Instead of determining the necessary KPIs based on the identified business activities, a "backward identification" of the business activities can also be helpful. In this process, the KPIs that need to be reported are examined first and the underlying business activities or economic activities are determined from these (green arrow).
- An additional aid to identifying business activities is provided by the so-called NACE codes. NACE codes serve to classify economic activities by coding them through numbers. However, the EU Commission has emphasized that these are only intended to serve as an orientation.
- ESG reporting software helps to process data and optimize processes. Data forms the basis for transparent and sustainable reporting.
Prospects
The identification of business activities in accordance with the criteria of the EU Taxonomy requires a holistic view of all internal and external activities worldwide. This means that not only the core activities from the product and service portfolio but also internal activities related to mobility and real estate must be taken into account.
In the second step, the identified activities are mapped to the economic activities according to the EU Taxonomy. In the third step, these activities will be checked for Taxonomy alignment.
Currently, there remain a large number of open discussion points between the EU and companies concerning the implementation of the Taxonomy regulation. Therefore, steady development of the current status of the EU Taxonomy is expected for the coming months. For example, from next year, four additional EU environmental objectives will be implemented in the Taxonomy regulation. This will be accompanied by a larger number of business activities, which will further complicate the process of identifying business activities.