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May 09, 2024

Policy Blind Spots: Hidden Risks Below the Surface

This year, sustainability reporting standards adopted in 2023 will be implemented throughout Europe. The European Sustainability Reporting Standards (ESRS) outline methodologies and frameworks for these disclosures.* All qualifying public and large private entities will be required to adhere to these rules, with reports starting in 2025.

The scope and complexity of EU regulations pose a lurking risk: policy blind spots. Given the interconnected nature of modern value chains, these policies extend beyond their immediate purview. This is especially true for water policy. For instance, financial disclosures now require annual water consumption data, while electricity reduction targets affect water availability.

As a result, companies must consider the holistic context impacting supply chains by examining all relevant policies to ensure they’ve identified every variable to anticipate risks and ensure long-term success beyond surface-level compliance.

How does this affect you? 

  • CSOs and sustainability teams need to extend their focus beyond regulatory compliance to identify unforeseen factors and blind spots throughout their value and supply chain.

  • CFOs and capital planning teams need to seek out investments that are not merely short-term fixes to immediate regulatory needs but are resilient to withstand future regulatory changes and other risks exacerbated by climate change.

  • Supply chain links need to pinpoint and prioritize processes heavily reliant on water and energy consumption, especially as EU regulations establish constraints and stringent targets for the energy transition.

  • Policymakers need to implement both national and industry-specific regulations and targets to tackle drought management and water scarcity issues.


Blind spot policies may not directly tackle water impacts in evident ways. Within EU regulations, these policies also have implications for energy usage and financial considerations across supply chains, all of which depend on water. What impact will these policies have on your operations beyond disclosure requirements?


1. Mitigating water leakages through energy-efficient technologies.

The Energy Efficiency Directive highlights the water-energy nexus, emphasizing the interdependence of water and energy. In the EU, water leaks represent  24% of total water consumption, and the energy sector is the largest water consumer at 44%. The Directive targets an 11.7% reduction in energy consumption by 2030, specifically emphasizing energy efficiency. To achieve this, the EU promotes the use of smart technologies and advanced water reuse and reclamation systems to reduce water consumption in agriculture, buildings, and industries to mitigate significant water leakage.

2. Retail stores must install thermal process management systems.

The Energy Efficiency Directive mandates multi-purpose buildings connected to district heating or cooling systems to install individual water meters to enhance transparency, ensure water consumption accountability, and mitigate water leakage. Additionally, the Renewable Energy Directive III (RED III) requires buildings to assess heat pump capacity and energy storage solutions. As a result, all retail stores in the distribution supply chain must invest in heat pumps or other thermal process management systems to comply with both policies.

3. Energy audits require water consumption data.

Entities consuming over 85 TJ of annual energy must adopt an energy management system. Failure to comply results in entities facing deeper audits, which include reporting annual energy consumption (kWh) and water volume consumed.

4. The inevitable necessity for energy-efficient technologies.

Further regulatory pressures include mandated reductions in energy generation by at least 5% during identified peak hours to address rising electricity prices. This is due to increased electricity demand during extreme summers and heightened drought conditions, leading to declining nuclear plant production, limited hydropower generation, and decreased water levels. If companies continue using obsolete equipment without energy-efficient investments, their ability to sustain normal operations during peak hours may be constrained by EU regulations limiting grid generation capacity. 

5. Microplastics pollutants in water impact various industries.

The ESRS framework requires entities to disclose pollutants not only in their operations but also in the production and microplastic-producing goods prevalent in sectors such as food & beverage, chemicals, and apparel. Annex II specifies that entities must report water emissions for pollutants surpassing certain thresholds, including paper and wood production, intensive livestock farming, and food & beverage processing.


The ESRS contains specific water disclosure requirements, emphasizing internal governance policies and the double materiality principles, which assess physical impacts and financial risks across supply chains. However, certain blind spots in the framework could lead to significant financial impacts for large entities.

1. Water consumption directly links to financial statements.

Entities must report their annual water consumption, recycled water usage, and storage, specifically in high-stress areas. Additionally, water intensity directly quantifies water impacts on financial balance sheets, which is calculated by total water consumption per million EUR net revenue. Entities must further disclose anticipated financial risks and opportunities, considering the dependencies on water and the potential impact on long-term financial position.

2. No raw material means no revenue.

Despite its heavy reliance on water, the agriculture industry continues to confront substantial water restrictions during ongoing drought emergencies, sometimes reaching up to 80% reductions, as observed inTunisia and, more recently, in Spain. The escalating water scarcity will notably affect the cost and availability of consumer goods. This was seen in 2023 when average fruit and vegetable prices increased by 15.6% in Spain. Farmers in France and Italy have further expressed concerns about abandoning traditional crops as reservoir levels plummeted, which may be the future reality as drought worsens in the region. 

3. Minimal water compliance risks future investments.

Financial institutions are also required to disclose similar information mandated by the Sustainable Finance Disclosure Regulation (SFDR). Investors must report water intensity and investments in high-water stress areas and identify those lacking compliant or planned water management policies. Consequently, companies not adhering to sustainable practices are at risk of investments in the future as investors become cautious about allocating capital to water-impacted investments.

Blind spots extend beyond compliance to real-world impacts, such as droughts impacting distribution chains in the Panama Canal or water availability in agriculture. While regulatory frameworks provide a chance to reshape supply chains and assess efficient technology investments, regulations should be seen as the floor, not the ceiling. Mere compliance may not guarantee your business's operational and financial resilience, as sustainability and business resilience go hand in hand, similar to the interconnectedness between water and energy. The tip of the iceberg is never the full picture; we need to look beneath the surface.

Until next time,
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