ESG reporting has surged in prominence amid a growing realisation among investors and financial institutions that sustainability risk is investment risk, as BlackRock CEO Larry Fink highlighted in his 2020 letter to CEOs. Meanwhile, the devastating impact of COVID-19 has further accelerated interest in companies’ ESG disclosure and sustainability performance. But with ESG performance soaring to the top of the agenda, the nascent industry of ESG reporting appears destined for change, having long been plagued by a collection of competing guidance and reporting frameworks.
Calls are now growing for a global standard to satisfy the needs of a wide range of stakeholders including investors, companies, boards, and the general public. And back in December Janine Guillot, Head of the Sustainability Accounting Standards Board (SASB) told Barron’s that ESG reporting standards ‘could converge within 12 to 24 months’.
Examining the different ESG guidance and reporting frameworks
To distinguish between guidance and reporting frameworks, it’s important to understand materiality – who is the intended audience of the framework (for example, investors, boards, insurers, creditors, employees, governments, auditors) – and how they intend to use the information disclosed (to make financial decisions, compare performance between organizations, or to ensure compliance) .
Reporting frameworks require quantitative or qualitative information to be provided in order to receive a score or other benchmark to enable comparison among peers. This information is primarily utilised by investors, shareholders, and boards.
Guidance frameworks inform how a company’s operations are likely to impact the environment (given their industry, for example) as well as the likely impact of climate change on the company’s ability to generate value – financial or otherwise. This information is relevant to financial stakeholders, namely investors, insurers, and creditors, but may also be relevant to the general public.
The largest global reporting framework is the UN’s Principles for Responsible Investment (PRI), which requires signatories to commit to its six principles for responsible investment. A pioneer in guidance frameworks is the Global Reporting Initiative (GRI), which released its first Sustainability Reporting Guidelines in 2000. Its newest GRI Standards organize disclosures into three categories, namely Economic, Environmental, and Social. The Sustainability Accounting Standards Board (SASB) sets standards to guide the disclosure of financially material sustainability information. The Task Force on Climate-related Financial Disclosures (TCFD) guides companies on disclosing climate-related financial risks to investors. CDP’s questionnaires are the go-to for investors for examining companies’ performance on climate change, water security, and deforestation. And for real asset investments, GRESB benchmarks ESG data for capital markets.
Figure 1 + 2 (below) give an overview of the major ESG reporting and guidance frameworks.
With a wide range of guidance and reporting frameworks, ESG reporting is hampered by a lack of coherence, consistency, and comparability between them. To address this issue, the Corporate Reporting Dialogue was convened by the International Integrated Reporting Council (IIRC) to strengthen cooperation, coordination and alignment between key standard setters and framework developers. Members of the Corporate Reporting Dialogue consist of CDP, GRI, SASB, the Climate Disclosure Standards Board (CDSB), the International Accounting Standards Board (IASB), and the International Organization for Standardization (ISO) with the Financial Accounting Standards Board (FASB) as an observer.
Overlaps and gaps in frameworks
Given the plethora of reporting and guidance frameworks, inevitably there is considerable amount of overlap. For instance, TCFD has a singular focus on how material climate-related issues could impact a company’s financial performance. Meanwhile, SASB has a broad focus on sustainability, assessing how material sustainability issues impact a company’s financial performance, which of course includes climate-related risks, causing it to overlap with TCFD. To harmonize SASB’s standards with TCFD’s recommendations, SASB is undertaking a review of its 79 industry standards, evaluating them with the objective of bringing them into closer alignment with TCFD recommendations. With this alignment, a company that reports in line with SASB standards would also then satisfy TCFD recommendations.
With an eye towards reducing the reporting burden on companies, frameworks are taking action to create alignment and CDP, SASB, and GRI have all aligned their frameworks. Similarly, in January the GRI updated its disclosure standards to help companies align their sustainability disclosures with the UN’s 17 Sustainable Development Goals (SDGs), thereby aligning itself with the PRI.
Meanwhile for real asset investments, GRESB has gone to great lengths to structure its assessments in line with the GRI, PRI, TCFD and SASB. Noticeably, about half of its disclosure requirements are shared with SASB.
A timeline of progress towards a global standard for ESG reporting
A first step towards developing common language around environmental sustainability was taken in July 2020 with the launch of the EU Sustainable Finance Taxonomy. It sets a common language between investors, issuers, project promoters and policy makers for assessment of whether investments meet robust environmental standards and are consistent with the Paris Agreement on Climate Change. By as early as 2022, companies may be required to report against the taxonomy and investors offering funds labelled as ‘environmentally sustainable’ may need to disclose the proportion that is taxonomy-aligned.
