In recent years, stakeholder demand for environmental, social and governance (ESG) information has increased exponentially. Investors need clear, comprehensive, and comparable information to make informed investment decisions. Customers are paying progressively more attention to how their purchases impact people and the planet.
In response, attempts to produce — and increasingly to mandate — various sustainability-related reporting frameworks and standards have also multiplied. This has led to a growing set of overlapping frameworks that are often confusing and resource-intensive to engage with. Could the newly formed International Sustainability Standards Board (ISSB) reduce duplication and provide much needed clarity, or will it simply exacerbate the burden on companies already struggling to navigate the disclosure landscape?
We’re left with a vast patchwork of frameworks and standards, all with varying parameters:
Global or country-specific
Mandatory or voluntary
Finance-focused or broader
Covering all aspects of ESG or narrower
Aimed at one industry or multiple
Aimed at SMEs and / or large public companies
It’s pretty challenging to explain the current landscape of sustainability reporting standards in a clear, concise manner: it’s too complicated and there are far too many acronyms. How can businesses be expected to provide their stakeholders with clear, comparable and comprehensive ESG information when the task of simply choosing which frameworks to use is onerous, and the resources needed to gather the required information often seem disproportionate?
The strong drive for transparency and disclosure is certainly positive in itself, but the piecemeal way it’s happened over the last couple of decades is far from helpful. The need for a definitive alignment of standards is pressing.
New efforts to simplify
Arguably the most interesting recent development in the complex world of ESG disclosure standards is the creation of the ISSB, announced last year as an IFRS initiative, in collaboration with the leading group of voluntary standard-setters. The aim is to combine the existing frameworks to produce a comprehensive, global set of sustainability reporting standards.
There are several challenges that the ISSB will have to overcome in order to achieve this aim. First is the difficulty of a globally adopted framework – one study found that only the GRI can demonstrate widespread global implementation, with current use by 73% of G250 companies. Western Europe and North America generally dominate the ESG reporting landscape, despite being less populous and producing fewer emissions than the Asia-Oceania region. ESG is simply not a high priority in all countries, compounded by issues such as corruption and variable data quality. Global mandatory disclosures may simply not be successful unless supported by an effective global system of data verification.
In addition, the variation in global approaches to issues such as human rights can be controversial and politicised. Many companies operating across multiple markets already face political and cultural challenges when working to increase transparency. An effective global framework will need to accept and embrace these complex relationships and potentially recognise the strength of shared data and disclosures across groups of peers and mutual suppliers as a mechanism for moving the needle in a positive direction.
And what about small and medium enterprises (SMEs)? These companies make up around 90% of businesses globally, yet the vast majority of reporting standards are aimed at large and listed companies. While ESG information from SMEs is crucial to understanding the big picture of business sustainability, and to encourage good practice, the question of proportionality arises. Is it fair to request increasingly complex information from companies that may not have the resources to gather the necessary data? Perhaps the ISSB should consider having different disclosure requirements depending on the user – an approach currently under consideration for the SEC 10-K ESG Disclosure.
Reasons for optimism?
The ISSB has numerous challenges ahead if it is to produce a comprehensive set of standards for global sustainability reporting. There is, however, reason to be optimistic. Many major actors are supporting the ISSB, including the UN, the International Monetary Fund, G20 Finance Ministers, the World Economic Forum and IOSCO. The “building blocks” approach proposed for the ISSB, which accommodates for differing stakeholder views, will hopefully provide the necessary flexibility required to achieve its aim. It’s clear that any framework this ambitious will have to continually adapt to the plethora of differing global regions, stakeholders, industries and businesses. Let’s hope the ISSB can rise to the challenge.
You’re thinking of including more sustainability information in your annual report. Given that universal standards for fully integrated reporting are some way off, what do you do?
It’s a good time to make a start, for three reasons:
Integrated reporting will be the norm within a few years
Work on reporting standards is advancing fast and you can make reasonably accurate assumptions of what investors and regulators will want in the near future
Starting early – as early adopters have shown – keeps you in control as you voluntarily broaden your disclosures, learning as you go.
But where and how do you start? And can you abandon your sustainability reporting?
Other than disclosures legally required by some countries and stock exchanges, you’re still free to choose your own reporting path. Your choice should be influenced by the needs of your audiences (those you are reporting to) and what’s important to them and your business (materiality).
Audience
With the dramatic increase in demand for environmental, social and governance (ESG) information, your reporting audience is now made up of two distinct groups:
Financial community (investors and other players in the capital markets)
A broad group of stakeholders that include employees, potential recruits, policy makers, sustainability professionals, engaged consumers, NGOs and other influencers.
