Commentary on Developments concerning Integrated Reporting

For Realization of Sustainable Improvement of Corporate Value

Integrated reporting is an activity that contributes to finding and solving issues in realizing sustainable improvement of corporate value. Its reporting framework is broader than existing reporting frameworks (for annual reports, CSR reports, etc.). In order to holistically explain the mechanism of value creation over time, the process of integrated reporting is required, not the process of classified reporting from the perspective of financial information/non-financial information, or past/present/future. Integrated reporting is also a simple means of communication created through that process.

Benefits of taking steps toward adopting integrated reporting

Currently, integrated reporting is not mandatory in almost all countries including Japan. Despite its voluntary nature, why are an increasing number of companies are trying to prepare integrated reports even in such countries?

  Perhaps they see the benefit of integrated reporting as a way to fulfill the information needs of and promote dialogue with investors, which is the reason why integrated reporting has been called for. And they are increasingly aware that the benefits are not limited to such external consequences. They are coming to recognize, through specific case examples presented by companies participating in the pilot program (to be discussed later), that the process of integrated reporting has a positive impact on business management by helping companies to enhance their ability to create value and achieve greater sustainability.

  In order to explain the process of value creation, companies need to have a clear understanding of their philosophy and purposes of their business, interactions with the external environment, risks and opportunities, business models, strategies, and various forms of capital used in business activities, including how they relate each other. The process of integrated reporting enables companies to deepen the understanding of their own business activities and see their advantages and disadvantages in a new  light, and may trigger changes in the resource allocation.

  The following effects on external relationships with investors and internal relationships within an organization are cited by the International Integrated Reporting Council (IIRC) as benefits of integrated reporting.


Benefits for business

●Enabling companies to articulate, with greater clarity, their business strategies and the resilience of their business models to changes in market expectations and requirements
●Enabling them to improve their dialogue with the providers of financial capital
●Helping them create a mechanism for cross-collaboration among different divisions that are components of a vertically structured organization
●Leading to smoother internal operations
●Enabling them to reduce the cost of capital


Benefits for investors

●Enabling investors to assess the compound effect of various factors on the reporting company more efficiently by providing a clearer picture of how the strategies, governance, performance, and vision of the company are linked with each other


Integrated reporting from a strategic standpoint

●Enabling investors to assess the short-, medium-, and long-term effects of risks and opportunities that are considered material by the managers of the reporting company
●Enabling more efficient capital allocation to deliver better returns on investment over time


  As shown above, the IIRC points to benefits not only for companies and other organizations as preparers of integrated reports but also for investors as readers of the reports. Let’s focus on this aspect.

  The primary purpose of integrated reporting is to explain the process of value creation over time to the providers of financial capital such as investors. In other words, it is to articulate how companies will conduct business based on the thorough understanding of the business environment and its impact. The IIRC’s <IR> framework cites six forms of capital as inputs into business activities. The concept of capital referred to here—which comprises financial, manufacture, intellectual, human, social and relationship, and natural capital—is much broader in scope than that of capital in traditional financial reporting. However, integrated reporting is not meant to require companies to report on philanthropic activities centering on contributions to the society and the natural environment.

An overview of feedback from companies participating in the IIRC pilot program

  What are the views of those companies engaged in the development of integrated reporting?

  In developing integrated reporting, the IIRC is encouraging companies to participate in its pilot program. Feedback from participants will be reflected in the development of a framework that will serve as the basis for integrated reporting.

  Launched in October 2011, the pilot program is composed of the business network and the investor network. Initial participants included more than 70 companies representing diverse business sectors from 23 countries as well as 25 institutional investors. As of today, more than 100 companies and 36 institutional and other investors from 25 countries are participating in the program (see Figure 1). Approximately half of the participating companies are from Europe, whereas the number of participants from North America is small relative to the size of its economy. By sector, the financial, energy, service sectors have a large number of participants.

  Feedback from those participating companies is introduced in the IIRC’s yearbook on the pilot program along with various case studies. Among the feedback from reporting companies are positive comments concerning the benefits of integrated reporting as perceived by the IIRC, such as a favorable investor response received to the issuance of an integrated report and the recognition of previously overlooked synergy through the process of preparing an integrated report. Meanwhile, feedback from the investor community includes remarks commending integrated reports for surpassing typical corporate reports by providing a more holistic view of performance, risks, strategies, and business models. Investors also expressed their expectations from integrated reporting, for instance, calling for the greater connectivity of information crucial to investment decisions. Readers are advised to refer to the yearbook for further details.

Movement toward institutionalization (1)

  Although integrated reporting has been mandatory for listed companies on the Johannesburg Stock Exchange in South Africa since 2010, little progress has been made in other countries toward the institutionalization of integrated reporting. However, this does not mean that those other countries are negative to the idea of adopting integrated reporting. Rather, their requests for the disclosure of non-financial information and progress toward the institutionalization of such disclosure will likely lead to integrated reporting.

