Greenwashing in the Context of the SFDR

Greenwashing refers to the practice where organisations present their products, services, or policies as more environmentally friendly or sustainable than they truly are. This deceptive marketing strategy misleads consumers and investors who seek genuine sustainable options.

What are the Consequences of Greenwashing?

Greenwashing can have significant consequences for companies in the EU, impacting them financially, legally, and reputationally. 

Regulatory Risks

EU regulators, such as the European Securities and Markets Authority (ESMA) or the European Commission (EC) and national authorities like the Netherlands Authority for Consumers and Markets (ACM), can impose fines for misleading sustainability claims. 

In recent years, the Dutch ACM has taken significant actions against companies for engaging in greenwashing practices. For example, the Amsterdam District Court confirmed ACM's decision stating that KLM’s advertising campaigns misled consumers by overstating the airline’s environmental initiatives.

Similarly, Booking.com faced scrutiny over its “Travel Sustainable” program, which assigned sustainability scores to accommodations. The ACM determined that the program’s criteria were unclear, potentially misleading consumers regarding the actual sustainability standards of listed properties. In response, Booking.com agreed to take the program offline and cease using related icons, such as green leaves, until a more transparent and verifiable system could be implemented.

Regulatory bodies like the ACM are actively monitoring and enforcing actions against greenwashing to protect consumers and ensure fair competition. We generally advise companies to substantiate their environmental claims with clear, verifiable information to avoid misleading consumers and facing legal repercussions.

Financial Risks

In addition to being required to cease the identified greenwashing claims or practices, official decisions by regulatory bodies often come with direct fines. The size of these fines typically depends on the entity’s size, revenue, and the scale of the misleading claim. For example, larger companies with extensive operations may face higher penalties to reflect the broader impact of their greenwashing practices.

Beyond fines, companies may also incur significant litigation costs. These costs are not limited to the initial regulatory procedure where the greenwashing claim was deemed misleading. They can extend to subsequent lawsuits, including class actions filed by consumers seeking compensation for damages. Such claims can lead to substantial financial liabilities, as they often involve large groups of consumers affected by the misleading practices.

For instance, in cases like Volkswagen’s Dieselgate scandal, Volkswagen faced not only regulatory fines but also a wave of class action lawsuits, resulting in billions of euros in settlements and damages. This example underscores the potential financial burden that can arise from follow-up legal actions, which can significantly outweigh the initial regulatory fines.

Reputational Risks

Greenwashing can severely damage a company’s brand image. Once exposed, companies may struggle to regain consumer trust, especially in sustainability-conscious markets. It is a known fact that consumers increasingly value transparency and may shift to competitors with verified sustainability practices. In addition, supply chain partners may also distance themselves to avoid association with unethical practices.

Media coverage of greenwashing cases amplifies the reputational harm, affecting customer loyalty and shareholder trust. As a consequence, investors prioritising ESG objectives are unlikely to support companies with a history of greenwashing.

The same applies to regulators, who might subject those companies to stricter audits and compliance checks, leading to higher operational costs.Moreover, any official certificates, subsidies or any other competitive advantage lawfully gained when sustainable practices are successfully implemented and demonstrated, may be lost or become unachievable after a greenwashing scandal.

EU’s Regulatory Framework Against Greenwashing

The EU has implemented several regulations to combat greenwashing and promote transparency in sustainability claims:

• ‍Sustainable Finance Disclosure Regulation (SFDR): Introduced to enhance transparency in the financial sector, the SFDR requires financial market participants to disclose how they integrate Environmental,Social, and Governance (ESG) factors into their investment decisions. This regulation aims to prevent exaggerated or false sustainability claims by ensuring that disclosures are clear and comparable.‍‍
• EU Taxonomy Regulation: This classification system defines which economic activities can be considered environmentally sustainable. It aims to prevent greenwashing by ensuring that sustainability claims are based on standardised definitions.‍‍
• CorporateSustainability Reporting Directive (CSRD): Replacing the Non-Financial Reporting Directive (NFRD), the CSRD expands the scope and detail of sustainability reporting required from companies. It mandates the disclosure of information on how sustainability issues affect businesses and how operations impact people and the environment.

Persisting Challenges

Despite the good intentions behind these regulations, they have turned out to be counterproductive at times. The complexity and volume of disclosure requirements can lead to inconsistent interpretations and implementations, potentially resulting in unintentional greenwashing.

The biggest issue seems to be the lack of precision in the definitions and required exhaustiveness of the information disclosed.

On the one hand, it makes sense to take a one-size-fits-all approach when regulating the same sector, i.e., financial markets in the case of the SFDR. In theory, this should make it simpler and easier for the addressees of the regulation to find their way through the requirements and leverage knowledge between practitioners.

On the other hand, this approach falls short in reality. TheSFDR templates are the opposite of “simple”. End investors looking at the final disclosures find it difficult to draw conclusions from the disclosed information, let alone compare it with that of other products.

Moreover, the lack of standardised methodologies across different ESG rating providers can result in varying assessments of the same company’s sustainability performance, adding to the confusion.

These issues derive from the novelty of the regulation. Not only is it redacted in a very vague manner, but it is also the lack of expertise, ESG data pools and automated tools like ours, which make it more difficult to navigate for its addressees, especially SMEs who lack the resources to make substantial changes in their data gathering practices or cannot afford to rely on external consultants.

A Call for Refinement, Not Abandonment

While costly, these requirements are ultimately levelling the playing field. Companies that genuinely commit to sustainability and align their practices with ESG criteria will reap the rewards of this system, gaining a competitive advantage in a market that increasingly values transparency and responsibility.

The SFDR is effectively creating a framework where the “sustainability prize” is awarded to those who deserve it. Companies that can prove their alignment with ESG principles will attract more investors, consumers, and resources.

This is the very essence of what the SFDR seeks to achieve: a race to the top in sustainability, where companies compete not by lowering standards but by raising them. Rather than fighting against the regulator, companies should focus on outpacing their competitors in delivering genuine, impactful sustainable practices.

Yes, the SFDR has flaws. Its imprecision and the administrative burdens it imposes are valid concerns. But these issues are not reasons to abandon it; they are reasons to refine it. If the requirements are too vague, let’s work to clarify them. If they are too costly, let’s create mechanisms to support smaller or less-resourced entities that genuinely struggle to comply.

Real progress requires persistence, collaboration, and a willingness to adapt. So, let’s work to perfect the SFDR, addressing its shortcomings as they arise in practice.

Let us guide you through meaningful discussions and provide expert advice on how to align your investing strategies with the SFDR