1. Multiple ESG frameworks
The Global Reporting Initiative, the EU Taxonomy, the Sustainability Accounting Standards Board, the Task Force on Climate-related Disclosures — oh my! While no single, global standard for ESG reporting exists, there sure are a lot of regional or industry-specific standards to choose from.
We give a brief overview of some of the most notable ESG standards in our recent post, The ABCs of ESGs. The long and short of it is, to meet investor demand, adequately showcase your organization’s sustainability in a comparable way, and meet the criteria for ESG credit scoring, your organization will have to choose one or more frameworks to adhere too.
According to a recent study by Financial Executives International, the mix bag of competing standards and frameworks is a big challenge for organizations because 85% of companies are using, not one, but multiple ESG reporting frameworks.
ESG reporting might pander to investors instead of regulators now, but these regulations won’t be loosie goosy forever. In fact, the tide is already turning.
2. Evolving ESG regulations
The EU has instituted more stringent regulations in recent years — and the changes keep a comin’.
As of March 2021, the new Sustainable Finance Disclosure Regulation (SFDR) came into effect, requiring Financial Market Participants to disclose 18 mandatory indicators and another two of 46 optional indicators.
The Non-Financial Reporting Directive (NFRD) (a standard that lays down the disclosure rules for non-financial and diversity information by large companies) is also scheduled for an overhaul. An updated, strengthened version of the NFDR’s basic disclosure requirement, known as the New Corporate Sustainability Reporting Directive (CSRD) is set to launch in 2022
With these EU regulations leading the charge, standards setters are beginning to succumb to the pressures from investors, regulators, and organizations eager to harmonize competing frameworks. In the last year, we’ve seen two big moves occur.
First, in June of 2021, the Sustainability Accounting Standards Board and International Integrated Reporting Council joined forces to form the Value Reporting Foundation. Their plan is to work with other standards groups like Global Reporting Initiative (GRI), the Carbon Disclosure Project (CDP), and the Climate Disclosure Standards Board (CDSB) to get everyone on the same page.
Then, in November 2021, the International Financial Reporting Standards Foundation announced its plans to set up an International Sustainability Standards Board, which would deliver comprehensive global sustainability-related disclosure standards. The goal would be to provide investors and market stakeholders with information about sustainability-related risks to inform their decision making.
If this is any indication of the coming future of ESG reporting, two things are certain: standards are quickly changing and organizations will have to have their work cut out for them when it comes to data management and transforming that data into meaningful disclosures. Speaking of data …
3. Complex ESG data management
Data management is going to be one of the biggest, if not the biggest, challenges companies will face when creating ESG disclosures. For example, the SFDR requires public EU companies to disclose nine mandatory environment-related indicators and six mandatory social indicators (covering employee, human rights, anti-corruption and anti-bribery topics.) These organizations must also report on at least one of 22 optional environmental indicators and one of 24 optional social indicators.
This is just the infancy of ESG regulation and it’s already mired in complexity.
To meet regulatory requirements or even just to adhere to voluntary frameworks, many organizations are starting to get their data ducks in a row. A study by global business consulting firm, Privoti found that 68% of financial executives surveyed said that measuring and reporting ESG risks and issues has become part of their finance team’s role within the last year. Another 75% said senior leaders and boards are developing ESG metrics for progress tracking.
And yet, ESG reporting is already posing challenges to companies because sustainability is inherently hard to quantify. Since ESG data is often divided in siloes across the business or manually logged in spreadsheets, a global, integrated picture of ESG gains and impacts is hard to paint. In addition, the connection between ESG results and financial performance isn’t often well understood because businesses have no clear way to see how sustainable activities impacted the bottom line. Without a centralized source of financial and sustainability data, it’s impossible to draw a through line between ESG action and financial outcome.
4. Understanding, managing, and quantifying ESG risks
Sustainability is so broad and covers so many facets — sustainable production, supply chain equity, responsible HR, data governance, governance, to name a few. But you don’t know what you don’t know.
Barbara Porco, director for the Center of Professional Accounting Practices at Fordham Business School, said it best: “All elements of ESG reporting are really based on proper risk management. You cannot manage your risk if you don't know what your risk is. It's the risks that you don't know about that will be the problem, and you cannot do that without a data-driven and tech-enabled risk management approach.”
ESG risks are especially challenging to monitor because many aren’t quantifiable. They can’t be defined in terms of dollars and cents. And in fact, the most impactful sustainability initiatives might in themselves pose a risk to an enterprise because they may negatively impact the bottom line in the short term. Sustainability can be expensive.
Deloitte reminds us that, “ESG impact can be wide-ranging, for example:
- Regulation can affect costs or require capital expenditure, or lead to impairment or stranded assets
- Moving to new sustainable solutions may require increased capital expenditure
- Crises or failures in production or supply chains, including natural disasters, can increase costs and undermine supply and demand
- Failings identified in governance, performance or culture can lead to:
-Lost revenue
-Exposure to litigation or regulatory fines
-Damage to reputation
-Loss of a company’s social license to operate
Even though organizations have discussions about ESG risk, not all have formally identified KPIs and come up with systems to monitor them. Implementing an enterprise risk management strategy that monitors ESG risks specific to the organization is critical for, not only ESG reporting, but sustainability planning. And it goes without saying, the more impactful and comprehensive your sustainability planning, the more effective your ESG reports will be in attracting investors.
5. Using ESG performance to improve ESG plans
ESG performance is useful beyond attracting investors or improving an ESG score. With the right data management tools, you can use ESG data to improve the impact and outcomes of ESG plans and activities. The key words here: with the right data management tools.
As we already mentioned, for many organizations, ESG data is walled in department or LoB siloes, which makes the line of impact from ESG activity to financial outcome hard to draw.
Without ESG data existing in the same software as budgeting, planning, close and consolidation data, you won’t be to play out scenarios to see an ESG activity’s potential impact on the balance sheet, P&L or cash flow to better refine the strategy. In other words, without tethering ESG reporting to ESG planning, you’re essentially going by gut.
You can have positive ESG performance, while identifying ways to reduce your costs. You can wow investors with ESG activities, while improving revenue and being profit-minded. You can have your cake and eat it too. You just need a platform that centralizes all corporate financial and non-financial data, including ESG data, and allows you to integrate your ESG strategy into all your financial processes, including budgeting, planning, close, reporting and disclosure. Then, by using tools like, scenario planning and what-if analysis, you can see the ripple effect of ESG decisions on financial performance, and use that insight to improve financial results.
Closing thoughts
ESG reporting is seems challenging because it’s new, elusive, impacts every financial process, and because the stakes, for the sustainability motivated investor, are very high.
But really, it’s no different than, say, sales and marketing data. How can you quantify the impact of word of mouth, after all? Both marketing and ESG impacts can be elusive, yet they have an incredible influence on the bottom line. The key is including ESG data into your corporate performance management platform so that:
- You can be agile in the face of new and changing regulations
- You can automate disclosure requirements
- You can control, validate and report accurate ESG data
- You can monitor and measure ESG KPIs
- You can see the impact of ESG activities on other financial and operational plans, and use those insights to improve ESG planning
Learn how CCH Tagetik can help you streamline your ESG reporting while improving your ESG plans.
