EFRAG to work with existing standards-setters to develop collaborative framework.
With European corporates subject to new disclosure rules from January 2024, it’s a race against the clock to develop European Sustainability Reporting Standards for use by the end of 2022, according to Patrick de Cambourg, Chair of the European Financial Reporting Advisory Group’s (EFRAG) Lab Project Task Force.
The updated Non-Financial Reporting Directive (NFRD), renamed the Corporate Sustainability Reporting Directive (CSRD) in announcements made earlier this week, provides a strong foundation for the development of these EU Sustainability Reporting Standards, he told ESG Investor. EFRAG will be working with existing reporting frameworks to develop these standards, which could be introduced as soon as 18 months from now, de Cambourg says. This timeline is seen as necessary as firms will need access to the standards to report on their 2023 activities.
“Within the draft CSRD proposal, there is a clear statement that there will be EU sustainability reporting standards,” de Cambourg said.
Currently, NFRD requires large public-interest entities with more than 500 employees and a net turnover of more than €40 million to include a non-financial statement in their financial reports on a series of ESG-related factors.
In its place, CSRD aims to extend the scope of companies falling under its reporting requirements to all large companies and listed companies. Qualifying corporates must mandatorily include a subsection for Article 8 of the Taxonomy, detailing the extent to which their activities are “associated with” the Delegated Acts.
“This means that nearly 50,000 companies in the EU will now need to follow detailed EU sustainability reporting standards,” the Commission said.
Furthermore, the EC has proposed the development of separate “proportionate standards” for SMEs, meaning investors will have increased visibility of the sustainability-related impacts, opportunities and risks of a wider range of companies.
Building a new standard
In March, EFRAG published two reports outlining plans for European sustainability reporting standards, as well as recommended internal reforms to EFRAG’s governance structure so it can best assume the role of standards-setter.
“Standard-setting should be built on robust EU conceptual guidelines, addressing public good alignment, expected qualitative characteristics of information, relevant time-horizons, clear boundaries, double materiality and connectivity between financial and sustainability reporting,” one report said.
Mandatory reporting in line with CSRD will be enabled through the introduction of these standards, with a requirement that all disclosed relevant information is audited and assured by a third party.
The formation of the European sustainability reporting standards will be collaborative, de Cambourg added. “We want to build on and contribute to international initiatives, not reinvent the wheel,” he said. “But we have to apply a new filter that corresponds with the EU’s underlying ambitions.”
EFRAG met with 10 international standards-setters in December 2020 and again in March 2021, discussing the various commonalities of their frameworks, as well as their variant ambitions over the next few years, de Cambourg revealed.
“It was concluded that there would be a need for bilateral discussions, which are currently taking place,” he added. “In other words, the EC is extending a hand for cooperation and we’re exploring the idea of joint assessments.”
The EU standard will closely align with the double materiality approach favoured by the Global Reporting Initiative (GRI), rather than the more gradualist approach adopted by the International Financial Reporting Standards (IFRS) Foundation, which focuses more on enterprise value.
However, some industry experts have argued that the difference in approach taken by EFRAG and IFRS is incompatible, with Carol Adams, Professor of Accounting at Durham University’s Business School, arguing that the IFRS approach could actually be working against sustainable development.
Double materiality means corporates must commit to public reporting on how sustainability factors affect the company’s financial materiality as well as the company’s impact on wider society.
“The reason why [EFRAG] is keen to establish a standard through the double materiality lens is because this isn’t a private initiative. EU corporates need to be accountable to civil society, not just the investors,” de Cambourg explained.
This follows the enforcement of the EU’s Sustainable Finance Disclosure Regulation (SFDR) Level 1 last month, which asks asset managers to categorise their ESG funds according to its level of sustainability.
CSRD, and the EU’s ensuing standards, will help reduce the current ESG data gaps asset managers are struggling with when attempting to comply with SFDR.
“The proposed mandatory, assured and digitalised European sustainability reporting standards will be the primary source of input for asset managers’ disclosures under SFDR,” said Dominik Hatiar, Regulatory Policy Advisor at EFAMA.