The ABCs of Reporting ESG: Where to Start?

Environmental, social and governance (ESG) reporting is a hot topic these days, with much of the heat felt in boardrooms and C-suites across the country. Equity and debtholders, rating agencies, proxy advisors and organizations with initials such as TCFD, SASB/IIRC, CDP, GRI and CDSB are demanding more disclosure and more rigour around that disclosure.

For IROs new to the world of ESG, this alphabet soup of frameworks, guidelines, standards and taxonomies makes it difficult to know where to start in setting up a reporting system, particularly absent definitive rules from accounting authorities.

In this issue of IR focus, we look at the differences in disclosure frameworks and summarize advice from IROs who have tackled the ESG reporting maze to satisfy the informational demands of their investors.

The Basics

In 2010, the Canadian Securities Administrators issued CSA Staff Notice 51-333 Environmental Reporting Guidance to provide guidance for public companies on existing environmental disclosure requirements, including climate-related issues. Much has changed in sustainability reporting since. However, this staff notice (as augmented by CSA Staff Notice 51-358 Reporting of Climate Change-related Risks from August 2019[1]) is still required reading for IROs new to ESG. It explains materiality and current disclosure requirements for environmental matters found in National Instrument 51-102 Continuous Disclosure Obligations, National Instrument 58-101 Disclosure of Corporate Governance Practices and National Instrument 52-110 Audit Committees.

Key ESG Advocacy Groups

With that reading complete, the next step is to dig into the sustainability disclosure guidance given by organizations formed for the purpose of promoting their world views. We review the main ones here.

Task Force on Climate-related Financial Disclosures (TCFD) was created by the Financial Stability Board (FSB) to develop recommendations aimed at one aspect of the E in ESG: climate. TCFD guidelines do not cover other E topics (for example, water issues), but on climate, this is considered by many – including BlackRock’s Chairman and CEO Larry Fink – to be a gold standard for reporting. This is because of its concentrated focus and participation by a sponsorship group that includes more than two dozen international providers of capital, accounting firms and credit rating agencies.

For his part, Fink recently told global CEOs in his annual letter that since “Assessing sustainability risks requires that investors have access to consistent, high-quality, and material public information…last year, we asked all companies to report in alignment with the recommendations of the TCFD and the Sustainability Accounting Standards Board (SASB), which covers a broader set of material sustainability factors. We are greatly encouraged by the progress we have seen over the past year – a 363% increase in SASB disclosures and more than 1,700 organizations expressing support for the TCFD.” BlackRock itself is a user of TCFD-SASB-aligned reporting in the absence of a single worldwide standard.

In 2017, TCFD released climate-related financial disclosure recommendations including sector-specific supplemental guidance. These recommendations cover governance, strategy, risk management and metrics and targets, as follows.

Metrics:

• those used by your organization to assess climate-related risks and opportunities in line with your strategy and risk management process; and
• Scope 1, Scope 2 and, if appropriate, Scope 3 (i.e. air travel, upstream fossil fuel, electricity use and, for banks, financed emissions) greenhouse gas (GHG) emissions and related risks.

Governance:

• your Board’s oversight of climate-related risks and opportunities and your management team’s role in assessing and managing climate-related risks and opportunities.

Strategy:

• the climate-related risks and opportunities your organization has identified for the short, medium, and long term, taking into consideration the useful life of your organization’s assets or infrastructure;
• the process(es) used to determine which risks and opportunities could have a material financial impact on your organization; and
• your risks and opportunities by sector and/or geography, as relevant.

Risk Management:

• your organization’s processes for identifying and assessing climate-related risks and the process for managing climate-related risks; and
• how processes for identifying, assessing and managing climate-related risks are integrated into your organization’s overall risk management.

TCFD states that disclosures should present relevant information, be specific, complete, clear, balanced and understandable, comparable among companies within a sector, reliable, verifiable and objective, provided on a timely basis and in an ‘appropriate’ place. Appropriate means disclosures should be in mainstream annual public financial filings or other official company reports.

For an area that got very little attention a decade ago, climate-related reporting has shot to the forefront of ESG and as one IRO put it, “there will be no looking back as governments and investors push to establish comprehensive and transparent policy frameworks for reaching net zero (emissions) by 2050.”

For IROs wishing to better understand how to report using these guidelines and framework, a TCFD Knowledge Hub features useful resources to help you identify, analyze and report climate-related financial information.

