Navigating the Dimensions of Sustainability Reporting

What will IFRS and EFRAG proposals mean for sustainability and standards harmonisation?

Recent developments within sustainability reporting have raised investors’ hopes of progress towards more standardised ESG data, but some observers question whether the standards will help to address the underlying sustainability challenge.

The International Financial Reporting Standards (IFRS) Foundation intends to form a working group to accelerate convergence of global sustainability reporting standards focused on enterprise value.

Participants are the Task Force on Climate-related Financial Disclosures (TCFD), the Value Reporting Foundation (formed via the planned merger of IIRC and SASB), the Climate Disclosure Standards Board (CDSB), and the World Economic Forum. IOSCO, representing securities regulators, will be an observer.

The working group will provide recommendations to a yet-to-be-formed international sustainability board under the IFRS and develop standards which prioritise climate-related reporting. It will consider for its work an IFRS consultation paper on sustainability reporting and an already created prototype standard, which is based on the TCFD recommendations and existing initiatives.

EFRAG (the European Financial Reporting Advisory Group) is advancing plans for an EU sustainability reporting standard, while also exploring cooperation with international standards setters to promote convergence.

Its published recommendations indicate that the EU standard broadly aligns with the Global Reporting Initiative (GRI) framework and intentions to co-construct the new European standards have been announced, a GRI press release said.

Yet, despite the increasing attention, some experts fear that the efforts could end up yielding little to no progress.

Short-term versus long-term approach

Carol Adams, Professor of Accounting in the Business School at Durham University, even believes that the IFRS approach could work against sustainable development.

Adams, an internationally recognised researcher in corporate sustainability accounting and reporting, tells ESG Investor: “I believe it will do more harm than good, because the IFRS approach is putting less emphasis on sustainable development by pushing enterprise value.”

She says that the approach suggested by the IFRS only considers what is material information for shareholders in the short term, not how the company can impact stakeholders and the environment in the long term.

“It’s very easy for [companies] to fall back on thinking about short-term profit. If you want to transform that thinking, you have to prioritise something that’s completely different. You have to prioritise sustainable development,” Adams says.

As an example, she points to investments in high-risk projects, which – based on a narrow shareholder-focused instead of a broad multi-stakeholder approach – can cause a backlash on a firm’s long-term financial returns, in case of unforeseen circumstances.

The IFRS wrote in its consultation paper that it recommends a gradualist approach, as beginning with a double-materiality approach “would substantially increase the complexity of the task and could potentially impact or delay the adoption of the standards”.

EFRAG’s approach, however, features characteristics of the GRI standard: it applies a stakeholder approach, uses a double materiality concept and requires the use of science-based targets, wherever feasible.

Whereas EFRAG has a wider sustainability view across environmental, social and governance issues, the IFRS has a climate-first approach.

Given the fact that IFRS has only just begun to grapple with the subject, Tjeerd Krumpelman, Head of Advisory, Reporting and Engagement within ABN AMRO’s Group Sustainability team, explains that he is less concerned.

“[The IFRS and EFRAG] are both saying they want to build on existing frameworks. They are both looking for more convergence in the future,” he explains.

This intention to converge comes shortly after the five main standard setters – CDP, CDSB, GRI, IIRC and SASB – announced plans for a unified approach last year. Facilitated by the Impact Management Project (IMP), the World Economic Forum and Deloitte, they created the prototype on climate-related financial disclosure standard, which IFRS plans to refer to in its work.

EFRAG’s proposal report clarifies that it seeks to harmonise within the EU sustainability reporting landscape and converge and partner with international initiatives. However, this “should not slow down the momentum achieved in the EU”, EFRAG writes.

Adams fears that the GRI’s impact-based multi-stakeholder approach will diminish among the enterprise value focused standards.

In its IFRS consultation feedback, the GRI explained its approach: “Sustainability reporting is an organisation’s practice of reporting publicly on its most significant economic, environmental and social impacts, and hence its contributions – positive or negative – toward the goal of sustainable development.