  In the European Union (EU), continuous efforts have been made at the European Commission to modernize its company law directives. In the 2003 amendments, provisions requiring the disclosure of information on environmental performance and employee-related issues were included, while the 2006 amendments introduced a provision requiring the inclusion of a corporate governance statement in annual reports. Furthermore, proposed amendments announced in 2013 call for the disclosure by large companies (with more than 500 employees) of information—including policies, risks, and outcomes—concerning environmental and social issues, employees, and matters relating to human rights, corruption and bribery, and board diversity. With respect to board diversity, publicly listed companies would be required to disclose board composition by age, gender, region of origin, educational background, area of expertise, and so forth as specified in the proposed amendments.

  Meanwhile, in the United Kingdom, the Companies Act 2006 made it mandatory to provide a Business Review within the Director’s Report. The UK Companies Act 2006 was the result of the transposition of the EU Accounts Modernization Directive (2003 amendments). The 2013 amendments to the law replaced the Business Report with a Strategic Report, in which companies are required to include information on their strategies, business models, responses to human rights and community issues, employee (gender) diversity initiatives in addition to the information contained in the Business Review.

  In the United States, the disclosure of information on conflict minerals became a requirement in 2012 as stipulated under the Dodd-Frank Wall Street Reform and Consumer Protection Act. In December 2013, the U.S. Securities and Exchange Commission (SEC) submitted to the Congress its staff report, Report on Review of Disclosure Requirements in Regulation S-K, for consideration to determine requirements for non-financial information disclosure by emerging companies. Meanwhile, as a move involving the private sector, the Sustainability Accounting Standards Board (SASB), a non-profit private sector organization in the United States, concluded a memorandum of understanding (MoU) with the IIRC in January 2014 to enhance cooperation, coordination, and collaboration with each other’s activities. The SASB has been working, inter alia, on the development of industry-specific key performance indicators (KPIs) for the purpose of setting standards for the disclosure of sustainability information in financial statements filed with the SEC.

  Among international organizations, the International Accounting Standards Board (IASB) entered into a memorandum of understanding with the IIRC in February 2013, pledging to strengthen mutual cooperation in developing a framework for integrated reporting.

  Against the backdrop of those regulatory developments in other countries to include non-financial information as subject to information disclosure requirements for companies, discussions are now underway in Japan as to how to enhance the disclosure of non-financial information. In July 2012, the Ministry of Economy, Trade and Industry established the Corporate Reporting Lab as a forum for dialogue between companies and investors to discuss ways to improve corporate value as well as to consider, examine, and propose ways of non-financial information disclosure.

Movement toward institutionalization (2)

  At the moment, there are some guidelines for non-financial information disclosure but most of them call for such disclosure on a voluntary basis.

  The IIRC’s stance on the institutionalization of integrated reporting is that each country should decide for itself in accordance with its own circumstances and it is not necessarily appropriate to make a rush to turn it into an institutionalized system. Also, the prevailing view in Japan favors the voluntary application of integrated reporting.

  Against this backdrop, Professor Takeshi Mizuguchi of the Takasaki City University of Economics has been calling for the institutionalization of integrated reporting. “If the reason why disclosure by means of filing annual securities reports is required by law is to protect investors by providing them with information that would help them make appropriate investment decisions, integrated reporting would be incorporated into the institutionalized system of disclosure,” he says. Indeed, information is the basis for investment decisions and companies’ securities reports are an instrument for providing information relevant to investors. As the contents required to be included in securities reports are provided for by the Cabinet Office Ordinance on Disclosure of Corporate Affairs, etc. (hereinafter referred to as the “disclosure ordinance”) under the jurisdiction of the Financial Services Agency, Professor Mizuguchi is suggesting that the disclosure ordinance should be amended to include information relating environmental and social matters as subject to disclosure in securities reports.

  Underlying this proposal are the following assumptions: “value” as in the process of value creation refers to the accumulation of all forms of capital which includes not only financial capital but also natural capital, and social and relationship capital; not only an increase in owned capital but also an increase in natural capital and social and relationship capital are defined as value; and the common property of society is also value to companies. Based on those assumptions, Professor Mizuguchi believes that the disclosure ordinance should be amended so that the existing disclosure requirements for securities reports can be utilized as a tool to instill the behavioral principle of incorporating the perspectives of value creation for society as a whole into investment decisions. And by doing so in such a way that managers’ commitment would have to be included as part of non-financial information, Japan will be able to bring itself closer to integrated reporting.

  Considering the role of regulatory disclosure requirements, Professor Mizuguchi’s argument pointing to the need to ensure the disclosure of certain information by means of law or regulations is convincing. This is because if the purpose of disclosure requirements for securities reports is to protect investors with the entire set of information in such reports—ranging from corporate information to financial statements and explanatory notes—fulfilling the objective of financial reporting, it will be possible for investors to make investment decisions from the perspective of future value creation by looking at relationships not only between financial information and value creation but also between non-financial information and value creation. On the other hand, the voluntary approach would enable companies to disclose non-financial information in a way to convey their unique characteristics. And this could provide an opportunity to differentiate themselves from competitors. As such, there is no denying that companies will see a greater incentive to prepare integrated reports under this approach.