A few months later on September 11, more progress was made when five NGOs (CDP, CDSB, GRI, IIRC and SASB) published a statement of intent detailing their desire to work together and with the International Financial Reporting Standards (IFRS) to develop a comprehensive corporate reporting system. GRI, SASB, CDP and CDSB set the frameworks and standards for sustainability disclosure, including climate-related reporting, along with the TCFD recommendations to guide the majority of quantitative and qualitative sustainability disclosures. Meanwhile, the IIRC provides the integrated reporting framework to connect sustainability disclosure to reporting on financial and other capitals.
The next step forward came on September 22 when the World Economic Forum’s (WEF) International Business Council published a white paper in collaboration with Deloitte, EY, KPMG and PwC titled ‘Toward Common Metrics and Consistent Reporting of Sustainable Value Creation’. It proposed a set of voluntary ESG disclosure metrics, called Stakeholder Capitalism Metrics (SCMs). These are based on existing reporting frameworks, particularly the GRI, while also incorporating the SDGs and notably include one SCM that requires disclosure of a timeline to full implementation of the TCFD recommendations.
Later that month on September 30, trustees of the IFRS issued a ‘Consultation Paper on Sustainability Reporting’, which calls for the creation of a new climate risk-focused Sustainability Standards Board (SSB). It would make use of existing sustainability frameworks and standards, including TCFD, to establish a single global standard. The SSB would start with an initial focus on climate change but could broaden its scope to other environmental factors, or even the full range of ESG factors.
On October 8, the conversation gained pace in the UK when the Financial Reporting Council (FRC) published a discussion paper on a proposed blueprint for a new, more agile, corporate reporting system for the country. However, despite highlighting the ‘urgent need’ for comparable non-financial information, it acknowledged that until international standards are agreed on, companies will need to use existing frameworks to meet the demands of stakeholders.
Later that month on October 29 Sandy Boss, BlackRock Global Head of Investment Stewardship, weighed in on the debate declaring that, of the various private sector reporting frameworks available, ‘the one most likely to succeed is the one proposed by the IFRS Foundation’. She added that BlackRock would ‘continue to advocate for TCFD and SASB-aligned reporting until a global standard is established’.
And most recently on March 26, the WEF and SASB released a joint statement expressing intent to work together to establish a globally-accepted system for corporate disclosure with both organizations throwing their support behind the IFRS’s proposed creation of a Sustainability Standards Board.
How to set yourself up for success
As BlackRock’s Larry Fink put it, “Climate change has become a defining factor in companies’ long-term prospects.” Now more than ever before, companies are expected to report their ESG performance, and failure to take ESG risks seriously could result in a range of negative impacts for firms, stretching from shareholder action at Annual General Meetings to exclusion or divestment from asset managers. The devastation caused by Covid-19 has only served to heighten the importance for investors of managing risk.
Unsurprisingly, ESG reporting has seen a meteoric rise and all indications point to its importance increasing as pressure mounts to accelerate the low carbon transition. But ESG reporting must not fall victim to becoming a tick-box activity; the ultimate goal after all is improvement in ESG performance to enable a low carbon future.
To set yourself up for success, there are best practices you can follow, not only for ESG reporting, but also for ongoing performance improvement. For instance, it is important to ensure that you have a good data foundation in a flexible format to meet reporting requirements now and in the future. Central to this, is that the data collection and storage process is auditable with traceability through to the source of the data.
Equally important is that it allows for flexible boundary setting globally. Specifically, that it is easy to configure and change reporting groups, and the locations, accounts and meters that underlie them. Baseline emissions need to be recalculated when structural changes occur in the organization that change the inventory boundary (such as acquisitions or divestments).
Structuring data into a flexible organization hierarchy can simplify the process for recalculating baselines to enable more agility in ESG reporting.
It is also important to acknowledge that the data required for implementing decarbonization strategies is often scattered across various internal systems throughout an organization, many of which may be incompatible. It is also possible that the data may be held by suppliers that do not have systems and processes set-up to share it.
To address data capture challenges, companies should consider outsourcing the data capture process to a specialist service provider. Another best practice is to aim for automated data transfer whenever possible, since files handled by people prior to data collection are more prone to failure to load, precision loss, and metric confusion. Best practice is to utilise a cloud-based enterprise software platform to store and manage the data on an ongoing basis as this method is superior to spreadsheets.
Ultimately, the current reality is that ESG reporting is a complex space, and it can be a burden for a company to report to multiple frameworks. But with a strong data foundation in place, a company can set itself up well to meet reporting requirements regardless of whether a global framework comes to fruition.