As ESG (Environmental, Social and Governance) issues have come closer and closer to the centre stage in businesses today, there has been a correspondingly growing need to find ways in which organisations can address and report on ESG in a clear, credible and transparent manner to all stakeholders. This means that reporting standards and frameworks have become crucial tools in managing ESG to ensure that organisations measure, understand and communicate exposure to risks and opportunities effectively.
Over the past few years, a range of guidelines for ESG reporting have emerged, including voluntary standards, reporting frameworks, and even national legislation. But, unfortunately, these standards and frameworks have not been uniform, and, in the most part, voluntary application has characterised their implementation. From a number of perspectives, it would appear that there is a need for a more global understanding and agreement around ESG reporting matters. Creating more common global reporting standards would, it is claimed, significantly add to the credibility of information, help to achieve far greater transparency, and also allow for much more comparative analysis.
Beginning in 2020, some of the most notable sustainability reporting standards-setting bodies got together to form a ‘Group of Five’ with the intention of seeking to combine their existing standards frameworks to establish a universal system that would report the impact of sustainability factors. With a vision of creating a comprehensive corporate reporting system, they have sought to acknowledge the need for consistency and comparability – potentially eventually developing a truly global ESG reporting framework.
The group published a standards prototype late in 2020, and began encouraging companies to produce climate-related financial disclosures. This, they believe, could lead to a harmonised global sustainability reporting framework; however, it is very likely that it will at some stage require involvement from policymakers and some form of compulsion, to move it away from the current optional status. Described as a ‘running start’, the prototype combines the five existing standards frameworks to build a universal system for reporting the impact of sustainability factors on enterprise value and sustainability-related risk.
The Group of Five is made up of:
Carbon Disclosure Project (CDP)
Climate Disclosure Standards Board (CDSB)
Global Reporting Initiative (GRI)
International Integrated Reporting Council (IIRC)
Sustainability Accounting Standards Board (SASB)
The Group have made it clear that their prototype is designed to support the use of frameworks that already exist, and can be used to build towards or complement the EU Taxonomy and International Financial Reporting Standards (IFRS) foundation consultation papers currently in development. It is not ‘in competition’ with the proposals of these other groups, but rather an extension of them. The prototype framework is a resource to be used in collaboration with others, all of whom are seeking to move forward. All five of the organisations have reiterated their support for the IFRS Foundation’s proposals, including the implementation of a Sustainability Standards Board (SSB).
The prototype builds on the Task Force of Climate-related Financial Disclosure’s (TCFD) four pillars of reporting: governance, strategy, risk management and metrics/targets. It proposes three areas of focus:
Sustainability matters that reflect an individual company’s positive or negative contribution to sustainable development.
Sustainability issues that influence enterprise value.
Sustainability matters that influence monetary amounts disclosed in financial statements.
It has also sought to identify not just the internal impact of environmental or sustainability issues, but also to identify and measure the impact companies have on wider society.
Other approaches also exist, alongside that of the Group of Five. The United Nations has supported the Principles for Responsible Investment (PRI) initiative, which a network of international investors have developed. The six principles were devised by the investment community and reflect the view that ESG issues can affect the performance of investment portfolios and, therefore, must be given appropriate consideration by investors if they are to fulfil their fiduciary (or equivalent) duty. It is claimed that, in implementing the PRIs, signatories contribute to the development of a more sustainable global financial system. The detail of the six principles can be found at: https://www.unpri.org/about-us/what-are-the-principles-for-responsible-investment.
Reference should also be made to the Task Force on Climate-related Financial Disclosures (TCFD), which was created in 2015 by the Financial Stability Board (FSB) to develop consistent and comparable climate-related financial risk disclosures for use by companies, banks, and investors in providing information to stakeholders. It is built on the approach that better information will allow companies to incorporate climate-related risks and opportunities into their risk management, strategic planning, and decision-making processes. As both companies and investors increase their understanding of the financial implications of climate change, markets will be better able to channel investment to sustainable and resilient solutions, opportunities, and business models.
The disclosure recommendations are structured around the four thematic areas mentioned earlier that outline key elements of how organisations operate:
Governance: Disclosure of governance relating to climate-related risks and opportunities.
Strategy: Disclosure of actual and potential impacts of climate-related risks and opportunities on the organisation’s businesses, strategy and financial planning.
Risk Management: Disclosure of how the organisation identifies, assesses and manages climate-related risks.
Metrics and Targets: Disclosure of the metrics and targets used by the organisation to assess and manage climate-related risks and opportunities.
Finally, to try to reduce down these various ESG frameworks and structures into something actionable, we might consider the two main areas of their focus.
Firstly, we should consider the purpose for which the ESG data is gathered. Essentially, data is collected to disclose to stakeholders and to operationalise metrics – ‘what gets measured gets done’. Of course, there may be some considerable overlap between these purposes. After all, high-level disclosures can sometimes uncover strategic opportunities, leading to operationalisation later.
Our second area of focus should be materiality – what makes the ESG data important. This focus considers what we should measure, and its relative importance. For ESG data, this materiality may be financial or non-financial information that is material to people (social) and the planet (environment). Again, these overlap, particularly over longer time horizons, where non-financial ESG factors eventually become financial factors that affect GAAP financial metrics.
As is clear, there are moves to rationalise frameworks and standards, to the benefit of all working in this field. Having mechanisms that many or most organisations share will undoubtedly make for greater cooperation and comparison. However, there is certainly still some way to go yet in bringing businesses of all kinds into a shared, full and effective understanding of their environmental, social and governance responsibilities.