The Sustainability Accounting Standards Board (SASB) was created in 2011 to develop sustainability accounting standards – not just guidelines or frameworks – that apply to ESG overall. The difference between standards and frameworks is described by SASB: “Frameworks provide principles-based guidance on how information is structured, how it is prepared, and what broad topics are covered…standards provide specific, detailed, and replicable requirements for what should be reported for each topic, including metrics. Standards make frameworks actionable, ensuring comparable, consistent, and reliable disclosure. Frameworks and standards are complementary and are designed to be used together.” The complementary nature of SASB and TCFD was cited by Fink, as noted above.

SASB is a thought leader on sustainability accounting, which it says includes identifying metrics that can be used to set targets and measure performance on the environmental, social and human capital issues most relevant to long-term enterprise value creation. In SASB’s view, sustainability accounting is like traditional financial accounting as it “not only enhances a company’s external disclosures but can also serve as a useful tool for management and Board decision making.” Another way to say this is you can’t manage what you don’t measure.

SASB thinks ‘in five buckets’ about sustainability risks and opportunities that companies face:

• Environment: direct impacts that are linked to your company’s ability to create value over time and are a result of activities that include natural resource extraction, land cultivation, product manufacturing and the use of energy and water, as well as greenhouse gas emissions, water consumption, waste generation and biodiversity loss.
• Social Capital: your company’s impact on external stakeholders including customers, local communities, regulators and the public, and the management of these stakeholder relationships in relation to human rights, protection of vulnerable groups, local economic development, affordability, customer privacy and responsible business marketing practices.
• Human Capital: issues that affect your company’s workforce such as management of health and safety, labour practices, organizational culture, workforce engagement, retention/recruitment and diversity/inclusion.
• Business Model and Innovation: the integration of environmental, human and social issues in your company’s value-creation process, including the design and innovation of products and services, and encompassing the impacts of products in the use phase and those stemming from product disposal.
• Leadership and Governance: involves the governance and management of key industry issues that may create conflicts with the interests of your company’s broader stakeholder groups, and may lead to liabilities or impacts on a license to operate, including compliance with industry laws, regulations, professional integrity and engagement with regulators on environmental, social and human impacts.

It is notable that SASB Standards do not address traditional corporate governance topics and metrics, such as Board composition, Board structure, shareholder rights, and executive compensation. This is the case for several reasons, including that governance requirements are “often determined by laws and norms that vary significantly across regions.” Additionally, SASB does not prescribe disclosure requirements. Instead, it expects your company to determine for itself which SASB Standards are relevant, which disclosure topics are financially material and which associated metrics to report.

That said, SASB is one of the key standard-setters in the world of ESG reporting. A good place to start in understanding its approach is to review the SASB Standard, which is different for each industry, the SASB Standards Application Guidance and the SASB Implementation Primer. Additionally, SASB provides a number of case studies and Q&As with reporting companies, which provide useful insights.

Global Reporting Initiative (GRI): Its mission is to enable organizations to be transparent and take responsibility for their impacts, enabled by what it calls “the world’s most widely used standards for sustainability reporting – the GRI Standards.” Those standards cover topics ranging from anti-corruption to water, tax to emissions and biodiversity to occupational health and safety. GRI includes requirements that must be followed for your company to claim that it prepared its report in accordance with GRI 101,102,103, 200, 300 and 400. There are too many GRI disclosure requirements to list in this article, but they range from the basic – such as organizational scope/scale – to the strategic, including approach to and frequency of stakeholder engagement by type and stakeholder group. GRI also requires disclosure of the processes that your organization followed to define the content of your sustainability report and identify material topics for inclusion. While GRI does not require the use of external parties to provide assurance for sustainability reports, it does note that is advisable to do so. If your report has been externally assured, GRI Disclosure 102-56 requires either a reference in your document to the external assurance opinion relied upon or a description of what was and what was not assured. You must also disclose any limitations of the assurance process, as well as the relationship between your organization and the assurance provider. This requirement has an obvious parallel with an independent auditor’s report for financial statements. Many IROs who use GRI find it be to be the most prescriptive and easiest to follow.