  Then, the question is to what extent the disclosure of non-financial information should be institutionalized, i.e., whether to treat either of financial or non-financial information as the centerpiece in designing regulatory requirements. In this regard, it is considered both practical and efficient to design a regulatory system centering on financial information, in view of the fact that the importance of integrated reporting and non-financial information is not sufficiently understood by Japanese managers and the difficulty of recognizing each form of capital in a clear-cut manner. Japan should seek to enhance the disclosure of non-financial information gradually and according to the order of importance with an eye on global trends. And it is hoped that a common understanding of value creation will emerge through the accumulation of practical experience eventually leading to the creation of a mechanism under which efficient investment decisions can be made for society as a whole.

Background to integrated reporting

How does the disclosure of non-financial information relate to integrated reporting?

  Let’s take a look at the background of the IIRC that has developed the <IR> framework. The establishment of the IIRC was decided in September 2009 at a meeting jointly convened by the Prince’s Accounting for Sustainability Project (A4S) and the Global Reporting Initiative (GRI). The meeting was attended not only by reporting companies and investors but also by accountants’ associations, accounting standards setters, United Nations (UN) agencies, and so forth.

   A4S is a project launched by HRH the Prince of Wales in 2004 for the sustainable development of economy. It is seeking to demonstrate a case example of how a company or organization can integrated the impact of its behavior on the environment, society, and economy into its decision making, accounting, and reporting. It is also working on the development of systems, practical guidance, and tools for addressing challenges arising in the process. The GRI, which has its roots in U.S. non-profit organizations, has been acting as a formal collaborating organization of the United Nations Environmental Program (UNEP) since 2002. As a forerunner in the field of sustainability, the GRI has promoted the development and improvement of a framework for sustainability and contributed to its practical application in countries across the world.

  A4S and the GRI convened the aforementioned meeting in order to discuss the need to integrate financial information and sustainability information (or non-financial information and statements on environmental, social, and governance aspects). Supposedly, a major factor behind this was the growing concern over the situation at the time, i.e., while an increasing amount of information was being disclosed, critical pieces of information were often buried in the mountains of information. The aforementioned amendments to the UK Companies Act and the modernization of EU company law directives resulted in a significant increase in the amount and scope of non-financial information subject to disclosure. It is against this backdrop that A4S and the GRI agreed to establish the IIRC as an organization undertaking the developer of a framework for integrated reporting and supervising its implementation.

Development of an International Integrated Reporting Framework

  The IIRC (International Integrated Reporting Committee; later renamed the International Integrated Reporting Council) was founded in August 2010. The IIRC Council consists of about 40 members representing reporting companies, investors, securities regulators, accounting standards setters, accountants’ associations, non-governmental organizations (NGOs), and so forth. As a forum for senior representatives of the IIRC’s member organizations, the IIRC Council is responsible for advising on the IIRC’s mission, role, and practices. From Japan, Atsushi Saito, Director, Representative Executive Officer and Group CEO of Japan Exchange Group, Inc., is serving as a member of the IIRC Council. Meanwhile, an executive board member and a researcher of the Japanese Institute of Certified Public Accountants (JICPA) are serving respectively as a Working Group member and a Technical Task Force member at the IIRC.

  Following its inception in 2010, the IIRC published a landmark discussion paper in September 2011, putting forward the first set of proposals toward the development of a framework for integrated reporting. This was followed by the release of the prototype framework in November 2012 and the consultation draft in April 2013, before finally announcing the International <IR> Framework in December 2013.

  From now on, the IIRC will be shifting from activities centered on framework development to those focused more on communicating to countries and companies across the world to promote the adoption of the framework.

  As noted by IIRC Chief Executive Officer Paul Druckman in a report issued by Deloitte (Netherlands), further and more in-depth discussions will be needed on the framework. Indeed, the purpose of the pilot program is to present a new, upgraded framework for integrated reporting, which is the reason why the program period has been extended to three years running into 2014 so that the IIRC can review the existing framework for possible further improvement based on the actual experience of participating companies with applying the framework.

  It is hoped that the International <IR> Framework will be improved further by incorporating feedback from practical experience and evolve into one that is more easily applicable to companies.
  So far, integrated reporting has been institutionalized only in a very limited part of the world. However, a number of renowned companies from around the world are participating in the IIRC pilot program to work on the preparation of integrated reports. In the process, they are realizing that integrated reporting is more than just another form of reporting and that effects arising from the process of integrated reporting have a positive impact on the execution of business. Going forward, more companies will be joining the integrated reporting initiative. They can start doing so either by focusing on the process of integrated reporting or concentrate on the preparation of integrated reports. Whichever approach they choose, their efforts will bring a significant benefit to their organizations.

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