If you’re an investor looking to conduct a fully-compliant carbon footprint, there’s a confusing array of standards and regulations that aim to specify the right processes for carbon accounting and the right metrics to report.

Despite this proliferation, there remains only one standard properly tailored to the unique carbon accounting requirements of investors. The iCI/ERM standard, published in 2022, provides solid answers to the challenges investors face as they look to properly represent the impact of portfolio companies. Seedling's portfolio carbon accounting product – SeedlingInvest – is built on the iCI/ERM methodology, which solves previously unanswered questions:

• How should an investor account for portfolio emissions, particularly if some companies don’t yet report emissions data?
• How exactly should those portfolio emissions be attributed to a private equity / venture capital investor?

In this article, we dive into the guidance and regulations that govern carbon accounting for investors.

Standards vs regulations

Before we start, let's make a quick distinction:

• ‍Standards are best-practise guides for collecting, representing, and interpreting data. This guidance, if properly followed by all, enables the sustainability disclosures of different companies to be compared on a like-for-like basis by investors. Standards are typically developed by voluntary working groups / academics.
• Regulations set out the disclosures companies are legally required to make. They are typically higher-level in their brief vs. standards, leaning on standards to provide the detail (for example, the exact means of calculating a required reporting metric). Despite the stated aim of regulators and governments for globally comparable emissions reporting, rules often differ between jurisdictions, creating friction for reporting companies and investors.  

Carbon accounting standards

The GHG Protocol (all businesses)

The GHG Protocol is really the “master” standard from which all other carbon accounting standards are derived. Developed and maintained by the World Resource Institute, it has established the dominant global framework for any organisation to measure and manage their greenhouse gas emissions, used by at least 90% of publicly listed businesses. Other general standards (such as ISO 14064) are designed to be interchangeable with the GHG Protocol, while industry-specific standards (such as PCAF and iCI) use the GHG Protocol’s principles as a base from which to provide more detail and guidance.

The GHG Protocol provides an uncontroversial process for GPs to account for their internal, operational emissions, but leaves too many questions unanswered to provide a standardised process for portfolio emission accounting. For example, where an investor holds a majority stake in a portfolio company, it’s unclear whether this company should be counted as part of the firm’s own operations (thus overlapping with their own Scope 1 and 2 emissions), or as an investment (falling purely under the Scope 3.15 “Investments” category).

PCAF (financial institutions)

The Partnership for Carbon Accounting Financials (PCAF) provides more detailed guidance to the financial services industry. Created in 2015 by Dutch financial institutions, it has been adopted globally across financial services since 2019, providing a harmonised standard for the carbon accounting of loans and investments in general.

PCAF’s standard is fully-aligned to the GHG Protocol, and has been approved as such by the GHG Protocol itself. It builds on the master standard by:

• Outlining new principles – in addition to those of the GHG Protocol – that govern how financial institutions should measure and categorise portfolio emissions.
• Providing detail on how a financial institution should attribute the emissions of its portfolio to its own footprint.
• Introducing a hierarchy of data quality for portfolio emissions, enabling financial institutions to develop a strategy for improving data quality over time.

In addition, it contains detailed methodological guidance for seven specific asset classes, one of which is “Business loans and unlisted equity” – covering the VC and PE sector. This addresses some of the quirks of VC and PE carbon accounting directly, providing a strong basis for the measurement of portfolio company emissions.

iCI/ERM (private equity and venture capital)

Published in 2022, the iCI/ERM standard is the only one with a sole focus on VC and PE investors. Its key contribution is that it draws on both the GHG Protocol and the PCAF standards to provide an integrated methodology for accounting and reporting on both internal (or operational) emissions and portfolio emissions. It is also framed entirely in the language of the VC and PE world and settles some important nuances for investors, such as:

• The need or desire to report at different levels (portfolio company, fund, firm).
• The influence of LPs and how LPs can calculate their own financed emissions.
• The nature of the fund lifecycle (e.g. dealing with hold periods).

Emissions disclosure regulations

The UK

Now - PSA 21/24 (TCFD imposed by the FCA)

The Taskforce on Climate-related Financial Disclosures (TCFD) was set up by the Financial Stability Board (a body responsible for mitigating risks to global financial stability) in 2015. The TCFD was launched in response to demand from investors and governments for standardised information on how companies and financial institutions were helping to tackle the climate crisis.

Although initially a voluntary standard, the TCFD's recommendations have been rapidly adopted by regulators as a framework for mandatory disclosure, including in the UK. The FCA's PS21/24 requirements came into force on 1 January 2022, requiring the largest UK-domiciled asset managers (£50bn+ in AuM) to report in line with the TCFD by June 2023, extending to smaller managers (£5bn+ AuM) by June 2024. Although most firms are unlikely to meet the £5bn threshold for mandatory reporting, some have begun to report on a voluntary basis in response to investor demand.