Climate Disclosure Standards Board (CDSB): Just to add to the alphabet soup that has become ESG reporting, the CDSB was founded at the World Economic Forum in 2007 by a consortium of business and environmental organizations. Its work was cited in the CSA’s Staff Notice 51-333 back in 2010. In many respects, CDSB’s framework is complementary to TCFD’s, except that CDSB believes “climate change reporting should not be separated from or given disproportionate attention compared with other areas of sustainability, such as water.” The CDSB also does not require Scope 3 emissions reporting and in general does not specify the indicators or metrics that companies should quantify and communicate. Instead, the CDSB Framework relies on measures developed by its Board members “and others such as CDP, GRI, WRI, WBCSD and SASB.” Accordingly, to fully appreciate the CDSB’s framework, it is necessary to dig into guidance provided by these other organizations. In addition to its work with the TCFD, the CDSB has collaborated with the Carbon Disclosure Project (see below) to develop a digital XBRL version of its Reporting Framework.

Carbon Disclosure Project: Founded 21 years ago, the CDP is an international non-profit organization that runs a global disclosure system based on standard company surveys conducted on behalf of 590 institutional investor signatories. Today, it claims to own the most comprehensive collection of self-reported environmental data in the world that includes both self-reported and estimated Scope 1, 2 and 3 emissions data for over 5,000 companies. It rates issuers in the hope of incentivizing participation.

Standards and Frameworks Converge

In September 2020, five of these leading framework and standard-setting organizations – CDP, CDSB, GRI, IIRC and SASB – announced a shared vision for a comprehensive corporate reporting system that includes both financial accounting and sustainability disclosure, connected via integrated reporting. The joint statement outlined how existing sustainability standards and frameworks can complement generally accepted financial accounting principles (financial GAAP).  At the end of last year, the so-called group of five published a prototype for a climate-related financial disclosure standard to show how its joint concepts can be applied to climate disclosure.

As another nod to the fact that the corporate sustainability disclosure landscape has become exceedingly complex, and to address calls for simplification, in June 2021 the SASB Standards Board merged with the International Integrated Reporting Council (IIRC) to form the Value Reporting Foundation.

IFRS and Sustainability Accounting

Where does IFRS stand on sustainability accounting? It established a task force in 2019 and in 2020 published a consultation paper to understand what the IFRS Foundation could do in response to demand for sustainability standards. The consultation paper posited that IFRS could do one of three things: i) maintain the status quo (i.e. not attempt to reduce complexity and improve comparability in reporting); ii) facilitate existing initiatives; iii) create a sustainability standards board and become a standard-setter itself. Alternative three is the approach recommended by the task force, with the objective of developing and maintaining a global set of sustainability reporting standards “initially focused on climate-related risks.” In terms of timing for the potential adoption of standards, the task force recommended a “gradualist” approach.

IFRS received strong support for its 2020 consultation and endorsements from both the Financial Stability Board and International Organization of Securities Commissions. Consequently, IFRS Foundation trustees have now proposed changes to the Foundation constitution, aspiring to create a new International Sustainability Standards Board (ISSB) in time for the United Nations Climate Change Conference (COP26) in Glasgow in late October. This is expected to be an important step toward achieving a globally consistent, comparable and reliable system for sustainability reporting.

Recommendations from IROs

Until the world adopts a single standard for sustainability reporting, the IROs we spoke to were consistent in their advice:

• Understand the differences in the reporting guidelines/recommendations from the main ESG advocacy groups.
• Compile and share a matrix of reporting standards with your C-suite and Board and keep it updated, as there is an ongoing evolution in this area.
• Pay close attention to the ESG reporting of your peers and benchmark your company against them regularly to ensure you are not being left behind in your disclosures.
• Select the guidelines that are most relevant for your organization, taking into account your ESG strategies and investor informational requests.
• Recognize that the more data (metrics and targets) you produce, and the more frameworks you apply in reporting, the more likely it is that rating agencies, passive investors – including ESG-themed ETFs and large responsible investing institutions – will grade your company highly on their investment screens.
• Monitor the IFRS Foundation’s future announcements on sustainability reporting as well as commentary from the large accounting firms on the topic.
• Don’t forget the S in ESG: educate yourself on the state of the art in social reporting and tools like the Bloomberg Gender-Equality Index Reporting Framework and note that at least in the U.S., social issues – which include topics such as worker pay and scrutiny of supply chains – garnered some 92 resolutions for this year’s proxy-voting season, according to Bloomberg Intelligence, while 43 resolutions were made for governance proposals and 30 for the environment as of April 15.

At the present time, ESG disclosure is cumbersome, and the plethora of reporting frameworks adds complexity that will not be ameliorated until a single global accounting standard is adopted. But on the other hand, it’s good to remember the words of Larry Fink, who says that “better sustainability disclosures are in companies’ as well as investors’ own interests…I urge companies to move quickly to issue them rather than waiting for regulators to impose them.”

Where To Get More Information