The European Union Taxonomy for Sustainable Activities, commonly referred to as the EU Taxonomy, is an attempt to equip financial markets with a classification system that fosters a shared understanding of sustainability. You can think of the Taxonomy as a dictionary defining which economic activities can be considered environmentally sustainable. The core question now facing companies, investors and financial institutions is how to identify Taxonomy-aligned activities and revenue.

Taxonomy alignment is the positive assessment that an eligible activity meets the applicable Taxonomy requirements to substantially contribute to at least one of the Taxonomy’s six objectives; while also doing no significant harm (DNSH) to any other objective; and meeting the minimum social safeguards (MSS). In 2022, the European Commission mandated that companies disclose their eligibility, and in 2023, companies were directed to disclose broader key performance indicators, including data on their alignment.

In previous installments of this blog series, we delved into eligibility and explored the initial phase of assessing alignment through substantial contribution criteria. This blog explores the application of DNSH criteria and explains how the S&P Global EU Taxonomy Data Solution uses a range of S&P Global datasets to estimate to what extent a company meets the DNSH criteria.

Why the requirement to avoid significant harm?

Once a company has demonstrated that an eligible activity makes a substantial contribution to one of the Taxonomy’s objectives, the activity is then subject to evaluation against the DNSH criteria. The DNSH criteria encompass the remaining five objectives to which the activity does not contribute. For example, if a company's activities substantially contribute to the climate change mitigation objective, it is subsequently required to consider the DNSH criteria for:

• climate change adaptation
• sustainable use and protection of water and marine resources
• transition to a circular economy
• pollution prevention and control
• protection and restoration of biodiversity and ecosystems

The primary objective of the DNSH criteria is to ensure that an activity, despite making a substantial contribution, does not have adverse effects on other environmental objectives in Europe. One example of this dynamic is found in activity 4.1, “electricity generation using solar photovoltaic technology," which is a key technology for the EU’s renewable energy transition. Solar photovoltaic (PV) technology intrinsically assists with climate change mitigation, and the criterion for substantial contribution is simply an activity that “generates electricity using solar PV technology," according to the Taxonomy regulation.

However, the large-scale deployment of solar PV technology carries the potential for negative impacts on other environmental objectives. First, the PV panels themselves contain chemicals and materials that currently lack sufficient end-of-life processes for recycling or disposal, which is relevant to the circular economy objective. Secondly, the land-use change associated with large-scale solar PV panel installations could impact areas with intact natural ecosystems such as woodlands, which is relevant to the objective of protecting biodiversity.

Therefore, the DNSH requirements for solar PV electricity generation link to these two other environmental objectives. Under the circular economy objective, the expectation is that the activity "assesses availability of and, where feasible, uses equipment and components of high durability and recyclability and that are easy to dismantle and refurbish,” according to the Taxonomy regulation. To meet the requirements under the objective for protection and restoration of biodiversity and ecosystems, the activity must comply with a broader set of biodiversity thresholds outlined in the regulation's annex, which encompasses environmental impact assessments, mitigation and compensation measures, and the necessity to preserve biodiversity-sensitive areas.

This example shows how once a company has made a substantial contribution, it must then consider other environmental objectives. DNSH criteria do not necessarily encompass all five objectives; rather, they are applied based on the specific circumstances of each activity. Some activities, such as battery manufacturing, may contribute to one objective but must consider the DNSH criteria of all five of the other objectives. On the other hand, some activities do not have any DNSH criteria they are required to meet. For example, creative, arts or entertainment activities can substantially contribute to climate change adaptation and do not need to meet any of the remaining five DNSH criteria.

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The S&P Global Sustainable1 approach to assessing DNSH

The S&P Global EU Taxonomy Data Solution estimates whether companies may be meeting or failing the DNSH requirements for Taxonomy-eligible business activities. One key component of this solution is the Trucost Sector Revenue dataset, which covers more than 20,000 companies representing 99% of global market capitalization. The dataset matches a company's revenues with specific economic activities based on Trucost Sector Activities Classifications, which categorize the economy into 464 distinct business activities. Among these, 176 activities have been mapped to Nomenclature of Economic Activities (NACE)-based eligible activities defined by the Taxonomy. This allows the dataset to link companies’ eligible activities and revenue to the Taxonomy objective they contribute to and the DNSH criteria they may be subject to.