“Sustainability reporting has a key role to play in the context of the global drive toward achievement of ambitious sustainability-related goals – to make the impacts of organisations’ activities on the economy, environment and people transparent, and to enable dialogue and informed decision-making, thereby facilitating a just transition.”

Bastian Buck, GRI’s Chief of Standards, sees benefits in the initial approaches of both EFRAG and IFRS.

“I don’t think we will be looking at an either/or scenario, when it comes to how companies adopt these reporting requirements or whether investors will make use of the data,” he explains.

“Investors looking to understand long-term opportunities and risks will need transparent disclosures both of the impact on the world as well as the impact of sustainability issues on the financial health of a company,” Buck says.

Putting economies on a sustainable path

As different sustainability reporting frameworks address different audiences, and cover different scopes of information, with a shorter or longer time horizon, they also support different visions of future economic systems.

“The search for sustainable development becomes the search for an adequate mode of civilisation in the 21st century,” according to Paul Ruskin, who is the is the founding president of the not-for-profit research and policy organisation Tellus Institute and co-founder of The Great Transition Initiative, a forum that aims to contribute to a new praxis for a global sustainable transformation.

Ruskin believes that humanity can develop on three global scenario pathways: evolution, i.e. advancing in incremental steps, degeneration, i.e. descending into catastrophes, or transformation.

The latter is powered by a strong civil society movement and could introduce a more sustainable form of civilisation than today’s.

He writes that advocates of a transformational strategy seek “deeper cultural shifts, a new sustainability paradigm to drive and guide development”. They fear that the mainstream approach “will be unable to overcome powerful countervailing forces: the growth imperative of conventional development, the resistance of vested interests, and a spreading consumerist culture”, he notes.

Ralph Thurm laments that the standard setters are not developing their approach by back-casting from an ideal state of sustainability.

Thurm is the Managing Director of Redesign, Resilience and Regeneration platform r3.0 and Founder of management advisory firm A|HEAD|ahead.

“[The standard setters] don’t even know what such an ideal would be and how it looks. Sustainability, by definition, is focused on prosperity and wellbeing of all humans, and needs to take into account multi-generational perspectives,” he says.

In his view, neither of the standards setters is taking a sufficient long-term approach to sustainable development.

He argues, “both concepts [EFRAG and IFRS] deny the fact that sustainability is all about a different economic system design and only aim to sub-optimise an existing unsustainable economic system status quo”.

“They continue forecasting what is practically possible and politically opportune, and thereby neglecting the changes sorely needed,” he believes.

Thurm emphasizes the importance of system change along with sustainability reporting, as “there is no sustainable business in an unsustainable economic system design, where the incentive structures benefit unsustainable behaviour”.

EFRAG’s objective with its recommendations is to describe the scope and structure of future sustainability reporting standards that contribute to the achievement of the EU’s policy objectives.

In Thurm’s view, which is steps ahead of other experts, any sustainability framework needs to integrate a ‘sustainability context’, as the GRI has defined it.

“Measurement of ESG performance needs to be compared to so-called thresholds and allocation, whereby thresholds are defined by the carrying capacities (environmental ceilings and social floors) and allocations demand a fair share approach of still available resources,” he says.

Toward a holistic view

Going forward, ABN AMRO’s Krumpelman believes that the biggest challenge will be integrated sustainability.

“Having a holistic view on sustainability is really challenging. It’s difficult for companies, but it’s also difficult for standard setters,” he notes.

Still, he believes that sustainability reporting will develop to become more holistic and include value creation and impact.

“That is all, in my view, going to be part of the normal disclosures of companies. I am also optimistic that we will see some sort of convergence of the frameworks,” Krumpelman says.

Adams however sees the danger that the EFRAG and IFRS standards could instead lead to even more fragmentation, worsening the problem of non-standardised data when large companies attempt to apply both.

“You have now a bigger problem in terms of harmonisation,” she says.

The practical information hub for asset owners looking to invest successfully and sustainably for the long term. As best practice evolves, we will share the news, insights and data to guide asset owners on their individual journey to ESG integration.

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