ESG compliance mandates have had a mixed effect on businesses and leaders. While on one hand, there is uncertainty regarding the compliance requirements, and on the other, it has got the sustainability leaders and experts excited and invested in the prospect of ESG becoming mainstream and a differentiator for businesses.
The precursor to sustainability was environmental reporting. It was in vogue since the 1960s but gained momentum during the 80s in response to the massive outrage against the disasters caused by chemical companies. Over subsequent decades many companies voluntarily shared their sustainability reports. However, standardization of sustainable reporting was still not on the horizon.
The situation changed when GRI (Global Reporting Initiative) founded in 1999 in Boston, launched the first version of GRI guidelines three years later in 2000. The GRI database indicated an increase in reports between 1999 and 2010 with an annual growth rate of 30%. GRI was significant in institutionalizing the initial form of sustainability reports with recurrent practices, shared language, and metrics.
United Nations’ fifth Global Environmental Outlook (GEO-5) and the Millennium Ecosystem Assessment report highlighted the impact of human activities on the planet. The Economics of Ecosystems and Biodiversity (TEEB) initiative put a figure (US $ 4.7 trillion) on the cost of social and environmental damage caused by business activities and the subsequent loss of natural ecosystems.
With the increasing interest in sustainability initiatives and the ESG impact of organizations, businesses had no choice but to share sustainability data with them. However, a need for standardization was still there. With regulatory bodies stepping up to adopt ESG reporting as a mandate, the reporting landscape has evolved rapidly.
This blog will explore the significant developments in ESG reporting to look out for in 2023 and beyond.
Looking forward to the ISSB Standards
IFRS announced the creation of the International Sustainability Standards Board (ISSB) in the November of 2021. ISSB was to meet the increasing need for transparent, comparable, reliable, and superior quality sustainability and ESG data.
ISSB was tasked to create a global baseline for sustainability disclosure standards for capital markets to aid investors in making informed decisions with better risks and opportunities assessment.
ISSB will deliver the first draft of standards in 2023. Meanwhile, regular updates from ISSB provide a guideline regarding the first draft of standards and help companies understand and appreciate the relevance within their respective contexts.
Some of the key areas that ISSB’s December 2022 updates include:
- Scope of sustainability reporting and its definition (ISSB’s General Sustainability-related Disclosures Standard (S1))
- The interconnectivity of a business’s value chain with investors, stakeholders, society, and natural resources
- Integrated Reporting Framework concepts to allow businesses to share their story about their environmental impact management and value creation
- Framework in S2 for the measurement of Scope 3 GHG emissions using a location-based method
- Digital taxonomies for ISSB standards to be released in 2023
ISSB and its sustainability disclosure standards aim to address the fragmented ESG disclosure space that lacks integration and a shared global language. 2023 will be a milestone year for standardized sustainability reporting, and businesses and investors will get greater clarity when the first draft of ISSB standards is published.
The Draft Stage of ESRS by EFRAG
In April 2021, the CSRD was adopted by EC as a legislative proposal, and EFRAG was appointed as the technical advisor responsible for drafting the European Sustainability Reporting Standards (ESRS). The larger goals included creating a common taxonomy and creating a transparent information flow of sustainability-related data from businesses to investors and stakeholders.
The CSRD replaces the NFRD (Non-financial Reporting Directive) and will be wider in scope in terms of applicability with more than 50,000 listed and non-listed companies falling under its purview.
In November this year, EFRAG announced the submission of the first draft of ESRS to EC, and the first set consists of 12 drafts. EU is to discuss these draft standards with EU bodies and member states before adopting them.
The reporting requirements will take place in a phased manner and begin for the companies in the financial year 2024 for reports published in 2025. Listed SMEs are required to report as of 2026, while eligible companies and SMEs can voluntarily opt out until 2028. EFRAG will develop separate, proportionate standards for them by next year.
Businesses should familiarize themselves with the standards and spend the next year planning and preparing for their ESRS reporting.
SEC’s Climate-Related Disclosures
Climate risk poses financial risks, and investors realized it before the regulatory bodies did. In response to the climate-related risks and opportunities, the number of companies voluntarily providing ESG and sustainability-related data rose, especially over the past few years.
However, evaluating a company’s climate-related disclosures remained a critical challenge for investors, compounded by the absence of standardization. Climate-related data that was inconsistent, unreliable, and non-comparable made investment decisions more of a shot in the dark.