The DNSH assessment was developed by aligning the DNSH requirements specified in the EU Taxonomy Delegated Acts for Climate Change Mitigation and Adaptation with datapoints collected in the S&P Global Corporate Sustainability Assessment (CSA), an annual assessment of approximately 10,000 companies’ performance on a wide range of sustainability-related topics. The controversy screens conducted through the monthly Media and Stakeholder Analysis (MSA) in the CSA are also used within the DNSH assessment as another layer of scrutiny on the performance of companies. By matching a company’s performance on CSA questions that are relevant to the activity’s DNSH requirements, the S&P Global EU Taxonomy Data Solution can indicate whether a company is likely to meet the requirements.

For example, when considering biodiversity, the DNSH requirements for solar PV electricity generation include the use of environmental impact assessments and avoidance of sensitive biodiverse sites, among other requirements. The CSA dedicates a specific section to biodiversity, wherein participating companies are queried on their biodiversity commitments, assessment practices and avoidance of sensitive biodiversity areas. If the CSA indicates a lack of biodiversity commitments or relevant management systems, it is unlikely that the company's activities meet the full DNSH requirements of the Taxonomy. Furthermore, if the MSA process finds that a company is involved in a controversy that impacts biodiversity, that could affect its DNSH assessment depending on the controversy’s severity and the company’s response.

This approach of matching relevant datapoints is applied across all DNSH criteria. In some cases, CSA data needed to assess against DNSH criteria may not be available. However, the MSA functions as an additional screen that does not rely on data collected in the CSA cycles.

The dataset offers several outputs to users. It first references the Taxonomy regulation and indicates whether the data solution covers the relevant DNSH requirements for a given company’s eligible activities. This output may also indicate "Not Required" if an activity is not required to meet any DNSH criteria.

The solution then provides a qualitative assessment, based on available data, of whether the company meets the thresholds of the CSA datapoints mapped to the DNSH criteria. In some cases, a company may meet some but not all the relevant datapoints mapped to the DNSH criteria, resulting in a "Partially Met" output. Although the Taxonomy regulation does not include such an assessment, the Partially Met output can be valuable by highlighting companies that could fully meet requirements in the future.

The solution also provides a quantitative indication of whether a company meets the underlying datapoint assessments for each environmental objective. For instance, within the biodiversity assessment, three datapoints are considered, and a company may meet the requirements for one of them. This would result in a quantitative output of 33.3%, which would be categorized as Partially Met in the qualitative assessment.

The S&P Global EU Taxonomy Data Solution applies the same output approach to evaluate each DNSH criteria and maps it to specific activities based on the requirements outlined in the Taxonomy. Additionally, a comprehensive DNSH assessment and score are generated to represent a company's overall ability to meet the DNSH criteria.

The solution also provides a Confidence Level for the DNSH output to address limitations such as data availability, coverage within the CSA and companies' responses to relevant questions. The Confidence Level allows users to filter and focus on activities where the assessment carries a high level of confidence.

How are companies performing across DNSH criteria?

A look at the full universe of companies covered by the S&P Global EU Taxonomy Data Solution illustrates how stringent the Taxonomy’s requirements can be. Taking activities that substantially contribute to the climate change mitigation objective as an example, DNSH requirements could apply for some, all or none of the five other environmental objectives.

For each activity substantially contributing to climate change mitigation, additional DNSH requirements must be met for climate change adaptation. As for the other four objectives, distinct requirements exist for some activities but not others, represented by the output “Not Required.” Only a small percentage of companies’ activities are classified as “Met” across the environmental objectives. This limited number can be attributed to the Taxonomy’s strict thresholds on meeting the DNSH criteria.

The activities marked “Partially Met” meet the thresholds for some, but not all, of the relevant datapoints associated with a given environmental objective. Activities classified as “Not Met” do not meet the thresholds of the underlying datapoints. Finally, the category “No Data Available” refers to the absence of publicly accessible data for analysts to assess against the DNSH criteria, while “No Coverage” refers to companies that were not assessed in the CSA.

Over the past year, clients have provided substantial feedback on the DNSH assessment within the S&P Global EU Taxonomy Data Solution. One benefit they have described is its function as a starting point for users to understand the publicly available data for making an independent assessment of a company's alignment with the Taxonomy. In cases where the dataset indicates insufficient data, it has served as a foundation for users to engage directly with companies. As the industry evolves and disclosure against Taxonomy requirements improves, more data will become accessible in subsequent assessment cycles. The S&P Global EU Taxonomy Solution is updated on a quarterly basis, providing users with the latest data to conduct independent assessments of activity alignment with the Taxonomy. The next blog in this series will delve into the MSS assessment, examining the social implications of activities and their role in aligning with the Taxonomy.

Read part one of our EU Taxonomy blog series here: Unpacking the EU Taxonomy: Eligibility

Read part two of our EU Taxonomy blog series here: Unpacking the EU Taxonomy: Understanding Substantial Contribution