This marks a change from the early days of reporting where it was difficult to decide on the relative importance of different stakeholder groups. Targeting priority audiences has become a little easier with investors clearly in the crosshairs.
Investors want clarity on ESG risks and how the business plans to deliver robust ESG performance, with data to back up assertions. The remaining stakeholders are primarily interested in understanding corporate purpose, tone and approach (stories). Of course, there is an overlap of needs, but the data/story difference is helpful in planning how and what to report to the different audiences. And where to locate the information.
Most of the work underway in developing ESG reporting standards is to satisfy the needs of investors. Given that it has taken well over a century to produce standards on financial reporting, it’s not surprising that investors, regulators and companies are taking a while to agree on the detail.
Standalone no more?
As integrated reporting progresses, we see the standalone sustainability report morphing into story telling on the company website. This means the performance data will be consolidated in the integrated report and what used to be the standalone sustainability performance report will become an evergreen section on the website. The level of detail on the site will be defined by the sector and the company’s impact. For example, companies in the extractive industries will have to provide a lot more detail compared with, say, those in software services.
It’s this sectoral difference that makes materiality so crucial. An honest analysis of what’s important to whom will define the level of sustainability information demanded by the two audiences. It is the materiality analysis that will determine what goes into the integrated report and how much detail is needed on the evergreen web pages.
Of course, the urge to gild the corporate message will prevail. There is a danger that those evergreen pages will be awash with green assertions and images of happy, diverse faces. If the forthcoming reporting standards are any good, they will ensure that integrated reports avoid greenwashing.
Standards landscape
It’s certainly a busy time for standard setters. After early, sleepy years with only the GRI doing anything significant, the standards landscape is now a frenzy of activity. Here is a quick updated summary of the current mix of existing and expected standards that apply to integrated reporting, and the organisations working on them (alphabetical).
CDP (formerly known as Carbon Disclosure Project), which against all expectations has been highly successful in getting companies to disclose their carbon emissions voluntarily.
EU’s Corporate Sustainability Reporting Directive (CSRD). The EU wants to make sustainability reporting by large companies more consistent and comparable. It says it will work with existing standard setters to ensure corporate reporting supports the European Green Deal and the flow of capital bolsters sustainability. The CSRD is part of a package of sustainable finance initiatives, defined by the EU’s Taxonomy, a classification system of environmentally sustainable economic activities.
Global Reporting Initiative (GRI). The grandaddy of the pack which produces standards to satisfy multi-stakeholders and which investors find woolly. The GRI will publish its “universal” standards this year. It has promised greater cooperation with the different standard-setting groups, although its promises to do so in the past have not come to much.
International Financial Reporting Standards (IFRS) Foundation is working towards the creation of an international sustainability standards board and will decide if this is feasible by November, 2021. This is potentially the most significant standards initiative because IFRS rules on financial disclosure are required in 140 jurisdictions around the world. This includes the EU but not the USA, which follows the US Generally Accepted Accountancy Principles (GAAP). If the IFRS goes ahead with its plans, it will split the ESG reporting standards world in two: USA – probably using the SASB standards (below); and the rest of the world, using IFRS.
Task Force on Nature-related Financial Disclosures (TCFN) is hoping to do for biodiversity what the TCFD (above) has done for climate change reporting. It was founded by Global Canopy, the United Nations Development Programme (UNDP), the United Nations Environment Programme Finance Initiative (UNEP FI), and the WWF. It’s at the very beginning of its work.
Value Reporting Foundation. This is the name of the recently merged Sustainable Accounting Standards Board (SASB) and the International Integrated Reporting Council (IIRC). The Foundation’s standards are known as the SASB standards. It remains to be seen how the IIRC’s standards will be integrated by the Foundation, if at all.
World Economic Forum’s (WEF) efforts to set ESG standards, instigated by the big four accountancy firms, is underway. WEF has emphasised the need for collaboration and endorses the efforts of the IFRS.
Another significant push for ESG reporting standards is coming from the US Securities and Exchange Commission (SEC) which is preparing tougher disclosure rules on carbon emissions. This is supported by the Biden administration and is creating the inevitable political resistance from Republicans who complain that the metrics are not yet mature enough to avoid misinterpretation by investors.
Next steps
While it will take a few years for integrated reporting standards to become the norm, it’s rewarding to see the positive impact of early initiatives to engage the financial community, such as the UN-supported Principles for Responsible Investment.
Many companies have been experimenting with integrated reporting for some time. They are about to be joined by many more. Soon, we hope, you will have a clear roadmap to follow.
Sales pitch: hear more about how we can help you build a future-proof sustainability reporting eco-system. (peter.knight@contexteurope.com).