SEC proposed changes to enhance and standardize climate-related disclosures earlier this year in March 2022.
Some key points include:
- Climate-related risks disclosures that are likely to have a material impact on their business
- The disclosures about direct greenhouse gas emissions (Scope 1) and indirect emissions (from other forms of energy consumption like purchased electricity) under Scope 2
- GHG emissions from upstream and downstream activities of the value chain constitute the Scope 3 requirement
- Information regarding the impact of climate-related events (severe weather conditions and natural events) on the line items of the consolidated financial statements and the estimates and assumptions used
- The disclosures will accompany the annual financial reports of the companies and are required for both domestic and foreign registrants
These rules are consistent with standards and frameworks like TCFD recommendations and the GHG Protocol.
In response to these developments, companies need to ensure certain things at their end:
- Ascertaining accountability and responsibility for climate-related disclosure within the company and the roles various teams have to play like finance, internal audit, and board members
- Evaluating the current process of collecting climate-related information and what additional information is needed
- Evaluating the materiality of climate-related disclosure within the context of the company and assessing their relevance with respect to materiality
- Disclosure controls and procedures in general and for financial reporting in particular to meet the requirements
- Alignment with the reporting deadline issued by SEC and preparing for the same
The year 2023 is that of significant changes and companies should aim at preparing well to meet all the requirements.
The Task Force on Nature-Related Financial Disclosures and the TNFD Framework
The Taskforce on Nature-related Financial Disclosures (TNFD) came into existence in June 2021. TNFD has representation from financial institutions, corporates, and market service providers in the form of its Taskforce. It stands supported by G7, G20, UN bodies, and leaders like Mark Carney, UN Special Envoy on Climate Action and Finance; UN Secretary-General António Guterres, President of France, Emmanuel Macron. TNFD aims to provide a risk management and disclosure framework for reporting nature-related risks.
Nature-related risks that include biodiversity loss and ecosystem collapse pose as top risks as identified by The World Economic Forum (WEF) 2021 Global Risk Report. Economic activities have a direct and indirect impact on nature. Sectors like agriculture, food, drink, and construction are prone to nature-related risks that also have an economic impact.
Nature-related risk assessment is the need of the hour, but unlike climate-related disclosures that have specific metrics, nature-related risk and opportunities assessment is more complex.
The TNFD framework due in 2023 aims to:
- Drive alignment to the global sustainability baseline proposed by ISSB
- Approach materiality with adaptability and flexibility to meet regulatory requirements and address the needs of companies of all sizes and across jurisdictions
- Facilitate reporting about nature-related dependencies and encourage early action through an integrated approach to address both nature loss and climate change
- Assist with a structured path to nature-related disclosures
Before the launch of the final framework in September 2023, TNFD will release the V.4 of the Beta framework, inviting feedback until mid-February next year. One can reach out to provide feedback here.
- An integrated nature-related risk management and disclosure framework will:
- Help investors to make informed capital allocation decisions, businesses
- Broaden the corporate strategy to include nature-related risks and impact
- Support ESG data with information about nature-related risk management by corporates
The compliance and reporting landscape is becoming stricter and wider in scope with these new structures and frameworks that are good for investors, communities, and the environment.
ESG and Sustainability Reporting & Performance Tool
With several regulatory bodies releasing ESG and sustainability reporting frameworks and mandates, financial reporting software solutions and technology will also have to level up to meet the new requirements.
And the first step in the process will be efficient data collection from multiple sources and sensitivity to the fact that ESG disclosure will include both qualitative and quantitative data and a focus on transparent outputs.
Using the right methodology and referring to the right sources will be instrumental in meeting challenges like quantifying sustainable investment data.
A few points to consider while choosing an ESG reporting software will be:
- Current with the latest compliance requirements and reporting standards
- Integrated data management capabilities for comparable and consistent data
- Integration with sustainability frameworks to meet disclosure requirements
- Scalable and customizable
- Support multiple users
- On-demand Report generation
- Reliable support
Choosing the right ESG and sustainability reporting tool will be a primary focus in the coming year. It will lessen the burden on the finance and compliance teams and help meet reporting requirements adequately.
These are some of the key ESG reporting developments that businesses need to consider for the coming year and plan for the changing compliance mandates in their respective jurisdictions. Integrating ESG KPIs with financial and operational planning will ensure long-term success for the business with an improved understanding of risk and opportunities.