The TCFD covers sustainability reporting broadly and distinguishes four categories or 'pillars' of disclosure requirements: 'Governance', 'Strategy', 'Risk management', and 'Metrics and Targets.' The latter sets out emissions reporting requirements for investors, the focus of this article. Managers are required to produce both an “entity” and “product” (i.e. fund) level report, the latter being made available to any “client” of the fund (which for PE can be read as LPs). Both require disclosure of greenhouse gas emissions (scopes 1, 2 and 3) and other key metrics including weighted average carbon intensity (WACI).

The role of the iCI/ERM standard is to provide investors with a detailed methodology for calculating key reporting metrics such as WACI. The SeedlingInvest calculation engine automates portfolio reporting for you, using the iCI/ERM framework to attribute financed emissions and generate the required KPIs.

The future - IFRS S1 / S2 and the UK's SRS

In November 2021 at COP26 in Glasgow, the International Financial Reporting Standards (IFRS) Foundation (the body responsible for global reporting standards), announced the creation of the International Sustainability Standards Board (ISSB). The ISSB was asked by regulators and investors to use its experience to enhance and ultimately replace the work of the TCFD. The TCFD was disbanded in October 2023, and the ISSB is now leading the effort to create a rigorous global baseline for consistent reporting of sustainability-related information.

In June 2023, the ISSB published its first Sustainability Disclosure Standards (SDS) designed to supersede TCFD:

• IFRS S1 - sustainability related disclosures (broader standard)
• IFRS S2 - climate-related disclosures (specifically address climate change)

IFRS S2 has additional reporting requirements for investors, including seperate reporting of Scope 1, 2, and 3 financed emissions, disclosure of the value and proportion of AuM included in each calculation (and reasons for any exclusions), and allocation methodology.

In the UK, the ISSB's SDS have not yet replaced TCFD. The UK government is aiming for Q1 2025 to come to a decision on the suitability of IFRS S1 and IFRS S2. If endorsed (and the government's stated aim is to endorse the work of the ISSB), IFRS S1 and S2 will make up the first two of what will be called the UK's Sustainability Reporting Standards (SRS), part of a wider Sustainability Disclosure Reporting (SDR) framework currently being developed. Once SRS is endorsed, the FCA will be able to introduce the new reporting requirements for UK-listed companies, and the government will also decide on rules for UK companies that fall outside of the FCA’s remit. This timeline means implementation of SRS no earlier than January 2026.

Europe

SFDR

The EU’s Sustainable Finance Disclosure Regulation (SFDR) is far-reaching in scope, applying to all financial market participants in the EU (or providing services in the EU), and requiring disclosures on a broad range of ESG factors (rather than being climate-focused only).

Under the rules, funds are placed into three categories:

• Article 6. Funds that either integrate ESG considerations into the investment process, or can explain why they do not; but do not meet the conditions of Article 8 or 9.
• Article 8. Funds with investments that promote environmental and/or social considerations, but do not have ESG investing as a core defining objective.
• Article 9. Funds that have ESG investing as a core objective.

There’s some confusion over the distinctions here – if a fund integrates ESG into the investment process, do their investments not in some way promote ESG considerations? And when does the mere promotion of ESG become holding ESG as a core objective? The EU has promised to clarify.

This is important because the reporting requirements differ between fund categories. Under the rules, all funds are expected to report on:

• Their level of integration of ESG into the investment process, in the form of a sustainability policy.
• The “Principle Adverse Impacts (PAIs)” of their investments on ESG factors, including qualitative and quantitative metrics (e.g. emissions data).

But funds classed as Article 8 and 9 must, in addition, publish further information to underpin their claims to promote ESG goals in a more proactive manner. This explains exactly what ESG objectives they promote and how this is measured, designed to prevent “greenwashing” with respect to financial products.

For the time being, firms with under 500 employees, and that do not operate Article 8 or 9 funds, do not need to fully comply with the regulation. They can avoid most reporting obligations by making it clear that they do not consider PAIs in their investment process, and explaining why. Almost all VC and PE firms fall into this size bucket and analysis by Deloitte suggests that most are currently choosing to opt out, albeit this is likely to change as more firms develop the processes and resources needed to report. A key driver is that most LPs have over 500 employees, meaning that they must implement a policy to consider sustainability in their investment decisions; this has knock-on effects for VC and PE funds, which are facing increasing demand for ESG-related data to help their LPs comply with the new regulation.

How Seedling helps

Seedling's dedicated portfolio reporting product, SeedlingInvest, helps investors to:

1. Improve the uptake, ease, and quality of emissions measurement amongst portfolio companies.
2. Fill-in reporting gaps with iCI/ERM approved methodologies.
3. Report key metrics in line with the iCI/ERM methodology for disclosure against both the TCFD and SFDR regulations.

Seedling is a low burden solution designed to support busy SME management teams. Our model, software + 1:1 support, means PCs get the strategic support they need to navigate risks and opportunities around sustainability, such disclosures for public sector RFPs, B Corp accreditation, and SBTi-aligned target-setting.

‍Get in contact at hello@seedling.earth to learn more.